21 February 2019 by Cliffe Dekker Hofmeyr Special Edition Budget Speech Alert 2019

Review of venture capital company regime

By way of background, the Venture Capital Company (VCC) tax regime was introduced into the IT Act in 2009. Section 12J of the IT Act encompasses the relevant legislation governing VCCs and provides for the formation of an investment holding company, described as a VCC, through which investors can provide equity funding to a portfolio of small and medium-sized enterprises (SMEs). More specifically, investors subscribe for shares in the VCC and claim an income tax deduction for the subscription price incurred. The VCC, in turn, invests in “qualifying companies”.

Various legislative amendments to s12J have given rise to an increased participation in the asset class, evidenced by the increasing number of approved VCCs. To date, the South African Revenue Service’s (SARS) website indicates that 152 companies have been approved as VCCs, while two have had their VCC status withdrawn.

Over the years, concerns have been raised by various stakeholders regarding abusive tax structures using the current VCC regime or investment structures outside the policy intent when the VCC regime was introduced. In order to address the administrative and technical issues obstructing the increased uptake of the VCC regime and to curb the targeted abusive tax structures, further amendments were made to the VCC regime in 2018, such as:

  • the controlled group company test was amended and the definition of a “qualifying company” was extended to include a company which is not a controlled group company in relation to a group of companies in respect of which the VCC forms part. This amendment was made to clarify the policy intent that the controlled group company test is only to be applied within the VCC framework;
  • the investment income threshold test in paragraph (f) of the definition of “qualifying company” was also amended to allow for the 20% investment income test to be applied for the first time during any year of assessment of that qualifying company that ends after the expiry of a period of 36 months from the date of acquisition of shares by the VCC in the “qualifying company” and every year of assessment after that; and
  • in an attempt to close the various abusive schemes using the current VCC regime, the ability of a VCC shareholder having beneficial control through shares in a VCC or participation or voting rights in the underlying qualifying company was amended. In this regard, no person who holds a share in a VCC may hold, directly or indirectly, more than 50% of the participation rights or the voting rights in that underlying qualifying company.

The Budget is proposing that other aspects of the VCC regime will be reviewed as it has come to government’s attention that some taxpayers are attempting to undermine other aspects of the regime to benefit from excessive tax deductions. While not specifically mentioned in the Budget, it is also anticipated that the next round of tax amendment bills will also include proposed amendments to clarify one or two minor issues arising subsequent to the amendments introduced with effect from 1 January 2019.

Although the exact proposals have not been released, this indicates National Treasury’s view that the policy intent behind VCCs has always clearly been to create a pooling mechanism for investors to collectively channel funds into SMMEs and junior mining companies that are battling to get financing.

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