BY Simon Weber
Do the debt benefit rules apply to debts discharged in terms of the business rescue process? The tax fly in the business rescue ointment
The Companies and Intellectual Property Commission reported that between 2011 and 2018, a total of 2 867 South African companies initiated business rescue proceedings in terms of Chapter 6 of the Companies Act, 2008 (the “Companies Act”), with South African Airways SOC Limited (“SAA”) being the latest addition to this list. The purpose of these proceedings is to provide distressed companies with a fresh start by creating the potential for them to be rescued, to avoid insolvency and to ultimately be wound-up. The importance of this to the fiscus and economy can hardly be overstated.
One of the mechanisms in the Companies Act which comes to the aid of these companies is contained in section 154(2). In terms of this section, no creditor is permitted to enforce pre-business rescue debts against the company once the business rescue plan has been approved and implemented, unless the enforcement stems from the business rescue plan itself. The effect of this, according to commentators, is that this section brings about a full discharge of the debt in question.
Unfortunately, for companies who initiate the business rescue process, there appears to be a tax fly in the business rescue ointment. The starting point for the application of the so-called debt benefit rules contained in section 19 and paragraph 12A of the Eighth Schedule to the Income Tax Act, 1962 (the “Act”) is whether there is a “concession or compromise” of a debt. The legislature has defined a “concession or a compromise” of a debt as an arrangement in terms of which a debt is “cancelled” or “waived”. The question is – does a business rescue plan constitute an arrangement in terms of which a debt is “cancelled” or “waived”?
It is submitted that the questions posed above must be resolved by having regard to the rules of statutory interpretation. There have been significant developments in the South African jurisprudence insofar as these rules are concerned, and it is now settled law that one must consider the language of the legislation in context, having regard to its purpose from the outset, with neither predominating over the other. If these provisions apply to debts that are expunged in terms of the business rescue process, it may create adverse tax consequences for companies that are already in a financial predicament, thereby stultifying the broader aim of the business rescue regime. Moreover, this conundrum has been acknowledged by the National Treasury who pronounced in 2014 that the Act would be amended to provide relief.
Having regard to the rules of interpretation, it may be argued that the debt benefit rules are intended to apply only in cases where there is a bilateral agreement between a debtor and a creditor that a debt will no longer be due and owing. If this interpretation is accepted, the further question that arises is whether a vote by a creditor in favour of the business rescue plan constitutes such a bilateral agreement between the parties. This will of course require a detailed analysis of the business rescue plan.
Although it may not be uncommon for failing companies to have accumulated tax losses that may be offset against a tax liability arising under the debt benefit rules (if it is accepted that it applies in the current circumstances), the preservation of such losses may be vital to facilitate any post-business rescue restructuring.
With the South African economy in the doldrums, there may be a number of companies opting for the same ointment as SAA. This being so, the legislature should consider amending the debt benefit rules to make it explicit that they do not apply to debts discharged in terms of the business rescue process. However, until such time as the Act has been amended, business rescue practitioners should seek professional tax advice to navigate the tax implications attendant upon the business rescue process.
Reviewed by Peter Dachs, head of ENSafrica’s tax department.
Associate | Tax
+27 66 269 4671