29 June 2009

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The decision of the Western Cape Tax Court on 11 May 2009 in XYZ Radio (Pty) Ltd v CSARS concerned the disallowance by SARS of a claim by XYZ Radio (Pty) Ltd for a deduction in terms of section 11(gA) of the Income Tax Act for the tax years 1997 – 2001 in respect of expenditure incurred in the acquisition of the trademark of a certain radio station.

In the result, the taxpayer’s appeal to the Tax Court was successful, and the matter was referred back to the Commissioner for reassessment on the basis laid down by the court.

The statutory allowance at issue in this case is now history, since an amendment to the Income Tax Act has abolished the allowance in respect of such expenditure incurred by a taxpayer on or after 29 October; see section 11(gA) proviso (ee).

Nonetheless, the decision of the Tax Court in this case is of great interest in regard to a number of principles which remain fundamental to the Income Tax Act.


The quantification of the allowable deduction – expenditure actually incurred

The decision of the tax court in this case contains some stinging criticism of SARS. Thus, the court remarked,apropos of the pre-litigation correspondence between the taxpayer and SARS, that –

“What stands out on even a cursory reading of the correspondence that originated from the officials who represented the Commissioner in this matter is their almost myopic enchantment with the notion that the market value of a trademark is the decisive criterion for determining whether the amount actually expended in acquiring it is allowable as a deduction in terms of section 11(gA) of the Act”.

The court went on to point out that the clear language of section 11(gA) allows the deduction of “expenditure actually incurred”, as distinct from the “market value” of the acquired asset as the measure of deductibility, and as distinct from provisions such as section 11(e) which provide for a deduction of “such sum as the Commissioner may think just and reasonable”.

The principle that expenditure is deductible if it was “actually incurred” is of course the criterion laid down in section 11(a) of the Income Tax Act, so the remarks of the court in this regard are equally applicable to deductions claimed under the latter provision.

The court rejected (at paragraph [35]) the argument advanced by SARS that the phrase “actually incurred” in section 11(gA) meant “genuinely” incurred, and the court preferred the interpretation laid down in CIR v Golden Dumps (Pty) Ltd 1993 (4) SA 110 (A) at 117D that the phrase referred to expenditure that had “really” or “in fact” been incurred.

The court rejected as irrelevant the fact that no valuation of the trademark had been carried out, and pointed out (at paragraph [43]) that the criterion for deductibility was simply the “actual expenditure” incurred by the taxpayer, and not “fair value” for accounting or valuation purposes. The court (ibid) found no impediment to deductibility in the fact that the price of the trademark had been arrived at by an “intuitive assessment” of the value of the trademark.

Allocation of the purchase as price

The Commissioner attacked the allocation of the purchase price paid by the taxpayer as between, on the one hand, “goodwill” (expenditure in the acquisition of which is not deductible) and, on the other hand, the trademark in question.

The court accepted (at paragraph [32]) the premise of this argument, namely that –

“the distinctive name of a business constitutes part of the goodwill of a business which is a going concern, and cannot be deal with as a severable item of property”

but the court went on to say that this was not what had happened in the present case.


Undue inflation of the purchase price

SARS contended (see paragraph [37]) that the purchase price of the trademark in issue had been –

“unduly inflated with a view to maximising the tax benefit that could be claimed under section 11(gA) of the Act”.

The court rejected this argument as having no evidential basis, and pointed out (at paragraph [40]) that –

“the potential of the utilisation of a merx has long been recognised as a factor in the determination of market value”.

SARS argued (see paragraph [46]) that the allocation of the purchase price in this case was a sham or simulation, but this was brushed aside by the court on the basis that there was a “total lack of any evidence” to support this proposition.



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