Deduction of interest in respect of debt incurred for the acquisition of shares

A number of years ago the legislature intervened by allowing the deduction of interest in respect of a debt that is used to fund the acquisition of shares in certain circumstances in terms of s24O of the IT Act. However, it is a requirement that the target company:

• must be an operating company;
• must form part of the same group of companies as the acquiror (70% equity shareholding).

The problem is that the 70% shareholding may be diluted pursuant to corporate action steps that may be implemented by the parties subsequently, for instance the introduction of a new company between the acquiror and the target company or the acquisition of a new group of companies. Provision will now be made that one can still claim the deduction to the extent that the acquiror still holds 70% on a direct or indirect basis of the target company.

Unfortunately, however, it is a requirement that the interest will only be deductible to the extent that the shares are acquired in a so-called operating company. In other words, the target company must already generate income as opposed to being a start-up company. This intention will be made clear, which limits the scope of the section to a large extent.

A number of taxpayers have also realised that the section does not benefit them that much in circumstances where the acquiror does not generate income. For instance, if a holding company acquires shares in a target company and does not have other taxable income, it is of little use to the holding company to be able to deduct interest. The relevant provisions are therefore only beneficial to the extent that it is an operating company that acquires shares in a target company as such operating company can then set off the interest that it can claim as a deduction against other income. Otherwise the ability to deduct interest is not of much use as the holding company would only generate dividends which are exempt from tax in any event.