W Taxpayer v CSARS (IT 45672)

The taxpayer, a waste management company, appeals against additional assessments raised by SARS for the 2015 and 2016 tax years and the imposition of understatement penalties (“USP”).

Issues:

1) Whether the taxpayer was entitled to the allowances claimed in terms of section 12C(1)(a) of the Income Tax Act 58 of 1962 (“IT Act”) in respect of the construction of landfill cells, allegedly used directly in the process of manufacture. This would, in simple terms, result in a 40% allowance in year 1 and 20% per year thereafter.

2) Whether the taxpayer was entitled to the allowances claimed for future expenditure in terms of section 24C of the IT Act.

3) Whether SARS was entitled to levy USP of 25% on the ground of “reasonable care not taken”

Statute:

Section 12C(1)(a) applies to machinery or plant used directly in the process of manufacture or a process of a similar nature.

Section 24C entitles taxpayers to an allowance in respect of income (i) received by or accrued to the taxpayer under a contract; (ii) which will be incurred in a subsequent tax year in performing its obligations under the contract, (iii) the future expenditure must either be deductible under the general rules or be used to acquire an “allowance asset”, and (iv) the income received and future expense to be incurred must arise from the same contract.

Section 37B defines “environmental treatment and recycling assets” as any air, water and solid waste treatment and recycling plant or pollution control and monitoring equipment (and any improvements thereto) if the plant or equipment is (i) utilised in the course of a taxpayers trade that is ancillary to any process of manufacture or any other process of a similar nature; and (ii) required by law to protect the environment.

Section 37B defines “environmental waste disposal assets” as any air, water, and solid waste disposal site, dam, dump, reservoir…if the structure is:

• of a permanent nature;
• utilised in the course of a taxpayers trade in a process that is ancillary to any process of manufacture or any other process of a similar nature; and
• required by law to protect the environment.

Finding:

Issue 1: The dispute was whether the taxpayer’s landfill cells were used directly in the process of manufacture, or (as SARS contends) in a process ancillary thereto – namely the storage of waste and treatment of leachate.

The process of manufacture is not defined in the IT Act. The parties agreed, however, that the principal characteristic of such a process is the alteration of a substance or material from one thing into something different. In the present case, for the taxpayer to qualify for the s 12C allowances claimed, what occurs in the landfill cells would have to amount to the alteration of the waste material or waste body into something different.

The court was of the view that the cells qualify as “environmental treatment and recycling assets” as defined in section 37B of the IT Act. The taxpayer would therefore be entitled to a different, smaller allowance in terms thereof.

The court held that the cells are not used in a process of manufacture as they do not drastically change the waste body and by-products once they are stored, whether in terms of utility or value. The cells are used to store already manufactured products.

The court consequently confirmed SARS’s view on this issue.

Issue 2: The amounts claimed under section 24C included an “unwinding effect charged to interest”. The taxpayer explained that the charges were an estimate of the future expenditure upfront so that it could be incorporated in the cost to customer. In other words, the charge related to the present value difference of future costs to be incurred by the taxpayer. These were included in respect of the treatment of leachate, rehabilitation capping costs and post-closure rehabilitation of the landfill cells.

SARS essentially disallowed the deduction as, in its view, the adjustment of the face value of future expenses to present day values cannot qualify as a deduction under section 24C.

Ultimately, the court was satisfied with the taxpayer’s approach in calculating the amounts claimed under section 24C and the taxpayer’s appeal succeeded on this issue.

Issue 3: The USP imposed in respect of the section 24C allowances claimed must be set aside since, as previously stated, it is common cause that if the taxpayer succeeds on the section 24C issue the attendant USP must fall away.

Find a copy of the judgment here.

21/01/2021