Special Deductions Notes

Special Deductions (SU 4)

Learning Outcomes

• Motivate whether expenses are deductible under special deduction legislation.
• Calculate the allowable portion of certain special deductions.
• Calculate taxable income by integrating general and special deductions.

Framework for Calculation (Silke P159)

• Gross Income (including general and specific inclusions) - XXXX
• Add: Deemed inclusions in income (e.g., s7 or s8(4)(a)) - xx
• Less: Exempt income (s10, s10A-C, 12T) - (xx)
• Income - XXXX
• Less: Allowable deductions
  • Deductions and allowances (all s11 “business”, not s11F) - (xxx)
  • Assessed loss (s20) - (xxx)
• Add: Amounts included in taxable income (s8(1)(a)) (Only Individuals) - xxx
• Add: Taxable capital gains (s26A) - xxx
• Less: s11F contributions (Only Individuals) - (xxx)
• Less: S18A Donations to PBO - (xxx)
• Taxable income - XXXX

Specific Sections Attended To

• Employee-related expenses
  • Restraint of trade (s11(cA))
  • Fund contributions – employer (s11(l))
  • Annuities (s11(m))
  • Life insurance premiums (s11(w))
  • Variable remuneration (s7B)
  • Learnership agreements (s12H)
• Legal expenses s11(c)
• Repairs s11(d)
• Bad debt s11(i)
• Doubtful debts s11(j)
• Repayment of employee benefits – s11(nA) & (nB)
• Donations s18A

Specific Deductions

• Purpose: To allow deductions not allowed under the general deduction formula (GDF).
• Specific deductions overrule GDF, even if more limiting.

Compensation Paid for Restraint of Trade - S11(CA)

• Taxpayer pays compensation for restraint of trade to:
  • Natural person (related to employment)
  • Labour Broker
  • Personal Service Provider (PSP)
  • = deductible, if the payment is “income” in the hands of the recipient (par(cA),(cB) of GI Def)
• Payments to normal companies are excluded.
• Payments to natural persons not relating to employment are excluded.
• Limited to the lesser of:
  • Amount paid divided by years of restraint or
  • 1/3 of compensation paid
• Example:
  • Mickey Ltd. paid R160,000 to Mr. Gavin Donald, a retiring executive, as a restraint of trade payment.
  • Gavin is restrained from competing for four years.
  • Mickey Ltd.'s year ends on the last day of February.
  • Gavin will be taxed on this amount.
• Calculation:
  • Lesser of:
    • $R160,000 / 4 years = R40,000$
    • $R160,000 / 3 = R53,333$
  • Thus, $R40,000$ will be deductible (not apportioned).
  • The payment is deductible over 4 years in even installments but Gavin will be taxed on the full amount on the earliest date of receipt or accrual.

Contributions to Funds - Sec 11(l)

• Employer contributes for the benefit of employee/former employee/dependents to:
  • Pension Fund
  • Provident Fund
  • Retirement Annuity Fund (RAF)
  • = 100% Deductible (unlimited)
• Benefit Fund (including medical aid fund) must be measured against s11(a).

Annuities Paid to Former Employees and Their Dependents s11(m))

• Taxpayer pays annuities to:
  • Former employee/retired partners (due to old age/ill health)
  • Dependents of former employee/retired partners
  • Dependents of deceased employee/partner
  • = 100% Deductible (no restrictions)
• Not deductible according to s11(a) as not in the production of income – therefore s11(m).
• Only applicable to annuities paid (not lump sums).
• If paid to a former partner:
  • Must have retired due to old age (> 55), ill health/infirmity
  • Who was partner for at least 5 years
  • Amount is reasonable compared to partner’s services/profit-sharing ratio
  • Must not be a payment for % profit-share itself
• Example:
  • Various annuity and lump sum payments were made to former employees, their widows, and other dependents.
  • Amounts deductible under s 11(m):
    • Annuity to former employee who retired due to old age: R28,500 (fully deductible)
    • Annuity to former employee not retired on grounds of ill health: Nil (not deductible)
    • Lump sum payment to retired employee: Nil (not deductible)
    • Annuity to widow of deceased employee: R30,000 (fully deductible)
    • Lump sum payment to widow of deceased employee: Nil (not deductible)
    • Annuities to dependents of deceased employee: R61,000 (fully deductible)
    • Total deductible: $R119,500$

Life Insurance Premiums / (Key-Man Policies) S11(W)

• Note the following:
  • We will tell you if “key man or life ” insurance premiums are tax-deductible per s11(w)
  • Proceeds when these policies pay out = GI Def par (m) inclusion for employer
  • If premiums were deductible, proceeds are not exempt (s10(1)(gH))
  • If premiums were not deductible, proceeds are exempt (s10(1)(gH))
  • Travel insurance or work accident plans will be deductible under s11(a) (known as employment event policies).

Variable Remuneration (s7B)

• Includes Overtime, commission, bonus, travel allowance, leave pay, night shift allowance, standby allowance, subsistence allowance.
• Also, any remuneration that is based on performance e.g., hours worked (but not for a bonus).
• Employer deducts expense on payment date; employee includes it in Taxable Income (TI) on the payment date 7B(2).
• But it is deemed to be on the day before death for a deceased employee.
• Payment basis used.

Learnership Agreements (s12H)

• Additional deduction for employers.

• Section 12H applies if, during any year of assessment, a learner:

  • Entered into (and annually stayed in) a registered learnership agreement with an employer (s 12H(2)), or
  • Was a party to a registered learnership agreement with an employer and the learner successfully completed the learnership during the year (s 12H(3) and (4)).
  • Extended to 31 March 2027

• Annual allowance

  • Have NQF 1-6 $R40,000$ ($R60,000$ if disabled) per 12 months of contract (pro rata for contract periods less than 12 months)
  • Have NQF 7-10 $R20,000$ ($R50,000$ if disabled) per 12 months of contract (pro rata for periods less than 12 months)
  • Also Pro rata if contract falls into different YoA
  • NB Get in each year of continued contract

• Completion allowance

  • If contract < 24 Months get the same value as above once again in year of completion (no pro rata)
  • If contract >= 24 Months get the same values as above again and again but only for each continued full period of 12 months
  • NB Get in total in year of completion

• Example 12.8(f):

  • Learner Shezi (NQF level 8) enters a 24-month registered learnership agreement with Easy Employ (Pty) Ltd on 1 January 2025.
  • Shezi successfully completes the agreement on 31 December 2026. Easy Employ (Pty) Ltd has a December year-end.

• Solution:

  • 2025: Section 12H(2A)(a) annual allowance: $R20,000$ ($R50,000$ if disabled).
  • 2026: Section 12H(2A)(a) annual allowance: $R20,000$ ($R50,000$ if disabled).
    • Section 12H(4A) completion allowance of $R20,000$ for every full 12-month period, thus $R20,000 * 2 = R40,000$ ($R50,000 x 2$ full 12-month periods = $R100,000$ if disabled).

Legal Expenses (S 11(C))

• Section 11(c) permits a deduction of legal expenses actually incurred by the taxpayer during the year of assessment from his income.
• On legal expenses incurred on any claim, dispute, or action at law arising in the course of or by reason of the ordinary operations undertaken by him in the carrying on of his trade.
• Such as fees for legal practitioners, expenses in procuring evidence or expert advice, court fees, witness fees and expenses, taxing fees, fees and expenses of sheriffs or messengers of court, and other expenses of litigation that are of an essentially similar nature.
• Excluding legal expenses of a capital nature (it is not a requirement that the legal expenses must be 'in the production of income').
• As long as the expenditure was incurred to prevent a claim for compensation, and the accompanying compensation or damages are deductible under s 11(a), OR if the deduction is in respect of a claim made by a taxpayer for the payment to him of any amount, which will constitute 'income' (and the legal expenses will be deductible).
• Legal expenses include costs such as lawyer's fees, court fees, sheriff's fee, etc.
• These costs must relate to a claim, legal disputes, or action at law (this generally means any disagreement for which parties require legal assistance - otherwise test for s11(a)).
• May not deduct (relates to capital assets):
  • Capital expenses
  • Expense relating to compensation claims against taxpayer if the claim itself does not satisfy s11(a)
  • Expense relating to claims by the taxpayer if the claim amount would not be Gross Income (GI)

Repairs (s11(d))

• The Act does not contain a definition of the word ‘repairs’ used in s 11(d).
• It must consequently be understood in its ordinary natural sense and according to its ordinary grammatical meaning.
• The meaning given in the New Shorter Oxford English Dictionary is: Restore (a structure, machine, etc.) to unimpaired condition by replacing or fixing worn or damaged parts.
• Flemming v KBI: There was no evidence that the asset required a replacement/restoration, thus the expenditure was incurred to improve the asset.
• CIR v African Products Manufacturing Co Ltd: For repairs effected by renewal, it is not necessary that the materials used should be identical to the material replaced.
• Note: Repairs must also relate to assets used in TP’s trade. It does not matter that it is capital in nature.

Bad Debt s 11(i)

• The deduction is allowed:
  • To the extent to which the debt has become bad during the year of assessment.
  • The amount of the debt must have been included in the taxpayer’s income (e.g., credit sales) in either the current or a previous year of assessment, and
  • The debt must be due to the taxpayer (it is submitted that a debt must be owing to him on the last day of the year of assessment).
• A bad debt arising out of money lent to an employee, for example, is not deductible in terms of s 11(i), since the amount of the debt would never have been included in the lender’s income.
• If bad debts are recouped by way of insurance contract – s 23(c) prohibits the deduction of bad debt as a loss (recoverable)

Doubtful Debts s 11(j) Allowance

• The deduction is allowed if:

  • The amount of the debt must have been included in the taxpayer’s income in either the current or a previous year of assessment, and
  • The debt must be due to the taxpayer (it is submitted that a debt must be owing to him on the last day of the year of assessment).

• Note: Any amount claimed in one year must be added back to income in any future years (becomes "income")

• 2 Scenarios for claiming the Allowance:

  • 1. If the taxpayer applies IFRS 9 to the debt
  • 2. If the taxpayer does not apply IFRS 9 to the debt

• 1. If the taxpayer applies IFRS 9 to the debt, then the allowance is:

  • 40% of:
    • The IFRS 9 loss allowance relating to impairment that is measured at an amount equal to the lifetime expected credit loss (not for lease receivables)
  • PLUS 25% of:
    • The IFRS 9 loss allowance relating to other impairment (not lease receivables or debt taken into account above) (E.g., this is debt not valued in terms of lifetime expected credit loss)

• 2. If the taxpayer does NOT apply IFRS 9 to the debt, then the allowance is:

  • 40% of the debt that is 120 days or more in arrears plus
  • 25% of the debt that is 60 days or more in arrears
  • Note: Exclude any debt to which IFRS 9 is applied. Debt included in 40% amount cannot be counted in 25%.

• Example:

  • In 2024, SARS allowed Chronicle Ltd to claim a doubtful debt allowance of R65,000.
  • During 2025, a total impairment loss allowance (IFRS 9 loss allowance) of R200,000 was determined by Chronicle Ltd in terms of IFRS 9. It consisted of R75,000 measured at an amount equal to the lifetime expected credit loss and R125,000 measured at an amount equal to the 12-month expected credit loss. Chronicle Ltd has never received any income from lease contracts.
  • Calculate the effect on taxable income in respect of the doubtful debt allowance for Chronicle Ltd for the 2025 year of assessment.

• Solution:

  • Year ended 31 December 2025
    • Add back: 2024 doubtful debt allowance: R65,000
    • 2025 doubtful debt allowance (s 11 (j)(i)):
      • (40% x R75,000 (measured at an amount equal to the lifetime expected credit loss))
      • (25% x R125,000 (measured at an amount equal to the 12-month expected credit loss)): (61250)

Repayment of Employee Benefits s11(nA) & 11(nB)

• Employee individuals may deduct:
  • s11(nA): refund of amount for services (e.g., a salary)
  • s11(nB): refund of restraint of trade payment
  • Must provide proof to SARS
  • Amount deductible when paid
  • Amount must firstly have been income

Donations Under S18A

• Donations to:
  • Certain Sec 10 exempt organisations’ public benefit activities
  • PBO’s (public benefit organizations)
  • Certain specialized UN agencies
• Deduction limited to 10% of TAXABLE INCOME
  • TI excluding any retirement fund lump sum benefit, any retirement fund lump sum withdrawal benefit, or any severance benefit
  • Whatever could not deduct in the current year is carried over to the next year (same limitations)
• Must obtain a s18A receipt

Donation in Kind S18A (Not Money)

• Various rules apply to the valuation of donations in kind, such as financial instruments, trading stock, and other assets, based on fair market value, cost, and applicable allowances.
• No deduction is allowed for the donation of certain assets like intangible assets or financial instruments (unless it's a share in a listed company or issued by a qualifying financial institution).

Assessed Losses (ss 20 and 20A)

• Covered in own lecture (see work programme).

Homework

• SU 4 Class Question 2 (discussion question) (in own time)
• SU 4 Class Question 3 (in own time) (also tests SU 2,3,5)
• LATER REVISION:
  • SU 4 Class Question 1 (discussion question)
  • QSAT 2025: 4.1 and 4.15
  • See SU’s (5,6,7) questions that include this work