The tax implication for having shares boil down to two things, whether your gain is income in nature or capital (gain) in nature. Let’s start by defining these two things:
Shares held as trading stock are bought mainly for resale at a profit. In other words, any shares held for speculative purposes normally fall under this category. The profits or any gain or loss made on the disposal of such shares (held for-profit/speculative) purposes will be of a revenue nature and will not be subject to capital gains.
Gains of a revenue nature are subject to tax at marginal tax rates that vary between 18% and 45% depending on the circumstances of the taxpayer after taking into account all his/her other income (such as salary, rent, business income e.t.c.) The taxpayer can also deduct expenses directly related to the trading of these shares such as broker fees, transaction fees, subscription to broker news, tools and platforms and any such costs directly related to the trading of these shares.
On the other end of the spectrum, for shares held as a capital asset (that is as a long-term dividend producing investment,) any gains or losses arising from such shares (held for investment/dividend earning) upon disposal will be of a capital nature.
Gains that are of a capital nature are subject to capital gains and at a lower tax rate than gains of a revenue nature. Firstly, you get an exclusion of R40 000 as an individual on your gains. This means that you start paying capital gains tax if your gains exceed R40 000 for a tax year (year of assessment.) This is known as the annual exclusion. For natural persons dying during or after the 2020 tax year of assessment, the exclusion is R300 000.
In addition to the annual exclusion, 40% of the gains are included in taxable income and then taxed as the normal marginal tax rates that apply to your salaries or other income. This 40% is known as the inclusion rate. Assuming that your marginal tax rate is 45% (the highest tax bracket,) the maximum you pay on capital gains is 18% (0.4 x 0.45 = 0.18.)
Yes, you guessed it right, there can be 0% tax on your capital gains when:
- The sum of capital gain and losses does not exceed the annual exclusion;
- The sum of capital gain is less than or equal to the sum of capital losses (which means your gains set off against your gains); or
- Taxable income falls below the level at which normal tax becomes payable, that is if your combined income plus gains fall under the tax-free threshold.
The effective rate (of 18%) we spoke about earlier applies if you fall in the highest tax bracket as an individual taxpayer. The rate is different from that which applies to companies or trusts. Companies and trusts, other than special trusts, pay a higher CGT than natural persons. They do not qualify for the annual exclusion and must include the capital gain at 80% of the gain into their taxable income. These are the effective tax rates:
- Companies are at an effective rate of 22.4% which is derived from the 80% inclusion rate and the 28% normal taxes for companies (0.28 x 0.8.)
- A trust that is not a special trust si at 36% effective tax rate for capital gains (0.45 x 0.8)
What we have done above is the simplest way to look at share-holding. Are things that simple? Not always. The line between gains/losses of a revenue nature or gains of a capital nature can be a bit blurry.
Capital vs revenue:
When computing your tax liability, the first step is to determine if your gains are capital or revenue in nature. Apart from the three-year rule according to Section 9C (that basically says you must own a share for at least 3 years for your gains to be treated as capital in nature,) the Tax Act itself does not provide objective rules to distinguish between gains of revenue and capital nature. This task has always been left to the courts, which over the years have established some rules for this distinction. So, the onus is on you as the taxpayer to prove that your gains are of a capital or revenue nature.
The most important factor in establishing the nature of your gains is the intention. This is not always an easy task since you can have more than one intention at a time and since intention can change over time. But, the courts have established that the taxpayer evidence as to intention must be tested against the surrounding circumstances of the case. These may include, the frequency of transactions, method of funding and reasons for selling. These may help establish your intention when you bought or sold the shares (Elandsheuwel Farming (Edms) Bpk v SBI.) “If they (the shares) were bought as a long-term investment to produce dividend income, the profit is likely to be of a capital nature. But if the shares were bought for resale at a profit, the profit will be of a revenue nature.”
In SIR v The Trust Bank of Africa Ltd it was established that for a profit to be of a capital nature, “the slightest contemplation of a profitable resale need not be excluded.
Where there were mixed intentions, the dominating intention is the one that establishes intention (COT v Levy.)
Some general guidelines/Principles (source, the SARS guide on tax implications on shares:)
- Any profit or loss on disposal of shares will be of a revenue nature if they were purchased for resale as part of a scheme of profit-making (Californian Copper Syndicate (Limited and Reduced) v Harris (Surveyor of Taxes)
- A profit on the sale of shares is more likely to be of a revenue nature if it was not fortuitous, but designedly sought for and worked for (CIR v Pick ’n Pay Employee Share Purchase Trust )
- The usual badge of fixed capital investment is that it is acquired for better or for worse, or, relatively speaking, for “keeps”, and will be disposed of only if some unusual, unexpected, or special circumstance, warranting or inducing disposal, supervened (Barnato Holdings Ltd v SIR).
- The scale and frequency of share transactions are of major importance, although not conclusive (CIR v Nussbaum).
- Shares bought for the dominant, main and overriding purpose of securing the highest dividend income possible will be of a capital nature when the profit motive is incidental (CIR v Middelman).
- Just as an occasional swallow does not make a summer, an occasional sale of shares yielding a profit does not of itself make a seller of shares, a dealer in them (CIR v Middelman).
I do not want to make this a complex matter, so let’s end here. If you need further information or guidance get in touch with me or consult your tax practitioner.
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