24 February 2016 by Special Edition Tax and Exchange Control Alert

Venture Capital Companies

Section 12J of the Income Tax Act was introduced in 2008 to stimulate much-needed equity funding for small businesses. It provides for the formation of an investment holding, described as a Venture Capital Company (VCC). Investors subscribe for shares in the VCC and claim an income tax deduction for the subscription price incurred. The VCC must then deploy most of these subscription proceeds within three years by subscribing for shares in investee companies.

Although s12J was a very welcome addition to the Income Tax Act, it is subject to rigid requirements and anti-avoidance provisions which are difficult to manage and which, if breached, trigger terminal tax consequences. In addition, although s12J provides that there is no recoupment of the investor’s tax deduction where the investor sells the shares in the VCC after 5 years, returns of capital after 5 years are not subject to the same exemption.

As a result, the VCC regime is fiscally unstable to implement and does not facilitate the normal economic drivers of a typical investment fund. It is therefore encouraging that National Treasury has heard the call to make further changes to s12J. If it is sufficiently enabling it will allow the VCC regime to fulfil the vital role of stimulating entrepreneurs in South Africa.

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