A person can elect to defer a capital gain arising on the disposal of qualifying depreciable assets when the proceeds are reinvested in qualifying depreciable assets. There is a matching deferral relief in respect of any recoupment of capital allowances on such assets. The election must be made in the tax return reflecting the disposal of the old asset.
Conditions under which an election to defer a capital gain may be made
A person can elect to apply deferral relief to the disposal of an asset under the following conditions:
- The asset must have qualified for a capital deduction or allowance.
- The proceeds must be equal to or exceed the base cost of the asset. Capital losses are unlikely to arise, as in most cases the person would claim a revenue loss.
- The relief applies when an amount at least equal to the receipts and accruals from the asset disposed of ‘has been’ or ‘will be’ spent to acquire one or more replacement assets all of which will qualify for a deduction or allowance. It is possible to acquire a replacement asset before disposing of the old asset, although if this is done too far in advance it will be questionable whether the asset so acquired is a ‘replacement’. There is no requirement that the replacement asset must fulfil the same function as the old asset. The only requirement is that the replacement asset must qualify for an allowance under the specified sections of the Act. For example, a person could dispose of a machine qualifying for a deduction, and use the proceeds to acquire a motor vehicle which also qualifies for a deduction.
- All the replacement assets must be from a South African source. A replacement asset comprising immovable property must be situated in South Africa, for example, a depreciable environmental waste disposal asset.
A replacement asset comprising a movable asset of a non-resident must form part of a permanent establishment in South Africa.
A replacement asset comprising a movable asset of a resident will be disqualified if it is effectively connected with a permanent establishment outside South Africa or if the proceeds on its disposal are subject to income tax by a foreign country.
- The relief applies when the contract for the replacement asset has been or will be concluded within 12 months of the disposal of the asset.
- All the replacement assets must be brought into use within three years of the disposal of the asset. A replacement asset may be acquired (contract concluded) and brought into use before the disposal of the asset being replaced.
- The Commissioner may extend the 12-month and three-year periods by no more than six months if all reasonable steps were taken to conclude those contracts or bring those assets into use.
- The asset must not be deemed to have been disposed of and to have been reacquired by the person. For example, the relief will not apply in a ‘degrouping’ situation in which a deemed disposal and immediate reacquisition is triggered.
Recognition of any remaining untaxed portion of a capital gain in year of disposal
If a qualifying replacement asset has been disposed of and not all the capital gain has been recognised at the date of disposal any remaining untaxed portion of the capital gain must be recognised in the year of disposal.
Cessation of trade
Any untaxed portion of a capital gain must be recognised in the year of assessment in which a person ceases to use the asset in that person’s trade.
Failure to conclude contract or bring replacement asset into use
If the person fails to conclude a contract within 12 months or fails to bring any replacement asset into use within three years, any disregarded capital gain will be recognised.
In this event, the disregarded capital gain is brought to account in the year of assessment in which the 12-month or three-year period ends.
Compensation for the loss of interest to the fiscus
A further capital gain must be brought to account in order to compensate the fiscus for the loss of interest it has suffered as a result of the unwarranted deferral if a person claimed deferral relief but failed to bring a replacement asset into use. This also obviates the need to revise the assessment relating to the year in which the old asset was disposed of.