The limitation on companies setting off any assessed losses against taxable income is about to hit home. Companies that are making a loss will have to find the cash to pay tax on 20% of their income.
Corporate taxpayers that have not yet considered the potential impact of the new legislation on their upcoming provisional tax payments have little time to do so, professional services firm PwC warns in its August Tax Alert.
If a company’s taxable income is R1 million or less, there is no restriction on the set-off of the assessed loss balance carried forward from the prior year, against the current year’s taxable income.
However, if a company’s taxable income exceeds R1m in respect of the year of assessment, the assessed loss balance carried forward that may be set off against that year’s taxable income is the lesser of:
- The actual assessed loss balance carried forward to that year; or
- The greater of 80% of the current year’s taxable income and R1m.
The introduction of the limitation in the Income Tax Act was delayed by one year following the negative impact of the lockdown and the devastation to the economy and businesses caused by the unrest in KwaZulu-Natal and Gauteng.
Provisional tax payments
Corporate taxpayers whose years of assessment start on or after 1 April 2022 will have to consider the limitation when making provisional tax payments at the end of September this year.
“Accordingly, companies should consider the potential cash-flow implications of the limitation on the utilisation of the assess loss balance, as a company may now have a provisional tax liability, whereas previously this may not have been the case,” PwC’s tax experts said.
“In addition, it will be important to apply the provision correctly when performing the provisional tax calculation, to avoid the potential imposition of any underestimation penalty that may be levied by Sars,” they added.
Chris Smith, tax director at BDO, said companies will have to find the cash to pay tax, because the losses they incurred are real.
“Some companies will be forced to borrow money in order to pay tax. This is a cash-flow matter for companies and an added burden,” he said.
The table below, from PwC’s Tax Alert, illustrates the income tax consequences of the application of the assessed loss limitation.
Reason for the change
National Treasury says the purpose of the deductibility of assessed losses has been to “smooth the tax burden” for companies whose primary business is cyclical in nature and not in line with a standard tax year, and for start-up companies that are not profitable in the early years of trading.
“Even so, there has been a global trend to restrict the use of assessed losses carried forward. In 2015, out of a group of 34 OECD (Organisation for Economic Co-operation and Development) and non-OECD countries, 16 countries limit carry-forward periods to between three and 20 years, while eight countries limit the amount of tax losses that can be offset in any given year,” Treasury said in its memorandum explaining the reason for the change.
Treasury also argues that the change will be mitigated by a cut in the corporate income tax rate from 28% to 27%.
Domestic impact
Smith said the rate cut would have made a difference if the company was in a taxpaying position and there were no assessed losses. “To me, it [the rate cut] is more psychological than real.”
Smaller companies are battling to recover from the impact of the lockdown and the July riots. They are the ones that will be hurt most.
“It is not so easy to recover on sales, stock levels and to get profits up again. They will have incurred carry-forward losses from previous years,” Smith said.
The decision to limit the set-off against taxable income is at odds with government policy to support small businesses, he notes.
Treasury has also argued that the cut in the corporate tax rate will attract investment. Smith is not convinced.
“It is debatable whether a cut in the tax rate will result in more investment while the domestic effect is a cash burden on companies across the board,” Smith said.
This will affect start-ups and new projects, such as the construction of renewable energy plants, which may take a minimum of 18 months to build and three to four years before they start generating taxable profits.
In most instances, these projects are funded by debt. “Imagine these mega-projects which are no longer allowed to fully carry forward their assessed losses. It is going to take longer to get to a point where they can get rid of their assessed losses.”
This may result in more borrowing in order to pay tax. Investors will have to wait longer for a return on their investments, Smith said. This is not a very attractive prospect for any investor.
Amanda Visser is a freelance journalist who specialises in tax and has written about trade law, competition law and regulatory issues.
Disclaimer: The information in this article does not constitute legal or financial advice.
