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The utilisation of tax laws to combat unemployment

Friday, 01 March 2013   (0 Comments)
Posted by: Erich Bell
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Unemployment is a major challenge that is currently faced in the South African economy. According to the latest figures published by Treasury in the 2013 budget review, an estimate of 33.2 per cent of South Africa’s population is not employed at this moment. Considering the vital impact of employment on a country’s productivity, intervention is necessary to ensure sustainable (and possible increased) economic growth in the country.

In an attempt to address this problem the Minister of Finance proposed the implementation of a "Youth Employment Tax Incentive”. Government’s main objective with this program is to encourage entities to create job opportunities for South Africa’s youth. Previous negotiations were made with the private sector in an effort to increase employment but it seemed to be fruitless. Shockingly, the unemployment rate for individuals under the age of thirty exceeds 40 per cent. Hopefully the tax benefits Government intends to provide to the private sector will significantly improve this situation.

So far Government has not disclosed comprehensive information about the intended tax incentive program. At present it seems that entities will qualify for a deduction of taxable income or a credit against their normal Income Tax liabilities. Entities will only qualify for the intended tax benefits if they employ persons below a certain age (presumably younger than thirty). The tax benefit will be subject to the condition that the employee’s annual remuneration may not exceed the income tax threshold of R63 556 (estimated at R67 111 for 2014). In my opinion this provision may be to the financial disadvantage of employees. This is because certain employers may tend to maintain annual salaries below the tax threshold in order to save taxes.

Furthermore, the implementation of tax incentives similar to the above is suggested for Special Economic Zones (SEZs). Government is already in the process of establishing SEZs (involved in the mining of coal and platinum) in the Limpopo province. The formation of SEZs intends to support economic growth since it is probable to attract foreign investors and create many job opportunities. In order to increase the likelihood that these entities will meet their economic objectives, they receive certain tax benefits, for instance a decreased tax rate of only 15%. When the proposed employment tax incentive is considered, it seems that SEZs will once again qualify for additional tax benefits. These entities will be entitled to a tax deduction (or credit) for each person they employ, regardless of the person’s age. Unfortunately, tighter restrictions will apply otherwise and the above credit will only be allowed if an employee earns less than    R60 000 a year.

An investigation of employment related tax incentives that are imposed in other countries may give a good indication of what to expect with the amendment of South African tax legislation. This article investigates the tax incentive programs that were implemented in the United States.

During 2010 the Internal Revenue Service (IRS) introduced a tax incentive program called the "New Hire Retention Credit” (NHRC). This program granted employers a tax credit that was applied against their Income Tax liability. The tax credit was available for each "qualifying employee” who was employed within the period between February 3, 2010 and January 1, 2011. The credit was only available if the employee was newly hired within this specified timeframe and employed for a continuous period of 52 weeks or longer. The IRS further required that the employee’s total salary for the last 26 weeks (during the first year of employment) must equal at least 80% of the total salaries paid to him or her during the first 26 weeks. Therefore no credit was available if a substantial decrease in the employee’s salary occurred during the last 26 week-period.

In contrast with the program proposed by the South African Government it does not seem that the age of an employee was relevant to qualify for this specific tax credit. However, the requirements that were laid down by the IRS seem to be much more stringent. As already mentioned an employer would only qualify for the tax credit if he hired a "qualifying employee”. This means that the person may not have been employed for more than 40 hours during the 60-day period that preceded the date of employment and may not be related to the employer. Furthermore, employment must not result in the replacement of another employee unless he or she leaved the company voluntarily or was terminated as a result of misconduct.

If the above requirements were met, the employer was allowed to claim a tax credit. The tax credit was determined at the lesser of $1 000 or an amount equal to 6.2% of the employee’s total salary during the first 52 weeks of employment. The credit could only be claimed once during the tax year in which the first 52 weeks of employment ended. This means that employers’ final opportunity to have qualified for this credit was in the 2012 tax year. The credit was not allowed to result into a loss for income tax purposes, but any unused balance may be carried over and claimed in a future tax year.

The administrative requirements that were related to the "New Hire Retention Credit”, does not seem to be significant. The employee had to complete a special form or affidavit to confirm that he or she has not been employed for more than 40 hours during the 60 days that preceded the date of employment. In addition, the employer had to attach a form to his income tax return which supplied the IRS with information regarding the calculation of the tax credit. It also contained information that would indicate whether the necessary requirements to qualify for the tax credit were fulfilled.

The latest tax incentive that is currently operating in the United States is called the "Work Opportunity Tax Credit” (WOTC). In terms of this program the Government grants employers an additional credit from income taxes payable. The tax credits are available for each person the entity employs regardless if it relates to new or existing employment. However, the tax credit will only be available if persons that originate from certain specified groups are hired, for example recipients of food stamps, veterans and former convicts.

The following factors are taken into account when the tax credit is calculated: the specific group that the employee originates from, the salary paid to the person during the first year of employment and the number of hours worked. If the employee worked for a minimum of 120 hours during his first year of employment, a tax credit amounting to 25% of the first year’s salaries may be claimed. In the instance where a person worked for a period of 400 hours or more, the tax credit will constitute 40% of the first year’s salary. The tax credit is limited to a maximum for each specified group ranging from $1 200 to $9 600. For example, if a person is employed who receives food stamps from the Government a maximum tax credit of $2 400 may be claimed for this specific individual.

If an entity wishes to apply for a WOTC-credit, there is a certain process that must be followed. A form must be completed and submitted to the authorities in order to certify that the individual belongs to a certain specified group as required. This has to be done for each employee and the entity must receive acknowledgement from authorities that the employee belongs to that qualifying group. The employer is also required to attach a form to his income tax return if he wishes to claim the WOTC-credit. This document sets out the information that is used in the calculation of the credit.

No credit is available of the employee did not work for a period of at least 120 hours during the first year of employment. If the employee is dependent or related to the employer or was previously employed by the employer, the credit will also be forfeited.

The credit relates to wages paid during the first (or second year in some instances) to qualifying employees. The tax credit must be claimed within the first three years that precede the due date of the employer’s income tax return.

It seems that tax credit incentives are becoming a popular method used in global economies to reduce unemployment. Studies in the United States concluded that the WOTC program appears to be effective in the creation of job opportunities and circumstances that relates to employment, for example the duration thereof. An important factor to consider is the cost-effectiveness of such incentives. The South African Government estimates that the program will grant taxpayers a tax relief amounting to R500 million. Therefore the economic benefits resulting from this program must be sufficient to increase productivity to such an extent that the Government will redeem its losses in tax revenue. The cost-effectiveness for the private sector must also be considered. The tax benefits entities will receive must justify the additional costs relating to employment as well as the costs of providing individuals with the necessary skills to perform their duties.

The tax credit incentive proposed by the Government is an excellent substitute for the proposed youth wage subsidy. On the long run this program may benefit individuals to a far greater extend since they are provided with job opportunities instead of a once-off allowance. Like an old Chinese proverb says: "Give a man a fish and you feed him for a day. Teach a man to fish and you feed him for a lifetime.”

Source: Doria Cucciolillo 



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