Section 12J

Background

One of the main challenges to the economic growth of small and medium-sized businesses and junior mining exploration is access to equity finance. To assist these sectors in terms of equity finance, the South African government has implemented a tax incentive for investors in such enterprises through a Venture Capital Company (VCC) regime known as Section 12J.

The VCC is intended to be a marketing vehicle that will attract retail investors. It has the benefit of bringing together small investors as well as concentrating investment expertise in favour of the small business sector.

With effect from 1 July 2009, investors (any South African taxpayer) can claim income tax deductions in respect of the expenditure incurred in exchange for VCC shares.

The VCC regime is subject to a 12-year sunset clause i.e. it ends on 30 June 2021. This will allow for review of the efficacy of regime and a decision will then be made as to whether it should be continued.

What Does This Mean To Be An Investor In Kalon Venture Partners

Potential tax advantage for investors in Kalon Venture Partners.

 Investor Type Individuals Trusts Corporates
Gross Investment R1 000 000 R1 000 000 R1 000 000
Tax Relief (R450 000) (R450 000) (R280 000)
Net Investment R550 000 R550 000 R720 000
Effective % Tax Relief 45% 45% 28%

If an investment in Kalon Venture Partners exceeds the investor’s taxable income in the year that the investment is made, the tax loss created can be carried forward to subsequent years.

The full amount invested in Kalon Venture Partners is 100% deductible from your taxable income in the year in which the investment is made. This applies to individuals, companies and trusts.

An investor in Kalon Venture Partners will therefore obtain a 45 % tax break (for an individual tax payer at maximum marginal rate) at the time of investment.

If the investment in Kalon Venture Partners is held for a minimum period of time of 5 years the tax benefit conferred at the date of investment will become permanent, i.e. NO recoupment of the tax benefit in the hands of the investor when the investment in the Kalon Venture Partners is subsequently realised.

Kalon Venture Partners is able to invest in companies with total assets up to R50 million (previously R20m). This allows Kalon Venture Partners to be able to consider investment in larger, more established companies, thus significantly expanding the investment universe, while reducing investment risk.

Governing Legislation

Section 12J is subject to the provisions of the Income Tax Act No. 58 of 1962 (the Act). Section 12J was introduced to cater for the deductions in respect of expenditure incurred in exchange for the issue of venture capital company shares.

An Overview Of How It Works

Qualifying Investors will invest in approved VCC’s in exchange for the issue of Venture Capital Shares and investor certificates. Investors can claim tax deductions in respect of their investments in an approved VCC.

The approved VCC will, in turn, invest in qualifying investee companies in exchange for qualifying shares.

Who Qualifies To Be An Investor

Any taxpayer qualifies to invest in an approved VCC.

Qualifying investors can claim income tax deductions in respect of the expenditure actually incurred to acquire shares in approved VCCs.

Where any loan or credit is used to finance the expenditure in acquiring a venture capital share and remains owing at the end of the year of assessment, the deduction is limited to the amount for which the taxpayer is deemed to be at risk on the last day of the year of assessment.

No deduction will be allowed where the taxpayer is a connected person to the VCC at or immediately after the acquisition of any venture capital share in that VCC.

On request from SARS, the investor must verify a claim for a deduction by providing a VCC Investor Certificate that has been issued by an approved VCC, stating the amount of the investment and the year of assessment in which the investment was made.

Except in the case of Venture Capital Shares held by a taxpayer for longer than five years, the deduction is recouped (recovered) if the taxpayer disposes of the Venture Capital Shares to the extent of the initial VCC investment (under the general recoupment rules of section 8(4) of the Act)).

Standard income tax and CGT rules apply in respect of VCC shares.

What Supporting Documents Will The Investor Receive From The VCC

The approved VCC must issue investor certificates to its investors. This will provide SARS with the proof it needs to allow the investor the relevant tax deduction.

What Companies Can A 12J VCC Invest In (Qualifying Companies)

The Investee must be a company;

The company must be a resident of South Africa;

The company must not be a controlled group company in relation to a group of companies;

  • The company’s tax affairs must be in order (a tax clearance certificate must be requested from SARS to support this requirement);
  • The company must be an unlisted company (section 41 of the Act) or a junior mining company; A junior mining company may be listed on the Alternative Exchange Division (AltX) of the JSE Limited;
  • During any year of assessment, the sum of the “Investment Income” derived by the company must not exceed 20% of its gross income for that year of assessment;

The company must not carry on any of the following impermissible trades:

  • Any trade carried on in respect of immoveable property, except trade as a hotel keeper (includes bed and breakfast establishments);
  • Financial service activities such as banking, insurance, money-lending and hire purchase financing;
  • Provision of financial or advisory services, including legal, tax advisory, stock broking, management consulting, auditing, or accounting;
  • Operating casino’s or other gambling related activities including any other games of chance;
  • Manufacturing, buying or selling liquor, tobacco products or arms or ammunition; or
  • Any trade carried on mainly outside the Republic.
  • There are no special tax rules for investee companies. The standard tax rules will still apply.

Requirements To Be Met By Section 12J Companies

The company must be licensed by the Financial Services Board as a Category 1 Financial Services Provider.

The company must satisfy the following requirements by the end of each year of assessment after the expiry of 36 months from the first date of issue of Venture Capital Shares:

A minimum of 80% of the expenditure incurred by the VCC to acquire assets must be for qualifying shares, and each investee company must, immediately after the issuing of the qualifying shares, hold assets with a book value not exceeding:

  1. R500 million in any junior mining company; or
  2. R50 million in any other qualifying company

The expenditure incurred by the VCC to acquire qualifying shares in any one qualifying company must not exceed 20% of any amounts received in respect of the issue of Venture Capital Shares.

In addition, the VCCs qualifying shares must be acquired from companies operating in South Africa in permitted industries and sectors.

Responsibilities Of An Approved VCC

The VCC must maintain a record of all its investors. A copy of this record must be submitted to SARS in February and August of each year. The records must contain at least the following details of the investors:

  • Taxpayer Reference Number
  • Name of entity
  • Physical address
  • Nature of trade
  • Contact details
  • Number of shares issued (per investor)
  • Value of shares (per investor)
  • Date of issue of shares (per investor)

The VCC must maintain a record of all its investees. A copy of this record must be submitted to SARS in February and August of each year. The records must contain at least the following details of the investees:

  • Taxpayer Reference Number
  • Name of entity
  • Physical address
  • Nature of trade
  • Contact details
  • Number of qualifying shares received (per investee)
  • Value of qualifying shares (per investee)
  • Date of receipt of qualifying shares (per investee).

The onus will be on the VCC to ensure that it invests in companies (i.e. investees) that meet the stipulated requirements.

The VCC must issue “VCC investor certificates” to qualifying investors in the year in which the investment is received. The certificates issued by the VCC must include at least the following details:

  • The VCC reference number as issued by SARS.
  • The name and address of the VCC issuing the certificate to which enquiries may be directed
  • The date of receipt of the investment
  • The name and address of the Investor
  • The Taxpayer Reference Number of the Investor
  • The amount of the investment

On request from the Minister of Finance, a VCC must submit a report providing information that the Minister may prescribe.

Section 12J In Summary

An investor in Kalon Venture Partners will obtain a 45 % tax break (for an individual tax payer at maximum marginal rate) at the time of investment.

No recoupment of tax break at the time of realisation of investment in Kalon Venture Partners if the investment is held for a minimum period by the investor of 5 years.

Further Reading on Section 12J

What companies a Section 12J VCC can invest in? Click here

How do Section 12J VCCs mitigate risk when investing? Click here