Now more than ever, as we navigate through these uncertain times, tax-payers will be looking to tax incentives as a tool to reduce their tax burden. Given that Retirement Annuity contributions are now capped at R350 000, a well-structured investment into a Section 12J fund presents an attractive alternative. As this allowance is capped at R2 500 000 per individual, it will eliminate the tax liability for the majority of taxpayers in South Africa.
Don’t be distracted by the phrase “Venture Capital Company” which has been ascribed to these companies in the Income Tax Act, says Tax Practitioner Neill Hobbs, a Section 12J specialist and CEO of Anuva Investments Limited. “Most of these companies are extremely well managed, have conservative investment strategies and competent leadership teams in place. I have consistently been impressed by the calibre of Section 12J fund managers and the efforts they put into nurturing and growing the businesses they invest into,” says Hobbs.
Many professional advisors are unaware of Section 12J and are quick to dismiss it, simply because they do not understand it. However, there are credible and well-managed investments available via Section 12J, even without taking the tax break into account. As with any investment, it is important to analyse the underlying assets, management and investment strategies. In point of fact, the risks involved with a Section 12J fund are generally much lower than market perceptions.
“The Section 12J incentive has been well-structured by SARS and rewards taxpayers for direct equity investment to stimulate economic growth amongst SMMEs,” Hobbs explains. His firm of tax experts at Hobbs Sinclair encourage their clients to take full advantage of the tax break provided for by the Section 12J incentive. “Although it is important that the tax and investment strategy matches the risk profile of the taxpayer, this generous incentive substantially rewards investors and should be seriously considered. It is difficult to see how a modest investment into this asset class does not significantly enhance a client’s portfolio,” he says.
So what is Section 12J exactly and how can different categories of taxpayer make use of the incentive?
The Section specifically aims to help the growth of small and medium- sized businesses by increasing their access to equity finance. To attract investors into this typically under-funded sector, which is imperative for driving economic growth, SARS has written Section 12J into the Tax Act, which offers taxpayers a 100% tax deduction in the year of investment if they invest in SMMEs by way of subscription of shares in a Section 12J Venture Capital Company.
How does it work?
If you are a salary earner (PAYE), your employer will deduct your tax each month and pay it across to SARS. Investors into a Section 12J fund will have their taxable income reduced by the amount invested and SARS will owe you a refund. For example: if you earn R100k per month (R1,2m per year), your annual tax is approximately R395 000 and therefore your nett earnings equal R805 000 per annum. If you invest R1m into the fund, then your taxable income is reduced by R1m; i.e. it is now R200k. Based on R200k income, your annual tax is now only R22k, but you have in fact already paid R395k! You will therefore get a refund of R395k less R22k = R373k (SARS will pay this back to you directly).
Provisional tax payers
Self-employed individuals or small business owners often fall into the bracket of provisional taxpayers. These individuals are expected to submit their tax returns in August and February each year. On making a 12J investment, this income is reduced by the amount invested, therefore income on which tax is calculated is reduced and so is the tax payable. By investing in Section 12J, a provisional taxpayer is legally avoiding having to pay the tax (whereas a salaried earner will receive a refund).
When the incentive was introduced as a stimulus, policy-makers included a ‘sunset clause’, setting out that no new S12J deductions will be granted after June 2021. Although the Section 12J industry is rallying to have the sunset clause extended, as it stands investors will only have two more tax seasons to benefit from the legislation.
Time to re-vamp your tax return
This time of the year is a particularly busy one for the Section 12J industry as taxpayers process their Section 12J investments, all scurrying for the tax certificate before the tax-year cut off. Hobbs’s final word of advice is for taxpayers not to go it alone: “There have been many changes to SARS policies and tax legislation this year. COVID will certainly have an effect on many tax returns.” An expert tax practitioner, who is informed about the available incentives, can assist you in submitting a tax-efficient return by applying these updated rules and determining tax savings. “Taxpayers should also be shown the option of investing their tax portion via the Section 12J rule. It’s a no-brainer and any responsible tax practitioner will be able to guide you through the incentive,” Hobbs concludes.