New SARS ruling pertaining to restructuring of property portfolio under corporate rules

Introduction
Facts
Decision

Introduction

On April 11 2017 the South African Revenue Service (SARS) issued Binding Private Ruling (BPR) 270 setting out the tax consequences for the restructuring of a long-term insurer's unlisted property portfolio under Section 42 of the Income Tax Act (58/1962).

In BPR 270 SARS considered the application of the following sections of the Income Tax Act to the facts in question:

• Section 25BB(4) – the taxation of real estate investment trusts (REITs);
• Section 29A – the taxation of long-term insurers;
• Section 40CA – the acquisition of assets in exchange for shares or debts issued; and
• Section 42 – asset-for-share transactions.

SARS further ruled on the application of Paragraph 20(1)(a) of the Eighth Schedule to the Income Tax Act (the base cost of assets) and Section 9(1)(l)(i) (exemptions from transfer duty) of the Transfer Duty Act (40/1949) to the facts of the case.

Facts

The parties to the transaction were as follows:

• The applicant was a listed company incorporated and resident in South Africa. It carried on business as a long-term insurer.
• The first co-applicant was a company incorporated and resident in South Africa and 100% owned by the applicant.
• The second co-applicant was a corporate REIT to be listed on the Main Board of the Johannesburg Stock Exchange.

The applicant held unlisted prime real estate with the objective of delivering long-term returns and matching policyholder liabilities. It owned a 100% undivided interest in some of the properties and less than 100% in the others. The first co-applicant owned a 25% undivided interest in a property described as Property X.

The applicant's funds established and maintained in accordance with Section 29A of the Income Tax Act and exposed to the property portfolio were:

• the untaxed policyholder fund;
• the individual policyholder fund;
• the risk policy fund; and
• the company policyholder fund.

The applicant and the first co-applicant proposed to transfer a portion of their undivided interests in the property portfolio and Property X, respectively, to the second co-applicant. The proposed transaction steps were as follows:

• The applicant would dispose of a portion of its undivided interest in the property portfolio, which included associated letting enterprises, to the second co-applicant in exchange for units in the second co-applicant (the REIT).
• As the applicant and the second co-applicant would become co-owners of the property portfolio, they would – in instances where they owned a 100% undivided interest in properties – create a separate unincorporated joint venture for purposes of conducting the letting enterprises of the property portfolio.
• The first co-applicant would dispose of a portion of its undivided interest in Property X, including the associated letting enterprise, to the second co-applicant in exchange for units in the second co-applicant.
• As the second co-applicant would become a co-owner of Property X, the second co-applicant would be integrated into the pre-existing unincorporated joint venture for purposes of conducting the letting enterprise of Property X.
• The units in the second co-applicant would be proportionally allocated by the applicant to the relevant funds in accordance with Section 29A of the Income Tax Act.

The first co-applicant had not claimed any of the allowances referred to in Section 25BB(4) of the Income Tax Act before the proposed transfer of a portion of its undivided interest in Property X to the second co-applicant.

Decision

SARS issued the following ruling in connection with the proposed transaction:

• The disposal of the portion of the undivided interest in the property portfolio (including the rights attaching to the property portfolio and the letting enterprises) by the applicant to the second co-applicant would qualify as an 'asset-for-share transaction' as defined in Section 42(1)(a) of the Income Tax Act. However, Section 42 would not apply insofar as it concerned the untaxed policyholder fund.
• Insofar as the disposal of the portion of the undivided interest in the property portfolio concerned the untaxed policyholder fund, the second co-applicant would obtain a base cost for the relevant portion of the undivided interest in the property portfolio (including the relevant portion of the rights attaching to the property portfolio and the letting enterprises) equal to the market value of the second co-applicant's units issued to the applicant immediately after acquiring the portion of the undivided interest in the property portfolio.
• Insofar as the disposal of the portion of the undivided interest in the property portfolio concerned the untaxed policyholder fund, the applicant would obtain a base cost for the units acquired in the second co-applicant equal to the market value of the relevant portion of the undivided interest in the property portfolio disposed of (including the relevant portion of the rights attaching to the property portfolio and the letting enterprises).
• The second co-applicant would not be liable for transfer duty as Section 9(1)(l)(i) of the Transfer Duty Act (which exempts from transfer duty a company acquiring property in terms of an asset-for-share transaction in terms of Section 42 of the Income Tax Act) would apply to the acquisition of the portion of the undivided interest of the applicant in the property portfolio. However, the public officer of the second co-applicant would have to make a sworn affidavit or solemn affirmation confirming that the transaction complied with the section.
• The disposal of the portion of the undivided interest in Property X (including the rights attaching to the property and the associated letting enterprise) by the first co-applicant to the second co-applicant would qualify as an 'asset-for-share transaction' as defined in Section 42(1)(a) of the Income Tax Act.
• The second co-applicant would not be liable for transfer duty as Section 9(1)(l)(i) of the Transfer Duty Act would apply to the acquisition of the portion of the first co-applicant's undivided interest in Property X. However, the public officer of the second co-applicant would have to make a sworn affidavit or solemn affirmation confirming that the transaction complied with the section.

BPR 270 is valid for two years from March 29 2017.

For further information on this topic please contact Mareli Treurnicht at Cliffe Dekker Hofmeyr by telephone (+27 11 562 1000) or email ([email protected]). The Cliffe Dekker Hofmeyr website can be accessed at www.cliffedekkerhofmeyr.com.