SARS emerges bruised in the Tradex judgment
09 December 2014
Posted by: Author: PwC South Africa
Author: PwC South Africa
The judgment of the Western Cape High Court in CSARS v Tradex (Pty) Ltd  ZAWCHC 142 was handed down on 9 September 2014 but was released only in mid-October.
In those proceedings, SARS was seeking confirmation of a provisional preservation order granted in terms of section 163 of the Tax Administration Act 28 of 2001 on 14 August 2013.
The first respondent, Tradex, and the third respondent, Business Wize Accounting and Management Services CC (‘BWA’), were entities owned by one Louise Wiggett, the second respondent.
The judgment reveals that, after the granting of the provisional order, the respondent taxpayers had been trying to put their tax affairs in order and to pay the outstanding taxes owed by them, but that SARS was dissatisfied with progress and applied to the High Court for a final preservation order.
The taxpayers’ business background
After three years of research and development by Wiggett, Tradex commenced business in 2002, supplying technology solutions for automating and streamlining export and import processes, and it had recently expanded into consulting services in the field of international trade. Tradex had 38 full-time employees but did not own any immovable property.
BWA had started business in 2006-2007 and Wiggett had caused it to purchase a property in Montague Gardens for R2.149 million and one in Caledon for R1.95 million. Both properties were mortgaged.
BWA had agreed to supply Tradex with furniture, equipment, office accommodation and operational support services at market-related charges, and BWA had appointed Tradex its agent in terms of section 54 of the Value-Added Tax Act 89 of 1991.
Wiggett owned a property in Langebaan that she had bought in 2000 for R33 060 and also owned a share of a property in Hout Bay.
The tax debts and fiscal non-compliance
When the application for a preservation order was made in August 2013, Tradex owed at least R4,1 million in various taxes. Its liability for income tax for 2010 and 2011 was unknown because it had failed to render tax returns for those years. Its liability for VAT was also unknown because it had failed to render returns over the period January 2010 to March 2013. BWA had rendered no tax returns since starting business in 2006. Wiggett had rendered no returns since registering as a provisional taxpayer during March 2000.
Wiggett blamed the fiscal non-compliance on two successive financial managers.
An auditor appointed by Wiggett found Tradex’s and BWA’s records to be in serious disarray and in need of reconstruction. The tax affairs of Tradex and BWA were not in order when the provisional preservation order, that had been applied for ex parte (that is to say, without notice to the taxpayer), was issued on 12 August 2013, and at that juncture their tax liability was likely to exceed R4,1 million.
The tax liability was not yet precisely determined
In his judgment, Rogers J said (at para ) that it was impossible to say with any precision what amount of tax Tradex and BWA would in due course be liable for. The two entities had paid about R4.7 million in respect of their known tax liabilities.
The email correspondence between Wiggett and SARS showed that Wiggett was making a substantial effort to co-operate with SARS in its investigations.
Tradex and BWA alleged that their financial statements and tax returns were now up to date, that BWA had made losses and did not owe any tax, that Wiggett also had no outstanding tax liability, and that a preservation order was unnecessary. They repeated an earlier offer to provide SARS with security, allegedly worth more than R18 million, which was substantially in excess of any tax that might still be owing.
A preservation order may be granted even if tax is not presently due and payable
In his judgment, Rogers J said (at para ) that a preservation order may be made in terms of section 163(3) of the Tax Administration Act if such an order is ‘required to secure the collection of tax’, but he expressed the view that the tax in question need not be currently due and payable and it sufficed that tax in an unquantified amount was likely to become due and payable.
A preservation order must be ‘required to secure the collection of tax’
However, he went on to say (at para ) that a preservation order cannot be granted unless it is ‘required to secure the collection of tax’.
This raised the question of what is meant by ‘required’.
Rogers J quoted from the judgment in Commissioner for the South African Revenue Service v CJ van der Merwe  ZAWCHC 59 where Savage AJ said (at para ) that the requirement of necessity could not be read into the statute, nor need it be shown that a preservation order was required to prevent the dissipation of assets; however, the facts must show ‘an appropriate connection between the evidence available and the nature and purpose of the order sought’. The court was not required to determine whether, in fact, tax was due and payable by the person in question.
The test for a preservation order was not one of ‘necessity’, and he quoted from judgments which suggested that ‘required’ meant ‘reasonably required’ in the sense of connoting ‘a substantial advantage in the collection of the tax’.
Rogers J went on to say (at para ) that there were indications that the focus of a preservation order was the dissipation of assets, and that an ex parte application in terms of section 163(1) of the Tax Administration Act would generally be justified only out of concern regarding such dissipation. He pointed out that, if more urgent action was needed for the preservation of assets, section 163(2)(a) authorised SARS to seize assets in order to prevent any realisable assets from being disposed of or removed which might frustrate the collection of tax.
In determining whether a preservation order should be varied or rescinded in terms of section 163(9) –
An intention by the tax-payer to dissipate assets to defeat a SARS claim need not be established
the court is required to balance hardship to the taxpayer on the one hand and "the risk that the assets concerned may be destroyed, lost, damaged, concealed or transferred” on the other.
Rogers J said (at para ) that he did not think that the word ‘required’ in section 163(3) entailed proof of an intention on the part of the taxpayer to dissipate his assets in order to defeat SARS’s claim. However, he said –
Rogers J went on to say (at para ) that –
SARS is required to show, I think, that there is a material risk that assets which would otherwise be available in satisfaction of tax will, in the absence of a preservation order, no longer be available. The fact that the taxpayer bona fide considers that it does not owe the tax would not stand in the way of a preservation order if there is the material risk that realisable assets will not be available when it comes to ordinary execution. An obvious case is that of a company which, believing it owes no tax, proposes to make a distribution to its shareholders.
Rogers J (at para ) then critically scrutinised the specific terms of the preservation order sought by SARS in this case, for he said that the question whether such an order was ‘required’ cannot be answered in the abstract and the practical utility of its terms has to be assessed.
In every case where a taxpayer is liable or likely to become liable for tax, there is a theoretical possibility that the value of its assets may for some or other reason be diminished by the time SARS is able to execute. I do not think the lawmaker intended that a preservation order would routinely be available to SARS in every case of an actual or anticipated tax liability. There must be something by way of ‘requirement’ which places the particular case outside the ordinary run of cases. The existence of material risk that assets will be diminished is, as I have said, the obvious example. It is in such circumstances that the court could conclude that preservation would confer a ‘substantial advantage’ (i.e. over the position that would prevail without the order) and that there was thus ‘an element of need’ …
Rogers J made the important point (at para ) that –
In the founding papers in which it applied for a preservation order, SARS had made ‘generalised statements’ to the effect that a preservation order would enable SARS to collect all the tax owed by the respondents, that the appointment of a curator bonis would ensure that SARS recovered all taxes owed and that in the absence of a preservation order SARS ‘will in all likelihood sustain severe prejudice’ because the prospect of recovering the outstanding tax ‘seems bleak’ – but he pointed out that no facts had been alleged by SARS to establish a prima facie case that there was an appreciable risk of assets being diminished.
Delinquency in the conduct of a taxpayer’s tax affairs may in appropriate circumstances be part of the material from which one could infer that there is an appreciable risk that assets available for collection of tax will be diminished. There is, however, no automatic connection between the two. A person may be disorganised and late in regard to its tax administration without there being any appreciable danger that its assets will be diminished by the time tax comes to be collected.
Overall, said Rogers J, SARS’s case was that the respondents’ delinquency in completing their financial statements and making their returns and the initial disarray in their records were a basis for confirming the preservation order, but (see para ) he pointed out that SARS had not alleged that Wiggett was causing Tradex to dissipate its assets by distributing dividends or paying excessive salaries or engaging in other suspicious activities. Rogers J noted (at para ) that –
SARS did not seek to make the case that Tradex’s business was being run into the ground or becoming less valuable.
Rogers J said (at para ) that –
If there were a prima facie case that Tradex would be run better under the care of a curator bonis, one might be able to say that a preservation order was ‘required’, because then one could conclude that there was a reasonable prospect that, without a preservation order, the business would be less valuable by the time tax came to be collected. But as I have said, no facts to support such a conclusion were advanced in the founding papers or subsequently.
Rogers J commented (at para  – ) that –
One gains the distinct impression that SARS launched the application not so much because a preservation of the respondents’ assets was required but in order to bring matters to a head by placing legal pressure on the respondents . . . While I can understand SARS’ frustration, that is not the purpose of the preservation application. There are other statutory mechanisms available to SARS to deal with taxpayers who fail to provide information, to render returns or to make payment of tax . . .
Rogers J accepted (see para ) that the delinquency of Tradex and BWA in rendering returns, whilst unacceptable, appeared to have been attributable in a substantial measure to the fact that their financial managers had let them down.
He was critical (see para ) of the terms of the provisional preservation order, sought by and granted to SARS, which interdicted the respondents from alienating or dealing with their assets in a way that would cause a decrease in their value, and he pointed out that if this meant that the company could not use its cash flow to meet ordinary business expenses, the order would have the effect of forcing the company to close down.
Rogers J said (at para ) that a preservation order –
would also not be "required” unless there were reason to believe that a forced sale of the company’s assets or its business would achieve a better outcome for SARS than if the business were to continue in operation. There is no basis for such a view.
Rogers J said (at para ) that the function of a curator bonis is not to assist SARS to investigate the taxpayer’s tax liabilities, but to focus on the discovery and preservation of assets from which tax liabilities, whatever they might turn out to be, could be met.
He went on to say (at para ) that if SARS, without resorting to litigation, had requested Wiggett and BWA to give an undertaking and permit caveats to be registered against their properties, pending the final determination of their tax liabilities, it is likely that they would have agreed.
In the result, Rogers J concluded that, in this case, a preservation order was not ‘required’ to secure the collection of tax within the meaning of section 163(3). He dismissed SARS’s application for the provisional preservation order to be confirmed and, instead, made an order – whose terms reflected a tender that had already been made by the respondents – for caveats to be registered against specified immovable properties.
A preservation order is a procedure for preserving assets, not for putting pressure on taxpayers
Rogers J pointed out (at para ) that section 163 is a procedure for preserving assets and is not an execution mechanism – that is to say its purpose is not to force payment of a tax debt.
He then spelled out the ordinary mechanisms available to SARS to compel payment of an assessed tax debt, namely, by taking a civil judgment against the taxpayer for the tax reflected in an assessment and then executing that judgment in the ordinary way against the taxpayer’s assets and, if necessary, instituting sequestration or liquidation proceedings.
Rogers J makes the valuable observation (at para ) that –
Section 163 finds its primary application where the amount of tax has not yet been ascertained (i.e. where SARS cannot execute in the ordinary way).
Implicitly, therefore, the judgment makes clear to SARS that where an assessment has been issued (and can therefore be enforced by the ordinary means), a preservation order is not appropriate unless there is reason to believe that the taxpayer’s assets are being dissipated.
Where there is a demonstrated risk of dissipation, but the taxpayer’s tax liability has not been ascertained, Rogers J makes clear (at para ) that it is not appropriate for the preservation order to give the curator bonis the power to realise the taxpayer’s assets to satisfy an unascertained tax liability.
This judgment reflects very poorly on SARS.
Particularly damning was Rogers J’s observation that he gained the impression that the real reason why SARS had applied for a preservation order was not to preserve the respondents’ assets, but to put pressure on them to get their tax affairs in order.
Also significant was Rogers J’s warning (at para ) that SARS should not ‘frame preservation orders on a one size fits all basis’– as SARS has apparently been doing, for the judge cited another matter where SARS had sought an order in similar terms, and he said that similar orders had been ‘sought and granted to SARS in several matters in Gauteng’.
Overall, the judgment exposes SARS’s conduct in this case as heavy-handed and bullying, in unnecessarily resorting to a preservation order when there were no grounds for suspecting that the respondent taxpayers were dissipating assets, and in rejecting their reasonable tender to provide security for their tax liabilities.
Instead, SARS had crafted a preservation order so draconian that it could have brought the taxpayers’ business to an end, for in terms of the preservation order sought by SARS, all the respondents’ assets were to vest in the curator bonis, who was to take control of their assets and have the power to realise the assets. Moreover, the order was capable of being interpreted as empowering the curator bonis not to permit payment of ordinary business expenses out of the cash flow.
More serious still is that the judgment implicitly casts doubt on SARS’s ethics in seeking a preservation order for an improper purpose and on its commitment to the fair use of its draconian statutory powers.
This article first appeared on pwc.co.za.