on Share Buy-Backs from 1 January 2023?
Section 48 of the Companies Act No 71 of 2008, permits a company to acquire its own share equity issued to its shareholder/s by means of a transaction colloquially known as a ‘share buy-back transaction’ (“Buy-Back”).
A Buy-Back entails that the company will acquire its own shares against the payment of the Buy-Back consideration to the exiting shareholder. Generally, the amount received by a shareholder in respect of a Buy-Back is considered to be a dividend for income tax purposes under the definition of ‘dividend’ as contained in section 1 of the Income Tax Act No 58 of 1962 (“ITA”).
The definition of dividend, however, excludes an amount that transferred and applied to the extent that such amount results in a reduction of the Contributed Tax Capital (“CTC”) of the company. The CTC of any company is a notional and ring-fenced amount derived from capital contributions made to a company by its shareholders to acquire the shares of the company.
The CTC of a company is reduced by any capital amount that is subsequently transferred back by the company to one or more of its shareholders. Per the current definition of CTC (as contained in the ITA) the total CTC that may be returned to an existing shareholder is limited to that shareholder’s portion of the company’s total CTC. Therefore, the portion of the Buy-Back consideration paid to the shareholder that represents CTC, will not be treated as a dividend and may not attract income tax depending on the factual circumstances of the shareholder. The balance of the Buy-Back consideration may be taxable in terms of the ITA.
National Treasury has noted in the Explanatory Memorandum on the Taxation Laws Amendment Bill, 2021 (“TLAB”), dated 25 January 2022, that certain companies are exploiting the current provisions of CTC. Such companies will allocate CTC to the exiting shareholder on the basis of an alleged ‘share premium’ contributed by a specific shareholder. The effect thereof is that a certain shareholder contributed more consideration to acquire the shares as opposed to another shareholder of the same class and the CTC is therefore disproportionate to that of other shareholders.
In addressing the issue, the TLAB proposes to amend the definition of CTC whereby amount transferred would not constitute CTC unless all of the shareholders, in that class of shares (to which the CTC relates), participate in the transfer ‘in the same manner and are actually allocated an amount of [CTC] based on their proportional shareholding within that class’.
Thus, where a company enters into a Buy-Back and the Buy-Back consideration consists of CTC, such an amount shall only be considered to be CTC from 1 January 2023 to the extent that all the remaining shareholders of the same class was allocated CTC (return of their capital) based on their proportional shareholding. Where the latter is not met, the Buy-Back consideration shall constitute a dividend.
Parties which are desirous of entering into Buy-Back transaction and utilising the CTC of the company, should do so before 1 January 2023.