Ninth Interim Report of the Commission of Inquiry into certain
Aspects of the Tax Structure of South Africa

(Katz Commission)

FISCAL ISSUES AFFECTING NON-PROFIT ORGANISATIONS (NPOs)

6. SPECIFIC PROPOSALS

6.1  General recommendations

After reviewing current legislation and practice, and in the light of international precedent and experience, the Commission thus recommends.

6.1.1 That the law should provide for a simple, generic definition of tax-exempt organisations, which might be characterised as "exempt public-benefit organisations".

6.1.2 That the subjectivity of the present system should be replaced by one which is objective and clearly defined as to eligibility criteria.

6.1.3 That the defining characteristics of "exempt public-benefit organisations" should include the following:

1. a "public-benefit" purpose or activity, falling within a schedule of such activities; or involving a further category prescribed by Ministerial Notice in the Gazette. (As social needs and priorities change over time, it may be appropriate to permit the addition by Ministerial Notice of further categories, albeit on an interim basis, say not exceeding 24 months, unless the Act is amended by Parliament);
2. formal registration in terms of the Non-Profit Organisations Act, No. 71 of 1997; and continued compliance with its conditions and disciplines;
3. a formal written Constitution in terms of which the organisation is constituted as either a Voluntary Association, as a Trust, or a section 21 Company;
4. a minimum number of members (to be prescribed);
5. the application of the major portion of "gross receipts" for philanthropic purposes; and not merely to benefit members or staff, or for some limited sub-category of beneficiary/ies;
6. a prohibition on the payment of remuneration to employees in excess of levels which, in the opinion of the Commissioner, are excessive, having regard to norms and standards applicable to NPOs from time to time;
7. an obligation to expend in any particular year at least seventy-five per cent (75%) of net revenue accruing in the previous tax year, save insofar as the Commissioner may approve the expenditure of a lesser percentage for reasons and purposes approved by the Commissioner; and
8. the avoidance of conflicts of interest or self-dealing for the benefit of Trustees, members or other persons associated with the organisations.

6.1.4 That the legislation should contain a schedule listing eligible public-benefit activities, which might include:

• charity and altruism;

• upliftment and development of indigent and disadvantaged communities;

• welfare and social services;

• religion, philosophy and belief;

• politics, public policy and advocacy;

• education, including adult, civic and public education;

• job training, skills transfer, and the promotion of entrepreneurial skills for the benefit of unemployed and indigent persons;

• recreation and sport;

• culture and arts;

• physical, mental and psychological health (including prevention, treatment, rehabilitation and support);

• environmental concerns, animal protection and wildlife conservation;

• the provision of legal, medical and other professional services for the benefit of indigent persons, either free of charge or at a charge which is significantly less than that normally levied;

• international organisations directed to the promotion of peace, friendship, cultural exchange and other beneficial purposes;

• museums of a scientific, cultural and historical nature; and

• institutions for the advancement of science.

6.1.5 Consideration could also be given to those ancillary taxes and levies, apart from income tax, for which a Registered Public Benefit Organisation might be exempt.

6.1.6 That any organisation aggrieved by the refusal of the Commissioner to recognise it as eligible in terms of the relevant scheduled categories, should have a right of objection and appeal to the Special Income Tax Court. It is suggested that in any such proceedings involving an NPO, one of the assessors should be a person having particular knowledge and experience of the sector.

6.1.7 That the ambit of the benefit of donor deductibility (from pre-taxed income) which, in terms of section 18A is presently restricted to educational institutions, be substantially enlarged by reference to a scheduled listing of organisations and categories of activity which would qualify for this benefit. The system could allow for some differentiation as to the scale or quantum of benefits on the basis that Government may wish to give differential and preferred encouragement to particular social priorities at different times. Recognising concerns expressed with regard to the difficulty of anticipating the likely impact this concession might have on future tax receipts, it is proposed that specific limits be established at this stage, which could be reviewed from budget year to year. Should there be concern that this recommendation would involve too great a loss of revenue, the proposal in respect of partial deductibility contained in paragraph 5.14.11 could be considered.

6.1.8 Having regard to the State's prerogative to determine its own fiscal priorities in the area of social and developmental spending, in addition to the general tax deductibility ceilings envisaged above, the State could also designate from time to time particular categories of social activity which could be eligible for more generous tax deductibility. Thus, for example, education, health, or housing (or some other category of social activity) could be designated as eligible, at a particular time, for more generous limits than those applicable to section 18A. The major drawback with this proposal however is that it will create much difficulty in determining into which category an organisation should be considered.

6.1.9 That an efficient computer system be introduced so as to calculate the cost of such deductions to the fiscus (i.e. tax expenditures). Such cost must be tabled in the annual Budget in the form of a "tax-expenditure budget".

6.1.10 That existing restrictions upon categories of permissible investments by tax-exempt organisations be rescinded for the reason that the common law itself requires prudent (and non-speculative) investment by persons holding fiduciary positions. If a need is perceived to further regulate this matter further, then the Income Tax Act is not regarded as the appropriate mechanism to achieve this purpose.

6.1.11 With respect to "trading" activities by registered public-benefit organisations, it is proposed that such activities be permitted within the following parameters. That:

1. on the basis of the de minimis rule, no tax implication should arise in respect of such "trading income" up to a limit of say R100 000,00 per annum, or five per cent of "gross receipts", whichever is the greater;
2. income derived from "related" trading- or fee-generation be exempt from tax, to the extent that the gross receipts derived from such income-generating activities do not exceed one-half of the gross receipts (including donations) of the organisation concerned. The balance would be subject to normal principles of taxation;
3. "unrelated" trading activity or fee generation would be permitted without restriction, but only if conducted within the structure of a separate wholly-owned or controlled subsidiary, which is duly constituted for this purpose. The income derived from such "unrelated" trading activities would be subject to normal tax, save to the extent envisaged by clause 6.1.11(i);
4. related trading be defined along the lines set out in clause 5.10.3(i) and (ii); and
5. these provisions must be reinforced by substantial penalties for fiscal fraud or evasion.

6.2 Donations Tax

6.2.1 Donation is defined, for the purposes of donations tax, as meaning any gratuitous disposal of property including any gratuitous waiver or renunciation of a right. This definition is incongruous with that of the common law in which a donation is defined as a transaction inter vivos between donor and donee whereby the donee is enriched and the donor correspondingly impoverished, such transaction being accompanied by an intention of the donor to enrich the donee at his or her expense. The different definitions have given rise to confusion in practice and there is no need to maintain the difference.

6.2.2 The Commission recommends that the statutory definition be amended to accord with that of the common law. Donation should thus be defined as a transaction, whereby one person without any legal obligation to do so, undertakes out of disinterested benevolence to give property to another person without receiving anything in return.

6.2.3 In the light of the recommendations made in this report, it is further recommended that section 56(1)(i) (donations by and to charitable and other institutions) and section 56(1)(j) (donations of property for charitable and other purposes) of the Income Tax Act, No 58 of 1962 should be deleted and that a new section 56(1)(i) should be inserted to exempt from donations tax, any donation of property to an institution which enjoys an exemption from income tax in terms of section 10(1)(f) (as amended in terms of the recommendations of this report). This will bring about consistency of treatment in respect of institutions classified as tax exempt.

6.3 Estate Duty

6.3.1 In its 4th Report, the Commission made a set of recommendations regarding incentives to encourage socially and economically beneficial bequests. As the Commission considers this set of recommendations to be highly appropriate to the objectives of the report, the relevant passages are cited in full.

"12.1 Evidence submitted to the Commission suggests that there is meaningful support for the estate duty regime to be modified to encourage socially and economically beneficial bequests.

12.2 Certain non-Governmental organisations would be identified on a periodic basis by Government preferably after consultation with provincial governments. The organisations so identified would be referred to in a Proclamation issued from time to time in terms of the Estate Duty Act. Although the Commission can clearly not be prescriptive in this regard, it would naturally be important for the attainment of the objectives sought to be achieved by this recommendation that the organisations so identified must be such that the testator can meaningfully identify with them.

12.3 Any bequest made to an organisation proclaimed as aforesaid:

1. would continue to form part of the dutiable value of the estate; and
2. the amount of the bequest would be a deemed discharge to that extent of the estate duty payable by that estate.

12.4 The purpose of the aforegoing is to encourage bequests by wealthy individuals to promote causes which Government identifies as being important to the public good. As set out above, the Commission cannot be prescriptive in the determination of the causes which should qualify for the aforegoing treatment, as these must be determined by Government.

12.5 In order to qualify, the bequest must represent an outright divestment of control of the amount in question. There must be no retention of any interest whatsoever by the estate in the amount or asset in question."

6.3.2 Unfortunately no action has been taken to implement this proposal. The Commission is of the opinion that the revenue from estate duty which will be lost pursuant to this recommendation is somewhat illusory in that the practical choice open to an estate owner is either to engage in more sophisticated estate planning or make the bequest as proposed. In short, the revenue channeled to the NPO sector though this proposal is unlikely to result in a significant erosion of the estate-duty base.

6.3.3 Within this context, the Commission considers its proposal to be particularly viable to the promotion of a healthy NPO sector.

6.3.4 The Commission does not consider that there is any case for altering the other taxes levied, such as VAT, to benefit the NPO sector. Such amendments would erode these tax bases and cause far greater harm than benefit.

19)   Section 55(1) of the Income Tax Act, No. 58 of 1962, as amended.
20)    Avis v Verseput 1943 AD 331 at 348.
21)   See D. Hutchison et al, Wille's Principles of South African Law (8th ed) at 624.