Page 572 - SAIT Compendium 2016 Volume2

IN 65 (2) Income Tax acT: InTeRPReTaTIon noTes IN 65 (2)
Example 2 – Asset ceasing to be held as trading stock
Facts:
Company XYZ, a developer, acquires land on which it erects several of ce buildings for the purpose of selling them at a pro t. It subsequently decides to keep one of the of ce buildings to house its head of ce.
Result:
Company XYZ has ceased to hold the of ce building in question as trading stock and has commenced to use it as a capital asset. The market value of the of ce building must accordingly be included in its income.
4.3.6 Determination of market value
The market value of trading stock must be determined on the basis that the transaction should have had the characteristic of one between independent parties trading at arm’s length, each striving to gain the most bene t from the transaction. In other words, a willing buyer and a willing seller dealing at arm’s length in an open market. The market value of an asset is the best price at which the asset would have been sold unconditionally for a cash consideration on the date of valuation assuming –
• a willing seller and a willing buyer (under no duress at all);
• that, before the date of valuation, there had been a reasonable period (having regard to the nature of the asset and the
state of the market) for the proper marketing of the interest and the sale to be concluded;
• that no account is taken of any additional bid by a prospective purchaser with a special interest;
• a sale either –
– of the asset as a whole for use in its working place;
– of the asset as a whole for removal from the premises of the seller at the expense of the purchaser; or – of individual items for removal from the premises of the seller at the expense of the purchaser; and
• that both parties to the transaction had acted knowledgeably, prudently and without compulsion.
The peculiar features prevailing in the market at the time must be taken into account, such as the seller disposing of a large quantity of trading stock all at once and not in the ordinary course of trade. The price of trading stock sold in large volumes will often be lower than when it is sold on an individual item basis; the market value of the trading stock in the two situations is often validly different. However, the price at which the transaction is concluded would not necessarily be market-related if it were made under duress, if there was insuf cient time for the trading stock to be properly marketed or if the seller did not act prudently or knowledgeably. Market value must be determined as at the date of the disposal and not at the end of the year of assessment.
4.4 Deemed inclusion in income at value – donations under section 18A [section 22(8)(c)] A taxpayer that applies trading stock –
‘for the purpose of making a donation in respect of which the provisions of section 18A apply’
is deemed to recoup an amount equal to the amount that was taken into account as the value of that trading stock for that year of assessment. The amount so ‘taken into account’ could be the amount deducted under section 11(a) in the case of trading stock acquired and donated in the same year of assessment or it could be the amount taken into account as opening stock under section 22(2). Typically this would be the cost price of the trading stock or its written-down value in the case of trading stock which has been written down below its cost price.
The expression ‘in respect of which the provisions of section 18A apply’ refers to a qualifying donee under section 18A(1). The donation in question need not necessarily result in a deduction under section 18A which contains a ‘10% of taxable income’ limitation. Thus, even if a donation to a qualifying donee exceeds the ‘10% of taxable income’ limitation in section 18A(1) such that only part of the donation quali es for a deduction, the full income inclusion at cost or written down value as appropriate must be accounted for under section 22(8)(c). The 10% limitation is merely part of the process through which a qualifying donation must pass and thus ‘applies’ to the donation regardless of whether it results in a deduction.
Section 18A provides for a deduction from the taxable income of a taxpayer of the sum of bona de donations made in cash or of property made in kind, actually paid or transferred during the taxpayer’s year of assessment to approved public bene t organisations and other qualifying organisations approved by the Commissioner which carry on approved public bene t activities. Under section 18A(3)(a) the deduction for trading stock donated as property in kind to an approved public bene t organisation or other qualifying entity is deemed to be an amount equal to –
• in the case of a nancial instrument, the lower of its fair market value on the date of the donation or the amount which has been taken into account with regard to that nancial instrument for the purposes of section 22(8)(c); or
• in any other case, including livestock or produce in respect of which paragraph 11 of the First Schedule to the Act applies, the amount which has been taken into account under section 22(8)(c) or paragraph 11, as the case may be.
4.5 Expenditure deemed to be incurred after the deemed inclusion in income [paragraph (a) of the proviso to section 22(8)]
Paragraph (a) of the proviso to section 22(8) stipulates that when trading stock is used or consumed by the taxpayer in carrying on the taxpayer’s trade, the amount included in the taxpayer’s income under section 22(8) is deemed to be expenditure incurred in respect of the acquisition by the taxpayer of the asset. In this way the taxpayer is able to secure a deduction for the trading stock so consumed or used in the carrying on of the trade provided the speci c requirements of the relevant deduction or allowance provision are met. The deduction could be immediate [for instance, expenditure qualifying under section 11(a) or (d)] or it could take the form of an allowance over a period [such as a wear-and-tear or depreciation allowance under section 11(e)].
564 saIT comPendIum oF Tax LegIsLaTIon VoLume 2