The Draft Taxation Laws Amendment Bill, 2011 (“the TLAB”) proposes Value-Added Tax (“VAT”) relief for developers renting properties prior to the sale thereof. As the law currently stands, if a VAT registered developer’s principal intention has been to acquire, renovate or construct and sell fixed property (and input tax incurred has been deducted) but subsequently changes the use of the fixed property, the vendor is obliged to make a so-called “change in use adjustment”. The change in use refers to the property being used for non-taxable purposes (such as renting the residential property) and the adjustment applies even if the rentals are only temporary. In terms of this adjustment, the developer has to account for output tax on the market value as the property originally acquired or constructed for the making of taxable supplies (i.e. the sale thereof in the course of his enterprise) is now used for a purpose other than rendering a taxable supply (i.e. the exempt supply of a dwelling under an agreement for the letting and hiring thereof).

It was acknowledged by the South African Revenue Service (“SARS”) and National Treasury in the Explanatory Memorandum on the Draft TLAB, 2011 that this change in use creates a major problem for developers in economic distress because it places the developer in the unenviable position of being forced to pay VAT on a deemed supply. Due to current market conditions, developers often rent properties prior to the sale thereof.

However, in terms of the TLAB, notwithstanding the change in use adjustments, where fixed property is developed by a VAT vendor who is a developer in the course of making taxable supplies and that fixed property is subsequently temporarily applied by that VAT vendor for supplying residential accommodation, the supply of such fixed property shall be deemed not to be a taxable supply in the course or furtherance of that vendor’s enterprise. There is, accordingly, no need for a change in use adjustment under these circumstances. However, if the vendor rents the residential fixed property beyond a 36-month period or applies that fixed property permanently for a purpose other than that of making taxable supplies, the change in use adjustment will apply.

It is proposed that a “developer” for these purposes means a person who constructs, extends or improves a building or part of a building for the sole purpose of disposing of that building or part of a building after the construction, extension or improvement. Accordingly, a “developer” will not include a person acquiring a property to resell should this person not “construct, extend or improve a building or part of a building”. Public comments on the TLAB proposed that the relief should also be extended to cover speculators and financiers of fixed property as speculators are also in the situation of being forced to rent unsold property. However, this comment was not accepted by National Treasury and SARS as the relief was designed to specifically aid developers from going into bankruptcy based on the VAT rules pertaining to the renting of residential fixed property. These developers are being caught with a large-scale set of properties built simultaneously. On the other hand, speculators acquire and sell fixed property speculatively over time, thereby having much more control over their cash flows. According to National Treasury and SARS, speculators have also been a common subject of VAT compliance concern and a special exemption will undoubtedly add to these concerns.

The proposed amendment will apply to all supplies of fixed property (i.e. change in use) made by fixed property developers on or after the date of promulgation of the TLAB, but before 1 January 2015. Public comments proposed that the relief for developers should apply retrospectively as the problem for developers began in 2008 at the inception of the economic crisis and the amendment should recognise this reality. The response from National Treasury and SARS to such public comments was, however, that the legislation will only cater for prospective relief. It was submitted that taxpayers must accept that their actions will be subject to the law in existence at the time of their actions. However, SARS submitted that it will deal with each issue administratively (on a developer by developer basis), recognising the issues of economic hardship. It is not known exactly what this undertaking means and it will, furthermore, not be enforceable against SARS.

By: Robert Gad, Director and Silke Bovijn a Candidate Attorney in the tax department at ENS
rgad@ens.co.za