Selling Assets Of A Close Corporation
04 October 2011
Posted by: Author: Mahomed Hussan
Selling Assets Of A Close Corporation
A close corporation established in 1989 owns a commercial property with the following details: Cost of property R178 547 Value at Oct 2001 R980 000. The members are considering selling the property for R5 million. The question arises as to which of the following will be the best decision:
1. Selling the property as a going concern and paying the capital gains tax, then deregistering the close corporation, per section 64B (5)(c) of the Act (and how do I go about this).
2. Or sell the close corporation and pay capital gains taxed in the individual’s hands.
The decision to sell a business, or the assets which constitute the business, should not neglect the tax consequences, as well as the continued smooth operation of the business. However, the decision on the best possible manner of disposal should neither be made solely by the seller, nor solely by the purchaser. Rather, it is a decision that is a part and parcel of the business negotiations, and should be made by both parties. Several very important factors need to be considered, both for the benefit of the seller, as well as the purchaser. However we will limit our response to the questions asked above.
1. This scenario will be most beneficial to the purchaser of a business, due to the purchaser not having to inherit any uncertainties which may be in the property holding close corporation.
2. By selling the property out of the close corporation, the close corporation will have to consider the implications of the following taxes:
a. Capital Gains Tax
b. Value Added Tax (VAT)
c. Income Taxed.
Secondary Tax on Companies (STC)
3. Should the close corporation sell the property in the current condition and subject to future use that it currently is being used; the close corporation will then be subject to Capital Gains Tax. The present owners, however, will be allowed to improve the property, to obtain the best possible disposal value, but not improve the property too much, such that the property now constitutes trading stock.
4. Should the present owners improve the property too much, considered to have ‘crossed the Rubicon’, the proceeds from the sale of the property will then constitute revenue income and be taxed accordingly.
5. However, from the facts provided, there is no evidence of the current owners having ‘crossed the Rubicon’ and changed the nature of the income from ‘capital’ income to ‘revenue’ income.
6. When calculating the Capital Gains Tax of the sale, the company may choose any of the three methods of valuing the base cost.
7. The facts presented are silent on whether the close corporation is a VAT ‘vendor’. However, assuming that the CC is a VAT vendor, then the proceeds of sale is deemed to include VAT at the standard rate, except when the sale is that of a going concern.
8. For the sale to constitute a going concern, the sale agreement must include a clause stating that the sale is a going concern, with VAT at zero-rate. Further more, the two parties must ensure that all the assets that constitute the going concern are transferred to the purchaser, as well as the property as a going concern – for example the property is not empty of tenants.
9. Once the property has been sold, the member would need to liquidate and deregister the close corporation. Please refer to Section 41 (4) of the Income Tax Act for the steps required.
10. On liquidation of the company, the proceeds will be dividends as defined, taxed in terms of the requirements of Secondary Tax on Companies. (Please note that a new Dividend Tax will commence on 1 April 2012).
1. This scenario is most beneficial to the seller due to all proceeds being taxed as capital in nature and no further tax payable.
2. The seller will be taxed in terms of the requirements of the taxation of Capital Gains.
3. However, new legislation is being proposed which would deem a portion of the proceeds to be dividend in nature, and subject to STC.
As can be deduced, the decision is an important one, and must include both the seller and purchaser. Furthermore, the sale agreement is of great importance, not only from the legal consequences, but also with regards to protection from future tax implications.
Source: By Mahomed Hussan (Tax professional)