28 FEBRUARY 2000
In terms of section 24J of the Income Tax Act, 1962 interest on bonds is taxed on a yield to maturity basis. It is important to note that both coupon payments and the difference between the acquisition cost and the nominal value of a bond is defined as interest and is taxable for income tax purposes. An inflation linked bond is a variable rate instrument for purposes of section 24J. A “variable rate” is defined as a rate determined with reference to an interest or indexation rate or similar factor, being a rate or factor that varies or may vary during the term of the instrument. Furthermore, all bonds are included in the definition of an instrument for purposes of section 24J. The effect of these provisions is that amounts in respect of adjustments for inflation in the case of inflation linked bonds will be treated as interest and subject to the accrual rules contained in section 24J. The full amount of the inflation adjustment is therefore taxable, as is the case in Canada, New Zealand and the United States.
The tax liability is to be determined annually taking into account any adjustments to the principal amount and the coupon payments as a result of changes in the CPI. In determining the appropriate “yield to maturity” cash flows after the end of the year of assessment should be based on an assumed constant level of the known index as at year end. See the attached example illustrating the tax payable on an inflation linked bond.
Contact Person: Mr. Johan De La Rey (SARS).
Contact number: (012) 422-4915 (w), Cell No: 082 889 1730
ASSUMPTIONS
Date of acquisition of the CPI bond
30 May 2000
Amount invested
R1 000 000
Amount of principal of CPI bond on date of issue
R1000 000
Coupon dates
30 November / 30 May
Date of maturity of bond
30 May 2005
Coupon rate as percentage of adjusted capital value
5%
Tax year
March to February
Consumer price index applicable to coupon payments
Month Index
May 2000 100.0
Nov 2000 103.0
May 2001 106.1
Nov 2001 109.3
May 2002 112.6
Nov 2002 115.9
May 2003 119.4
Nov 2003 123.0
May 2004 126.7
Nov 2004 130.5
May 2005 134.4
Calculated monthly yield to maturity rate for tax purposes
Year Rate
2001 0.468%
2002 0.596%
2003 0.759%
2004 0.991%
2005 1.398%
2006 1.398%
Taxable income of holder of the CPI bond
Year R
2001 42,517
2002 73,216
2003 95,702
2004 131,298
2005 201,967
2006 128,125
672,825