DEBT WAIVERS – NEW DEVELOPMENTS
Given the difficult economic climate in South Africa and internationally over the past few years, National Treasury seems to have become increasingly sympathetic to taxpayers who wish to restructure their debt obligations due to the financial difficulties that they are facing.
Often, in order to save a company from insolvency, it is necessary that a portion of that company's debts are waived or forgiven. Unfortunately, the waiver of a debt has a number of potential adverse tax implications for the debtor. Where the debtor is a company, its assessed loss will be reduced and it may also suffer income tax on recoupments of previous expenditure (especially interest expenditure) or it may suffer capital gains tax on the amounts of the waiver under paragraph 12(5) of the Eighth Schedule to the Income Tax Act.
Imposing such tax charges on a company in financial difficulty usually means that a debt waiver plan cannot be implemented. This often means that the company has no alternative but to go into business rescue or liquidation proceedings.
Lionel Shawe of the Bowman Gilfillan banking and finance team and Barry Garven of the Bowman Gilfillan tax team recently met with National Treasury to discuss these issues. Also invited were a number of insolvency practitioners from around the country. The outcome of the meeting is that National Treasury is now aware of these issues and has agreed that the tax legislation needs to be amended as soon as possible.
In other words, it seems to be the intention of National Treasury that where a company is in financial difficulties and has its debts reduced or cancelled, it will lose any assessed loss that it may have but there will be no actual tax cost beyond this.
If this legislation is brought into effect, it will greatly assist those companies in financial difficulties that need to undertake a debt restructuring exercise.
We have urged National Treasury to consider allowing such a company to retain its existing assessed loss as, commercially, this would be very beneficial for a successful debt restructuring exercise. Often, a financially distressed company needs to borrow further from a financial institution or a third party. The fact that the borrower has an assessed loss that will remain intact (and therefore the borrower will not have a tax obligation until the loss is used) is seen as mitigating, to some extent, the lender's risk in making the loan.
The good news for companies in this position is that it appears that National Treasury will limit the tax consequences of a debt reduction or waiver to the forfeiture of the assessed loss. Exactly how this will be done and in what circumstances it will apply, will become apparent, hopefully, when the next round of tax amendments is published for comment.