Deferred delivery share schemes under scrutiny
31 March 2015
Posted by: Author: Barry Visser
Author: Barry Visser (Grant Thornton Johannesburg)
The Supreme Court of Appeal judgement of Commissioner for SARS v Bosch (394/2013)ZASCA 171, which concerned a deferred delivery share (DDS) scheme, has shed significant light on how legislation in respect of DDS should be interpreted and also on the meaning of simulated transactions.
In this case, employees had the option to purchase shares but had to exercise this option within 21 days of the offer date. However, the payment for the shares and delivery thereof would take place in tranches two, four and six years after the option was exercised.
The issues in dispute were:
- which of the two dates, the date on which the option was exercised or the date of payment and receipt of shares, was the effective date for tax purposes?
- whether the contract arising by exercising the option was conditional?
- whether the contracts between the employees and the trust administering the DDS scheme are simulated transactions.
Date of exercise and Interpretation of section 18A(1)(a)
SARS’ main contention was that only once the shares were paid for and received or, if they elected to sell them, did ‘the exercise of the right to acquire the shares’ occur in terms of this section.
However, the Court held that the section is concerned with the action by the employee that precedes a binding contract by which the employee will be entitled to acquire the shares, whether the acquisition by transfer to the employee occurs immediately, or is postponed to a future date. Therefore, SARS’ main contention was rejected.
In the alternative, SARS contended that the sale agreement fulfilled as a consequence of the employees exercising their options was conditional because the employees would have to be employed on each of the three future anniversary dates to receive the shares.
The agreement between employer and employees included a variety of other circumstances that would entitle the employees to receive the shares, regardless of whether they were employed for the full period. Furthermore, the company or trust was entitled, at their election, to cancel the sale. Although the contention by SARS, that the contract was subject to various conditions, was accepted by the Court, the conditions did not affect the determination of timing in respect of the tax liability.
Simulation – Substance over form
SARS submitted that the mechanism by which the DDS scheme operated was a simulation and that once the disguise with which it had been concealed was stripped away, the true exercise of the right to acquire the shares occurred when the shares were paid for and delivered.
The Court held that SARS’ submission involved a misunderstanding of the judgment in Commissioner for SARS v NWK Ltd  (2) SA 67 (SCA) and stressed that:
"simulation is a question of the genuineness of the transaction under consideration. If it is genuine then it is not simulated, and if it is simulated then it is a dishonest transaction, whatever the motives of those who concluded the transaction…
Tax evasion is of course impermissible and therefore, if a transaction is simulated, it may amount to tax evasion. But there is nothing impermissible about arranging one’s affairs so as to minimize one’s tax liability, in other words, in tax avoidance.”
It was considered that if SARS regard any particular form of tax avoidance as undesirable they are free to amend the Act, as occurs annually, to close anything they regard as a loophole. That is what occurred when section 8C was added to the Act, to specifically deal with DDS schemes.
It was held that the employees in the DDS scheme did not intend, when exercising their options to enter into agreements of purchase and sale of shares, to do so on terms other than those set out in the scheme. There was no advantage to the parties in entering into a conditional contract of purchase and sale when they were free to enter into an unconditional contract and postpone performance of the obligation to pay the purchase price and deliver the shares.
SARS’ contention based on the notion of substance over form was rejected.
This case provides proof that when the plain meaning of legislation is not clear, it is unwise to choose the literal interpretation to legislation. If there is any possibility that the text could have more than one interpretation, taxpayers should consider all the relevant circumstances, as well as any subsequent legislation and the way SARS may have interpreted the legislation in the past, before making tax decisions. If you have any questions relating to your share scheme, contact us.
This article first appeared on gt.co.za.