Generally, the repurchase of shares by a company that is funded out of the company reserves is treated as a dividend for tax purposes. Secondary tax on companies (STC) is thus payable at the rate of 10% in respect of such repurchase. The argument is that the company is effectively declaring a dividend to its erstwhile shareholders, on the basis that the receipt of the purchase price in respect of such transaction would be exempt in the hands of the sellers. The sellers would also be entitled to utilise the STC credit associated with the "declaration" of such dividend. No capital gains tax would be payable by the sellers in respect of the transaction given the fact that they are receiving an exempt dividend. The effective cost of the transaction is thus borne by the company that is repurchasing the shares.
In the case of a listed company that embarks upon a repurchase of shares, the identity of the seller is often not known and the seller is not aware of the fact that it is selling shares in terms of a repurchase of shares by the company of which it is a shareholder. In other words, the seller will still account for capital gains tax on the gains made, whereas the company effecting the repurchase of the shares will still fund the transaction out of after-tax profits and account for STC.
Given this anomaly, it has been recognised by the legislature that a double tax liability arises in this instance. It has been announced in the recent Draft Taxation Laws Amendment Bill that the purchase price paid by a listed company in these circumstances will not be deemed to be a dividend. In other words, it will no longer be exempt and no STC will be payable in respect of the purchase price irrespective of the way in which the listed company may have funded the purchase price. The benefit is that, no STC is payable in respect of the transaction in circumstances where the seller is not aware of the possibility that it could use same or that the purchase price is exempt from tax.
It should be recognised that there is still a mismatch in this type of transaction, given the fact that the listed company may still fund the purchase price out of after-tax profits in respect of which it already paid tax at the corporate rate of 28%. Both the listed company and the seller of the shares will pay tax given the fact that the seller will in turn account for income tax or capital gains tax pursuant to the sale of the shares. At least the additional tax burden of the STC liability has been avoided in such instance.
It is noted that the suggested amendment applies to both a specific and a general repurchase of shares by a listed company. The question arises whether the amendment should only have been limited to a general repurchase of shares, as it is in those circumstances that the seller is not aware of the fact that it is selling the shares back to the company, in terms of the repurchase of shares. In the case of a specific repurchase of shares, the seller is aware of the identity of the purchaser, and it may well be that in those circumstances the better alternative is to treat the purchase price as a dividend where it is funded out of the reserves of the listed company.
Emil Brincker, Director, Tax