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Jerry L Margolius & Associates
Property Valuers* | Appraisers* | Sectional Title Consultant* | Arbitrator

Press Room

Simplified Capital Gains Tax - to value or not to value

Capital Gains is will come into effect on 1st October 2001, Valuers, if not already experiencing a high demand for their expertise and services, are likely to be faced with new and exciting challenges as the Tax is finally introduced. Let’s try and simplify the complex structures.

By now, many of you have attended the Institute’s seminars, listened attentively to the lecturers, raised questions and realise that there is a lot still to learn before we are fully equipped to deal with the many queries that will arise. Remember, I often stated that valuers are not accountants and vice versa. Believe me, you will now find yourself working more closer than ever before with your client’s financial adviser, exchanging knowledge to facilitate your client’s needs.

The purpose of this article is to acquaint valuers with a basic knowledge and will not deal with the more complex issues and tax structures, which will no doubt become the norm once portfolios are reviewed and some existing ownership structures are flattened in order to balance the investment portfolio.

The Taxation Law Amendment Act 5 of 2001 and the Explanatory Memorandum (available form the Government Printer), was promulgated on 20th June 2001. The legislation forms an integral part of the Income Tax Act as CGT, is considered a tax on income and the existing provisions and procedures of the Income Tax Act can be used to collect CGT.

Some salient features with which you need to acquaint yourselves regarding the submission of the valuations are:

  • Market value can only be used if a valuation is completed by 30th September 2003
  • (If your client does not have a valuation, he cannot present one to SARS after that date)
  • The valuation must be submitted with the tax return covering the period when the property is sold
  • In certain circumstances, the valuation must be submitted with the first income tax return after 30th September 2003 (regardless of the year to which the return relates) if market value of the property exceeds R 10 million

The disposal of an asset, and for the purpose of this paper I will only refer to fixed property, triggers CGT and the tax is then calculated on the amount by which the proceeds on disposal of the asset exceed the base cost.

Base cost is the actual amount spent on acquiring the asset and includes the cost of acquisition or disposal, creation costs, certain professional fees including those of a valuer, legal adviser, transfer costs, transfer duty, advertising costs, option costs etc. In addition, costs of improvements and enhancements are allowed. The normal running expenses deducted for income tax purposes will not qualify as part of the base cost in determining the gain liable for CGT. Essentially, the base cost will be deducted from the proceeds on disposable of the asset in the future in order to calculate the tax.

Property acquired before the introduction of GCT becomes more complex than would otherwise be the case. In such a case, the base cost is the value of the asset on 1 October 2001 plus certain expenses incurred thereafter.

Valuers should acquaint themselves with some of the basic rules which will apply. Valuation in respect of shares, long term insurance policies, unit trusts or usufructuary as well as farming immovable property are all specified in the CGT legislation.

There are three methods of valuation that the taxpayer may elect to determine the base cost, of which any one may be used, on any specific property (asset):

  • The Market value as at 1 October 2001; or
  • A time-based apportionment; or
  • 20% of disposal proceeds (this method is likely to be rarely used and possibly only when the market value has not been established or there are insufficient records that exist).

(Remember, if your client chooses the market valuation and he does not have a valuation, he cannot use this method of valuation)

Market value, …” the price which could have been obtained upon a sale of the asset between a willing buyer and a willing seller dealing at arm’s length in an open market” (Sect 31(g)). Please note that the legislation does make reference to value of Unit Trust, shares and other assets. The valuation is determined on the effective date being 1 October 2001.

Simply demonstrated is a property purchased in October 1991 for R 100 000 and sold in October 2006. The market value as at 1 October 2001 is R 650 000.

Therefore:

Cost 1 October 1991(10 yrs before CGT) R 100 000
Selling Price 1 October 2006(5yrs after CGT) R 700 000
Actual Profit R 600 000
Market Value 1 October 2001 R 650 000

Using Time-based apportionment, effectively eliminates the profit or loss arising or incurred prior to October 2001 by apportioning the loss or profit over the holding period (using a straight line pro rata basis), and thus effectively only taxing the amount attributable to the period beyond 1 October 2001.

Therefore:

Cost 1 October 1991(10 yrs before CGT) R 100 000
Selling Price 1 October 2006(5yrs after CGT) R 700 000
Actual Profit R 600 000
Market Value 1 October 2001 R 650 000
Base Cost 1 October 2001 R 100 000
(plus) 10 Years x 600 000 = R 400 000
15 Years
Base Cost 1 October 2001 R 500 000

The above examples ignore the applicable taxation.

Using the 20% Rule , value is calculated at 20% of the selling of R 700 000:

20% of R 700 000 = R 140 000

From the above, the three methods produced the following:

Market Value 1 October 2001 R 650 000
Time - Base Apportionment R 500 000
20% Rule R 140 000

Clearly, using the market value will provide the most favourable base cost and valuation should have been undertaken. This would no doubt have justified the costs of having an expert value the property in the first instance.

There is no maximum period which is taken into account in determining the time apportionment base cost in respect of those cases where the acquisition costs were incurred only once prior to the effective date. Thus, the seller can determine the capital gain by having regard to the entire period for which he has held the property.

When dealing with residential property which is deemed to be the primary residence of the Taxpayer, the first R 1 000 000 capital gain, is not subject to CGT. The exemption applies to the property, which is used for domestic purposes as an ordinary residence (S44). In respect of a small holding, the exemption applies to the first two hectares of the property used for domestic purposes and the entire property must be disposed of when the residence is sold.

Your clients need to keep their house in order and “record keeping” is essential (S73b). Records include:

  • (3) For the purposes of this section ‘records’ includes —
  • (a) any agreement for the acquisition, disposal or lease of an asset together with related correspondence;
  • (b) details of any asset transferred into a trust;
  • (c) copies of valuations used in the determination of a taxable capital gain or assessed capital loss;
  • (d) invoices or other evidence of payment records such as bank statements and paid cheques relating to any costs claimed in respect of the acquisition, improvement or disposal of any asset;
  • (e) details supporting the proportional use of an asset for both private and business purposes;
  • (f) details of any continuous absence of more than 6 months from a primary residence, as contemplated in the Eighth Schedule.

In the event that your client lodges an objection or appeal against an assessment, “that person shall retain all records relevant to that objection or appeal until that assessment becomes final.’’ (S73c) .

The Burden of proof rests on the appellant that the non-liability, deduction, abatement or set-off, of such amount must be disregarded or excluded (S82).

Valuations for CGT purposes do not necessarily have to be undertaken by a valuer. Although no guidelines have been published, it is clear that the valuer will play an important role in this process. Clearly, a valuer is the most knowledgeable in being able to undertake the valuation research and prepare a fully motivated valuation report.

Viewing Title Deeds, ascertaining the highest and best usage of the property, details of local authority and township conditions, research and analyzing of comparable data are likely to be that which SARS would like to see incorporated into a report. Certainly, respected professionals have publicly acknowledged the role of the valuer will have in this process so you must ensure that ultimately you are able to explain your calculations and that the valuation is a credible one.