Trusts set up for employees are under attack
DIVIDENDS from South African companies are exempt from income tax, but are subject to the 15% dividends tax. This exemption from income tax is, however, removed in certain limited cases.
With effect from 1 April 2014, the exemption from income tax will be removed (so that it will be fully subject to income tax at the maximum marginal rate of 40%, and will be exempt from the 15% dividends tax), if the dividend is related to shares acquired in respect of services rendered or to be rendered or by virtue of employment or the holding of any office, but the shares are not held by the employee himself or herself.
The purpose of this is to attack situations where a trust is established for employees, and the trust holds shares in the employer company, and dividends are then distributed to the employees in general. The government considers this to be just another form of remuneration, and the dividends should be fully taxable. An exception is where shares are restricted equity instruments under section 8C of the Act, because there will be income tax on the growth when the shares vest.
Unfortunately, the provision is not worded as narrowly as this and it goes much further. For example, assume that many years ago an employee paid full value for the shares they acquired in the employer company and transferred the shares to a trust or family company, as part of an estate planning scheme, or even to a spouse. Because the shares are not held by the employee personally, the dividend is fully taxable as ordinary income. Another example might be where a person acquired shares in the employer company and has since retired, but has retained the shares in a family trust. Because the shares were originally obtained by virtue of employment, from 1 April the dividend becomes fully taxable. Similar rules apply where the shares held produce foreign dividends, which would normally be taxed at the effective rate of 15%.
I have little doubt it was never intended that the legislation should go that far, but should be confined to trusts set up for the benefit of employees. Unfortunately, the drafting is so broad and imprecise, that it is capturing situations which I believe were never intended to be encompassed.