Question

How can you reduce your tax bill using unbundeling?

Answer 1

From time to time, listed companies unbundle shares to their shareholders. It is important for the shareholders to understand the tax implications which may arise upon the receipt of the shares.

Absent any relief which may apply in terms of section 46 of the Income Tax Act (the “Act”) (which deals with unbundling transactions), the general principles are:

• If a South African tax resident company makes a distribution of an asset in specie to a person in respect of a share, and the distribution (1) does not result in the reduction of contributed tax capital (“CTC”), (2) does not constitute shares issued by the company making the distribution, or (3) does not constitute a general repurchase based on the relevant exchange’s rules (in the context of listed shares), then the receipt of the distribution constitutes a receipt of a dividend for purposes of the Act.
• The receipt or accrual of an amount as a dividend is included in “gross income” in terms of paragraph (k) of the definition in section 1 of the Act. The dividend may be exempt from income tax but the exemption is subject to one of the provisos to the exemption not applying. If one of the provisos to the exemption were to apply then the dividend will be subject to income tax.
• In addition, a dividend is subject to dividends tax at the rate of 20%. However, in the context of a dividend that constitutes a distribution of an asset in specie, the liability for the dividends tax is on the company declaring and paying the dividend which would be the unbundling company. Various exemptions from dividends tax may apply. For example, if the beneficial owner of the dividend is a South African tax resident company, then the dividend is exempt from dividends tax.
• If a company makes a distribution of an asset in specie to a person in respect of a share and the distribution results in a reduction of CTC, then it will constitute a return of capital. CTC is defined in relation to a class of shares issued by a company, inter alia as the consideration received by or accrued to a company on or after 1 January 2011 and reduced by so much as the company has transferred on or after 1 January 2011, for the benefit of any person holding a share in that company of that class in respect of that share.
• Paragraph 76B(2) of the Eighth Schedule to the Income Tax Act (the “Eighth Schedule”) provides that where a return of capital by way of a distribution of cash or an asset in specie is received on or after 1 April 2012 and prior to the disposal of the share, the holder of the share must reduce its expenditure incurred in respect of the share with the amount of that cash or the market value of the asset on the date the asset or the cash is received. If the cash or the market value of the asset exceeds the expenditure incurred in respect of the share, then the excess is treated as a capital gain in the year of assessment in which the return of capital is received.