Tax is­sue in new regime for merg­ers

SA tax leg­is­la­tion is not fully aligned with the Com­pa­nies Act

Business Day - Business Law and Tax Review - - BUSINESS LAW & TAX REVIEW - ROBERT GAD & JANEL STRAUSS

THE Com­pa­nies Act, 2008 in­tro­duced a new regime to South African cor­po­rate law whereby two or more com­pa­nies can merge their re­spec­tive as­sets and li­a­bil­i­ties into one or more com­bined com­pa­nies (we re­fer to this as a “statu­tory merger”).

The Com­pa­nies Act de­fines an “amal­ga­ma­tion or merger” to in­clude any trans­ac­tion where:

Each of the merg­ing com­pa­nies is dis­solved and the as­sets and li­a­bil­i­ties of these merg­ing com­pa­nies are trans­ferred to a newly formed com­pany or com­pa­nies; and

No new com­pany is formed but at least one of the merg­ing com­pa­nies survives and the as­sets and li­a­bil­i­ties of the non-sur­viv­ing merg­ing com­pa­nies, which are sub­se­quently dis­solved, are trans­ferred to the sur­viv­ing com­pany or com­pa­nies.

The re­form was aimed at pro­vid­ing a sim­ple and un­com­pli­cated frame­work within which com­pa­nies can merge. How­ever, our tax leg­is­la­tion is not fully aligned with the Com­pa­nies Act. Some key is­sues are:

Ap­pli­ca­tion of rollover re­lief pro­vi­sions A gen­eral mis­con­cep­tion ex­ists that a statu­tory merger nec­es­sar­ily qual­i­fies for the cor­po­rate rollover re­lief of­fered to an “amal­ga­ma­tion trans­ac­tion” in terms of sec­tion 44 of the In­come Tax Act, 1962. The tax rollover pro­vi­sions con­tained in sec­tions 42, 44, 45, 46 and 47 of the In­come Tax Act only ap­ply to trans­ac­tions meet­ing their spe­cific re­quire­ments. In many in­stances these re­quire­ments dif­fer from the statu­tory merger pro­vi­sions.

For ex­am­ple, sec­tion 44 lim­its tax re­lief to cer­tain types of trans­ac­tions in­volv­ing spe­cific share is­sues and debt as­sump­tions, whereas the statu­tory merger pro­vi­sions en­vis­age the trans­fer of all as­sets and li­a­bil­i­ties to the ac­quir­ing com­pany.

Although there is cur­rently no au­to­matic rollover of the tax po­si­tion of the merg­ing com­pa­nies, cer­tain changes have been in­tro­duced by the Tax­a­tion Laws Amend­ment Act of 2011 that im­prove the align­ment of the tax and cor­po­rate regimes; how­ever, risk ar­eas re­main.

Should an “amal­ga­ma­tion or merger” wholly or partly fall out­side the am­bit of the rollover re­lief pro­vi­sions, the trans­ac­tion may trig­ger un­ex­pected in­come tax, cap­i­tal gains tax, val­ueadded tax, trans­fer duty and/or se­cu­ri­ties trans­fer tax in the hands of any par­ties in­volved.

Trans­fer of tax li­a­bil­i­ties An ef­fect of the statu­tory merger rules is to trans­fer cer­tain tax obli­ga­tions to the merged en­tity. The com­mer­cial ex­po­sure may be in­ten­si­fied by the im­mi­nent Tax Ad­min­is­tra­tion Bill. Cer­tain pro­vi­sions of this bill will in­crease tax ex­po­sures and li­a­bil­i­ties, not only for the merged en­tity but also for share­hold­ers and fi­nan­cial man­age­ment per­son­ally.

Un­der­ly­ing cause of the trans­ac­tion A cru­cial is­sue is to de­ter­mine the un­der­ly­ing cause of the fu­sion of as­sets and li­a­bil­i­ties of par­ties en­ter­ing into an “amal­ga­ma­tion or merger” trans­ac­tion. Ar­guably, as­sets and li­a­bil­i­ties of the tar­get com­pany trans­fer to the ac­quir­ing com­pany by virtue of the un­der­ly­ing con­tract be­tween the par­ties. Should this be the case, the tra­di­tional con­trac­tual mech­a­nisms used (for ex­am­ple, the trans­fer of busi­ness agree-

The re­form was aimed at pro­vid­ing a sim­ple and un­com­pli­cated frame­work within which com­pa­nies can merge

ment) would gov­ern the trans­ac­tion.

The tax im­pli­ca­tions of the trans­ac­tion would be dic­tated by the type of agree­ment used and should be in line with the usual tax im­pli­ca­tions aris­ing from such agree­ments, pos­si­bly also by the tax rollover rules, if ap­pli­ca­ble.

Al­ter­na­tively, it could be ar­gued that the statu­tory merger pro­vi­sions cre­ated a new method of trans­fer­ring as­sets and li­a­bil­i­ties be­tween merg­ing en­ti­ties, namely the mere op­er­a­tion of law.

There are good le­gal ar­gu­ments in favour of this in­ter­pre­ta­tion and should they be cor­rect the statu­tory merger pro­vi­sions could have far-reach­ing tax im­pli­ca­tions. Firstly, it ex­tends the am­bit of the merger rules to con­trac­tual mech­a­nisms not tra­di­tion­ally used to ef­fect merg­ers (for ex­am­ple, an agree­ment for the sale of a busi­ness as a go­ing con­cern, fol­lowed by the wind­ing up of the seller).

These al­ter­na­tive mech­a­nisms may be­come use­ful in ef­fect­ing an amal­ga­ma­tion or merger. Se­condly, as­sets will not be trans­ferred in re­turn for any­thing (such as cash, shares or the as­sump­tion of debt) and the trans­ac­tion would ar­guably take place for no con­sid­er­a­tion.

Var­i­ous anti-avoid­ance pro­vi­sions in the In­come Tax Act that are aimed at non-arm’s length trans­ac­tions be­tween con­nected per­sons may be trig­gered. Typ­i­cally, these pro­vi­sions deem a trans­ac­tion to have taken place at mar­ket value. The ac­qui­si­tion of fixed or trad­ing as­sets with­out a cost can also be prob­lem­atic if the tax rollover rules do not ap­ply to the spe­cific case.

Go­ing for­ward Min­is­ter Pravin Gord­han ac­knowl­edged in his 2012 Bud­get Re­view that the re­write of the Com­pa­nies Act gave rise to anom­alies in re­la­tion to tax and an­nounced that the na­ture of com­pany merg­ers, ac­qui­si­tions and other re­struc­tur­ings will be re­viewed over a two-year pe­riod. In the mean­while, com­pa­nies in­tend­ing merger trans­ac­tions should pay spe­cial at­ten­tion to the tax im­pli­ca­tions of their pro­posed trans­ac­tions and not as­sume that the statu­tory merger regime has made it un­nec­es­sary to con­sider the tax ef­fects of these trans­ac­tions.

Fur­ther to this ar­ti­cle, a more de­tailed tech­ni­cal anal­y­sis of the var­i­ous tax con­se­quences can be found on our web­site, www.ens.co.za/news.

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