ABC (Pty) Ltd v CSARS ITC 13410 GTC (4 August 2014)
17 September 2014
Posted by: Author: Pieter Faber
Author: Pieter Faber (SAIT Technical Executive: Tax Law & Policy)
The taxpayer is a company and a subsidiary of D Ltd and operated a mine consisting of two incline shafts and a concentrator plant located in Limpopo. It does not own the land on which it mines nor does it trade in the ore mined as it is the extracted concentrate from the mineral ore that is sold. The mining operations of the taxpayer consist out of two distinct phases, namely extracting the ore from the ground and then the ore is smelted and subjected to a flotation process to extract the mineral concentrate.
During August 2004, the taxpayer concluded a written contact with E (Pty) Ltd for the supply of the concentrate. The contract provided that the full purchase price payable to the taxpayer delivered in month one would only be quantifiable in the fifth month after the month of delivery. Furthermore, if the concentrate delivered did not comply with the moisture requirements specified, the purchaser would dry the concentrate which would take place at an additional cost to the taxpayer. The taxpayer relied on the provisions of section 11(a) of the Income Tax Act (No. 58 of 1962) to deduct all the cost relating to the ore mining and concentrate extraction as well the drying costs. It also applied section 24M to defer the income from the sold concentrate for the last four months of the tax year on the basis that the concentrate was disposed of for an unquantified amount and only became quantifiable in month five in the following tax year.
SARS raised additional assessments for the 2007, 2008 and 2009 tax years for R63 million, R220 million and R170 million respectively which represented the same ratio as the amounts in respect of the concentrate sold during the year which did not accrue. SARS raised the assessments on the basis that section 23F(2) applied to expenditure incurred by the taxpayer as the ore and concentrate constituted trading stock acquired by the taxpayer and disposed of for an amount that would not accrue to the taxpayer in that tax year. SARS furthermore contended that the drying expenses, administrative costs and audit fee expense were a cost relating to the trading stock and should also be proportionally disallowed for deduction as well a specific royalty expense.
SARS disallowed the taxpayer’s objection and this is an appeal to the Gauteng Tax Court in respect of the matters assessed. The main issue in dispute was whether section 23F(2) applied in the current matter. The second matter was whether the drying expense should be disallowed and lastly whether SARS was correct in imposing additional tax of 50 per cent. SARS has during its argument conceded that the administrative and audit fees should be allowed and the taxpayer conceded that the royalty expense should be disallowed. SARS also conceded on a liability of R160 million raised due to an arithmetical error but the taxpayer still requested a cost order in this respect from the court.
The taxpayer submitted that section 23F(2) does not apply as the mineral bearing ore mined by it does not meet the requirements of ‘trading stock’ and ‘acquisition’ as required in that section. The taxpayer contended that the ore won from the soil was acquired for mining purposes from its mining operations and was not kept in stock piles nor could it be sold. It further submitted that only the concentrate was a saleable commodity that constituted trading stock. SARS attempted to argue that manufacture includes the process of winning of the ore and bringing it to the surface but the court dismissed this argument as constituting a new ground of assessment. The court agreed with the submission of the taxpayer that the ore did not constitute trading stock as firstly it was acquired for the purposes of mining and secondly it was not saleable and therefore it did not meet the second requirement of trading stock. It also agreed that the concentrate was trading stock as defined and that the process of wining the concentrate was similar to the procedures employed in the Foskor case. However, the court held that the procedure of winning the concentrate from the ore does not create something materially different from what it originally was – the ore is merely more refined. The court held that this process also did not constitute a process of manufacture but was a process of mining.
The court then still had to determine whether the costs of extraction of the concentrate was a cost of acquisition thereof. The taxpayer contended that ‘acquisition’ can only mean acquisition of ownership and on this basis it did not acquire ownership during the extracting phase as it had acquired ownership of the ore on severing it from the land. It thus merely took possession of the concentrate at a later stage. It submitted that section 23F(2) required more than mere possession. SARS contended that section 23F(2) is there to balance section 24M meaning that if the taxpayer had the benefit of the one it was also necessary for SARS to benefit from the other. SARS submitted that the word should be interpreted in context, namely that the term ‘acquisition of the trading stock’ is used opposite to the term ‘disposal of the trading stock’. The court rejected the taxpayer’s submission that it first took possession of the ore and then took possession of the concentrate and held that it acquired ownership of the concentrate when it severed the ore from the land.
The court therefore held that the limitation imposed by section 23F(2) only applied to the second phase of extracting the concentrate, notwithstanding that it was extracted from a process of mining and not manufacturing. The court also held that any redetermination of tax should be on the basis of the mining formula for tax purposes.
The taxpayer’s appeal was therefore partially upheld on this ground.
Drying costs and administrative costs
The court stated that section 23F(2) was there to limit deductible expenditure and therefore the contra fiscum rule found application. In this regard, there must be a causal link between the expenditure claimed and the acquisition of the trading stock. The court held that no such causal relationship existed between the trading stock concentrate and the drying and administrative expenses as the latter was incurred after acquisition of the trading stock and were not incurred to acquire such trading stock concentrate.
The taxpayers appeal was accordingly upheld on this ground.
Though the matter was conceded by the taxpayer during argument, the court held that the licensing expense was based on the sales value of the concentrate but that it arose from licencing charges and therefore was capital in nature. The court held that the amount should, however, be limited to the sales that took place in the relevant year irrespective of the number of months as the expense could only be determined once the concentrate had been extracted.
The taxpayer’s appeal was therefore dismissed on this ground.
The taxpayer had requested the court for a cost order in respect of SARS’ failure to concede and for the arithmetical errors in the assessment until the date of the pre-trial. The court held that the error of R160 million was substantial and reflected negatively on the taxpayer’s financial profile. SARS’ action had forced the taxpayer to raise in their grounds of appeal and SARS even failed to address the matter in its statement of appeal. The court therefore awarded the taxpayer 50 per cent of its costs against SARS.