n Business Tax and Company Law Quarterly - Compensation for surrender of a right - the income tax and vat implications - a case note

Volume 2 Number 2
  • ISSN : 2219-1585


In this article, the author examines a recent, but still unreported High Court Tax judgment which dealt with whether monies received by the taxpayer for early termination of an exclusive right to distribute certain whiskies in Southern Africa was of a capital or revenue nature, and for VAT purposes, whether the payment was consideration in respect of the supply of services and subject to VAT at the standard rate. As regards the capital or revenue nature of the compensation payment, the court found that the compensation received by the taxpayer constituted a receipt of revenue, and was therefore taxable as such. While the court acknowledged that the distribution of the whiskeys constituted a significant part of the taxpayer's business, it held that the compensation was intended to compensate the taxpayer for its expected loss of profits due to the premature cancellation of its distribution rights. Importantly, the court again confirmed that while the method of calculation of the amount of compensation is an important factor, it is not determinative of the nature of the receipt. The other issue that required the court's consideration was whether SARS was correct in declining to exercise its discretion in terms of section 89(3) of the Income Tax Act 58 of 1962 ("the Act) to waive interest payable in terms of section 89(2) on the underpayment of provisional tax. The court found in favour of the taxpayer on the basis that its treatment of the compensation payment as capital in its hands was not an unreasonable conclusion. There was also evidence that the taxpayer had taken advice from tax experts.As regards the VAT aspects, while SARS was successful in arguing that the surrender by the taxpayer of its distribution rights constituted a taxable supply of 'services' by it, the victory was hollow in that the court also held the relevant 'services' were in fact subject to VAT at the zero rate - being asupply made to a non-resident who was not in South Africa at the time the services were rendered. An important conclusion arrived at by the court was that the situs of an incorporeal right is where the debtor (in this case the grantor of the distribution rights) resides. While the supply of services to anon-resident is generally zero-rated for VAT purposes (section 11(2)() of the Value-Added Tax Act 89 of 1991 - 'the VAT Act'), the supply is not zero-rated if, the relevant services are supplied directly in connection with movable or immovable property that is situated in South Africa at the time the services are rendered. Thus, even if it could be said that the distribution rights were movable property, on the basis of the decision of the court, such movable property (intangible distribution rights) was not situated in South Africa at any time.

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