The Cape Tax Court interprets the statutory criteria for approval by SARS as a tax-exempt PBO
05 September 2014
Posted by: Author: PwC South Africa
Author: PwC South Africa
The decision of the Cape Town Tax Court in ITC 1872 (2014) 76 SATC 225 brings long-awaited clarity to the interpretation of the statutory criteria that a public benefit organisation (PBO) needs to satisfy in order to qualify for tax exemption in terms of s 10(1)(cN) of the Income Tax Act 58 of 1962, read with the provisions of the Ninth Schedule to the Act.
Such tax exemption and – if further stipulated criteria are satisfied – the right to issue donors with tax-deductible receipts in terms of s 18A is critical to the financial viability of many such organisations.
SARS had declined to approve an application by an inter vivos trust for PBO status
In this case, an inter vivos trust, registered in the office of the Master of the High Court in Cape Town, had applied to SARS in terms of section 30(3) of the Income Tax Act for approval as a public benefit organisation, and the application had been refused.
The issue before the court was whether the trust in fact satisfied the requirements of section 30(3) and was entitled to be granted such approval. A central question in this inquiry was whether the sole or principal objective of the trust was the carrying on ofpublic benefit activities as listed in the Ninth Schedule.
The trust deed stated that the objectives of the trust were –
provision of poverty relief to poverty stricken communities, community development and anti-poverty initiatives, training for actively [sic] poor persons to enable them to obtain employment or improve their employment, the advancement, promotion or preservation of arts, culture and custom, engaging in the conservation, rehabilitation or protection of the natural environment, the promotion, monitoring or reporting of development assistance aimed at benefiting the poor and needy.
In its application to SARS, the trust indicated that it would be carrying out the following public benefit activities listed in the Ninth Schedule, namely, welfare and humanitarian activities entailing the provision of poverty relief; community development for poor and needy persons and anti-poverty initiatives; the advancement, promotion or preservation of the arts, culture or customs; and the conservation, rehabilitation or protection of the natural environment, including flora, fauna or the biosphere.
It is clear from the judgment (see para ) that SARS viewed the trust’s claim to be a genuine public benefit organisation with suspicion, and had concluded that it did not satisfy the statutory criteria for tax-exempt PBO status.
In particular, SARS was of the view that the expression poverty relief in the context of para 1(f) of Part 1 of the Ninth Schedule, which is not defined in the Act, had to be given a narrow interpretation that did not encompass what the trust was doing.
SARS was of the view that the trust’s actual activities were the establishment of tourist routes and the creation of a website to market those routes. SARS believed that the persons using those tourist routes did not require poverty relief. The real benefits of the trust’s activities, according to SARS, accrued to ‘a small and inclusive list of route participants’ (which seems to mean the established businesses along the tourist routes) and the trust’s proposed activities were therefore not for the benefit of the poor and needy, nor were they widely accessible to the general public, as required by the definition of public benefit organisation in section 30(1)of the Income Tax Act.
SARS contended further (see para  of the judgment) that, in order to qualify for approval as a PBO, the trust’s activities, as far as humanitarian activities were concerned, had to be directed at ‘assisting persons who were in dire straits to survive’.
As regards the public benefit activity referred to in para 6(a) of Part 1 of the Ninth Schedule (‘the advancement, promotion or preservation of the arts, culture or customs’), SARS contended (see para ) that the trust had to show that it would perform overt acts to advance, promote or preserve arts, culture or customs.
SARS argued that the use of an internet website to attract potential tourists did not satisfy the requirement that the activities in question must be designed to benefit the poor and needy and did not satisfy the criterion of being widely accessible to the general public.
As regards the public benefit envisaged in para 7(a) of Part 1 of the Ninth Schedule (‘engaging in the conservation, rehabilitation or protection of the natural environment, including flora, fauna or the biosphere’), SARS contended that, to satisfy this criterion, the trust was required to ‘have the necessary infrastructure and skilled personnel to perform the functions for the protection of the environment’ and that the mere listing of selected species on a website did not constitute ‘engagement’ by the trust in the conservation, rehabilitation or protection of the environment.
In response, the trust contended (see para ) that it –
uses tourism as a platform to create and to sustain jobs in rural communities whilst at the same time promoting local culture and conservation of the natural environment. This it does by encouraging tourists to take off the beaten track self-drive travel routes to enable communities on those routes to benefit from tourism. To achieve this objective, so the Trust contends, it adopts a collaborative approach with the local communities by way of workshops to identify attributes of the area or community concerned that could attract travellers and tourists to the area. These attractions may include local flora, fauna, scenic attractions, services, arts, culture or local customs. Thus, the Trust contends that it proposes to establish markets and monitor the routes arising therefrom in terms of workshop processes. It proposes to create forums to sustain the process and to stay in touch with those forums to answer questions and provide mentorship and share best practice. The opening and marketing of tourism routes to marginalised and rural areas encourages tourists to visit and spend money on ventures operated by poor people in those areas and thus contributes to poverty relief. These areas, so the Trust contends, have both large and small businesses. Thus, so the Trust contends, its activities are aimed at bringing in tourists for the purposes of supporting poor people on those tourist routes. The Trust concludes by contending that it is purely incidental that established business would benefit from the Trust’s proposed public benefit activities.
The trust argued that the welfare and humanitarian activities referred to in Part 1 of the Ninth Schedule were not, as SARS contended, restricted to assisting persons in dire straits to survive, and pointed out that the Schedule did not require overt engagement in the conservation of the natural environment, nor that the organisation have an infrastructure or skilled personnel. The trust argued that many recognised public benefit activities are engaged in by unskilled persons with little or no infrastructure.
The Tax Court required oral evidence to be led
The Tax Court ruled (see para ) that this matter could not be decided on the basis of the contents of the trust instrument and its annexures and that oral evidence needed to be led in regard to the activities currently undertaken by a section 21 company (referred to in the judgment as ‘ABC’) that (see paras  – ) was the founder of the trust and played ‘an active and significant role in the administration and management of the trust’.
This company had, in its own right and prior to the formation of the trust, applied for and been granted approval as a public benefit organisation, only to have that approval withdrawn by SARS two years later on the grounds that the requirements of section 30(1) of the Act had not been satisfied.
Acting on legal advice, ABC then formed the trust so that it could apply to SARS for approval as a tax-exempt PBO and for the right to issue tax-deductible receipts to donors in terms of section 18A.
Oral evidence was led in the Tax Court to the effect that it was not the objective of ABC or the trust (should the trust take over the activities of ABC) to advance the interests of the established business community.
SARS argued (see para ) that the trust’s application for approval as PBO involved merely ‘regurgitating the Ninth Schedule’ and that the application was silent as to what the trust was actually authorised to do and how it would go about performing the proposed public benefit activities.
The Tax Court accepted (see para ) that applications to SARS for approval as a public benefit organisation should be strictly scrutinised. But, said the court, this did not mean that a narrow rather than a wider view should be taken as to what constitutes a qualifying public benefit activity.
The ambit of section 30 of the Income Tax Act, said the court, was ‘to encourage activities that will benefit the general public’ and –
With this in mind, the net should be thrown fairly wide to encourage and promote the carrying on of all and any bona fide public benefit activity provided always the organisation seeking approval complies with the requirements as set out in s 30 of the Income Tax Act and provided further the proposed public benefit activity falls within the framework set out in the 9th Schedule to the Income Tax Act.
The court found that the trust had not intended to deceive SARS in the documents it had provided in support of its application for approval as a PBO.
However, the court ruled that the trust did not qualify to issue donors with tax-deductible receipts unless it could satisfy SARS that its activities were exclusively carried on in the Republic.
In the result, the court ruled that SARS’s decision not to approve the trust’s application for approval as a public benefit activity in terms of section 30(3) of the Income Tax Act be overruled and set aside, but the court dismissed the trust’s appeal in regard to the issuing of tax-deductible receipts in terms of section 18A.
Predictably, SARS had viewed with cynicism the formation of the trust after ABC, the section 21 company, had been refused approval as a public benefit organisation. SARS believed that the application by the trust for approval as a public benefit organisation was deceptive and that the trust was just a front for ABC.
In particular, SARS took an adverse view (see para ) of the fact that, although the trust and ABC were two separate legal entities, they did not function independently.
The significance of the judgment (and it should be borne in mind that decisions of the Tax Court have no binding force outside of the particular case) is that the court ruled that section 30 is intended to encourage activities that will benefit the general public; hence, that encouragement should be given to the carrying on of bona fide public benefit activities, provided that an organisation seeking SARS’s approval as a public benefit organisation must carry on activities that fall within the framework of the Ninth Schedule to the Income Tax Act.
The court was of the view that poverty relief, as envisaged in the Ninth Schedule, could be achieved in many ways, including (see para ) creating tourist routes that could benefit communities located alongside such routes – in other words, that poverty relief can be achieved indirectly. In this regard, the court took the view that the use of an internet website by an applicant for PBO status should not be viewed negatively.
It is clear from the judgment that SARS has hitherto been applying extremely narrow criteria in determining whether to approve applications for PBO status. Of particular note is SARS’s view, as revealed in its arguments to the Tax Court in this case, thatwelfare and humanitarian activities, in the context of the Ninth Schedule, means ‘activities that [assist] persons in dire straits to survive’.
All in all, this judgment will provide encouragement to non-profit organisations to apply for approved PBO status (and perhaps encourage organisations that have, in the past, been refused PBO status by SARS to reapply) and will be an invaluable guide to professional advisers in drafting the constitution of the organisation and advising on how it should conduct its activities in order to satisfy the statutory criteria.
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This article first appeared on pwc.co.za