3 minute read
Deducting fees from income received on investments
BOBBY WESSELS Consultant, AJM
With most South Africans facing high levels of strain on their pockets, following months of hard lockdown and ongoing economic malaise, one way to achieve a measure of relief is deducting fees from income received on investments. Crucial to claiming such a deduction is ensuring that the expense was incurred in the production of income, for the purposes of trade, and was not capital in nature.
These are three key hurdles to overcome, which form part of the general deduction formula and, if not satisfied, will result in the deduction being disallowed.
Whether an expense is capital in nature or not has possibly become one of the most contested questions in tax law today. Our courts have laid down a variety of tests that aim to solve this complex problem. Common to any enquiry as to the capital nature of an expense is the principle that the true nature of the expense needs to be considered. Where the expense is part of the cost incidental to the performance of the income-producing operations, it will not be regarded as being capital in nature. Where shares are traded frequently – although not decisive – it may be indicative of those shares not being capital in nature.
Fortunately, for those investing in shares, the legislature has stepped in to provide more certainty on the matter. Where you hold an equity share for three years, section 9C of Income Tax Act No. 58 of 1962 deems that share to be capital in nature and would automatically exclude you from including these expenses as deductions.
For most investors, the next biggest hurdle in the deduction of fees incurred on investments held, is whether or not they can be seen as carrying on a trade. While section 1 of the Act provides fora definition of trade, difficulties arise where an activity does not fall within the ambit of that definition.
Whether a person is carrying on a business as an investor of money will depend on the facts and circumstances of the particular case. Much will depend on the scale and nature of its activities. The fundamental principles of when a person is carrying on a trade is thus determined based on the facts and the nature of the entity’s activities. It is a question of degree.
The final requirement as part of the general deductionformula is whether the expenditure was incurred in the production of income. The South African courts have confirmed that such expenses are deductible expenses, provided they are so closely linked to such acts as to be regarded part of the cost of performing them. From this, two questions arise: (a) whether the act to which the expenditure is attached is performed in the production of income and (b) whether the expenditure is a necessary concomitant of the trading operations.
Section 23 of the Act makes provision for cases in which deductions will be disallowed. Among those are any expenses incurred in respect of amounts received or accrued which do not constitute income as defined in the Act (such as a portion of local interest income and local dividends).
Provided all the requirements of the general deduction formula are met, the example below can show the deduction to be afforded to investors:
Consider Mr X, who is under 65 and has paid R1 500 in adviser fees. He earned local interest on his investments of R50 000, local dividends of R20 000 and foreign interest of R50 000 during the tax year.
First, subtract the income tax exemptions received from his taxable income.
The local dividends would be completely exempt, while the first R23 800 of local earned interest will be exempt. The foreign interest will be wholly taxable. This leaves Mr X’s taxable income at R76 200.
The taxable income must be calculated as a percentage of total amounts received to get what is called the apportionment percentage. The apportionment percentage is calculated as follows: R76 200/ R120 000 x 100= 63.5%.
This means that of the R1 500 paid in adviser fees, only 63.5% (or R952.50) can be deducted.
Whether one qualifies for the deduction of adviser fees in terms of the general formula can be tricky to ascertain, yet if applied correctly, some healthy savings can be achieved.
