Remission of the provisional tax “underestimation” penalty
28 July 2015
Posted by: Author: Lesedi Seforo
Author: Lesedi Seforo (SAIT)
Lesedi Seforo urges tax professionals to apply their minds when estimating the taxable income for the purpose of calculating the second professional tax payment.
Over the past few months, SAIT has received numerous queries from members regarding what the Fourth Schedule to the Income Tax Act (No. 58 of 1962) (Act) describes as the "penalty for underpayment of provisional tax as a result of underestimation”. As far as this particular penalty is concerned, the challenge for some tax practitioners appears to be two-fold:
(1) Tax practitioners do not really understand how the penalty is calculated; and
(2) They are not sure how to have it remitted.
Paragraph 20(1) of the Fourth Schedule describes how the penalty is calculated, where actual taxable income either exceeds R1 million, is equal to that amount or below it.
As far as the calculation of the penalty is concerned, SARS has currently published, in draft form, a revised version ofInterpretation Note 1: Provisional tax estimates ("IN1”). The note includes in depth guidance (including examples) on the calculation of all penalties associated with provisional tax.
Notwithstanding the fact that SARS is always quick to point out that its guides or interpretation notes should not be relied upon as legal references, these documents are usually quite useful in providing practical guidance as well. Tax practitioners would do well, therefore, to consult IN1 for more clarity regarding provisional tax in general. However, the purpose of this article is not to discuss the calculation of the various provisional tax penalties, but rather to focus on the remission of the underestimation penalty.
Though paragraph 20(1) deems the underestimation penalty to be a percentage based penalty imposed under Chapter 15 of the Tax Administration Act (TAA), it does provide a means for taxpayers to have the penalty remitted in certain specific circumstances:
"Where the Commissioner is satisfied that the amount of any estimate referred to in subparagraph (1) was seriously calculated with due regard to the factors having a bearing thereon and was not deliberately or negligently understated…the Commissioner may in his or her discretion remit the penalty or a part thereof.”
The draft version of IN1 provides a useful explanation of this provision:
"…the calculation must be one which has been carefully considered and is thoughtful, earnest and sincere. A taxpayer must therefore have sensibly (and by careful reasoning and judgment, in a mathematical manner, and using experience, common sense and all available information) determined the amount of the estimate before the Commissioner is able to reduce a penalty.
Provisional taxpayers who merely rely on the basic amount to estimate the second period amount of taxable income are unlikely to meet these requirements for a reduction in the penalty for underestimating taxable income. The reason for this is that, as noted above, the Commissioner is only entitled to reduce or remit the penalty if, amongst other requirements, he is satisfied that the estimate was "seriously calculated”. In the absence of particular facts and circumstances which demonstrate that the use of the basic amount was actively considered and was appropriate under the circumstances, this requirement will not be met” (own emphasis).
Paragraph 20(2) is quite a reasonable provision, as it shows that the Commissioner is cognisant of the fact that there may be legitimate reasons why the estimated taxable income may be lower than the 80 or 90 percent thresholds.
Tax practitioners, who have adequate working papers and supporting documentation proving how the estimated taxable income was calculated, should therefore have no trouble satisfying the Commissioner that the estimate was determined by "careful reasoning and judgment, in a mathematical manner, and using experience, common sense and all available information”.
Typically, the penalty manifests itself in the ITA34 a few months after the second provisional tax return was submitted. For instance, the earliest a taxpayer will be able to submit an ITR12 or ITR14 for the 2015 tax year will be July 2015; whereas the 2015/02 IRP6 was probably submitted way back in February 2015. By that time, the tax practitioner may have forgotten how he arrived at the 2015/02 estimated taxable income; especially considering the fact that February is a very busy month due to the large number of IRP6s that need to be submitted.
This makes having adequate working papers and supporting documents all the more important.
Another thing to bear in mind is that a taxpayer may dispute the decision by SARS not to remit the underestimation penalty (in whole or in part). This is because, as aforementioned, the penalty is deemed to be a percentage based penalty imposed under Chapter 15 of the TAA - which makes the remedies available under that Chapter of the TAA also applicable to this penalty.
In conclusion, a tax practitioner who seriously applies his or her mind when estimating the taxable income for the purpose of calculating the second provisional tax payment need not worry too much about the possibility of having the underestimation penalty remitted by SARS.
This article first appeared on the May/June 2015 edition on Tax Talk.