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Introduction  

A disposal of a business or part of a business capable of separate operations by a registered operator as a going concern is deemed to be a supply made in the furtherance or course of the operator’s trade. The seller should account for output tax on the disposal, but with proper planning no VAT is payable, the disposal can be zero rated. The purchaser would not need to finance the VAT between making the VAT payment to the supplier and receiving a VAT refund from ZIMRA. We discuss the law on zero rating and the conditions that must be satisfied for the VAT to be avoided.

The Law and interpretation

A sale or transfer of a going concern is zero rated under s 10(1) (e) of the VAT Act as read with s12 of the VAT General Regulations, 2003 (SI 273 of 2003) which provides that “subject to proviso (ii) of paragraph (e) of subsection (1) of section 10 of the Act where the trade or part of a trade, as the case may be, is disposed of as a going concern and has been carried disposed of as a going concern (underlined words appearing to be drafting error) and has been carried on in, on or in relation to goods or services applied mainly for purposes of such trade or as simple  of a trade, as the case may be, and partly for other purposes, such goods or services shall,  where disposed of, be taxed at zero % if the sale represents the disposal of at least 51% of the trade or part of a trade”.  We analyse the key conditions as follows:

Seller and purchaser to be both registered

The sale should be effected by a registered transferor to a buyer who is also a registered operator. In order to safeguard himself from incorrectly applying the zero rate, the seller must obtain and retain a copy of the purchaser’s registration certificate. If the purchaser is not yet a registered operator at the time of the conclusion of the agreement, it is advisable that the agreement provide for the application of the zero rate being subject to the purchaser being a registered operator on the date the supply takes place, and to furnish a copy of the VAT certificate to the seller as soon as it is available.

Agreement must be in writing

The parties must agree in writing that (i) the trade is disposed off as a going concern and (ii) that it will be an income earning activity on date of transfer. Where an agreement for the sale of a trade as a going concern was concluded before, on or after commencement date, but the parties did not agree in writing that the trade is disposed off as a going concern they may enter into a separate agreement – based on the original contract – regarding this aspect. The written agreement(s) must, together with any other written agreements or documents relating to the sale, be retained. The agreement need not necessarily form part of the arrangement under which the ‘supply of a going concern’ is made. Below is an analysis of the conditions that must be agreed in writing by the parties:

The trade must be a going concern

A business transferred must be a going concern before and immediately after the transfer. This disqualifies any business which has actually ceased operation before the transfer. It was held in Belton v. CIR (1997) 18 NZTC 13,403 that there can be no going concern’ where, on the day of the supply, the activity carried on by the enterprise has ceased.  A short period of break or temporary closure immediately after the transfer to facilitate the smooth transfer or for purposes of cleaning and maintenance etc. does not however disqualify the sale as a transfer of a going concern. The activities must be capable of continuing after the transfer to new ownership. The transferee must use the transferred assets to continue with the same kind of business of the transferor, if the nature of business changes it ceases to be a sale of a going concern.  

Supply of an income-earning activity

There must exist an income earning activity on the date the ownership of the trade is transferred. As transfer of the trade might take place only in the future, there can be no certainty at the time of signing the agreement and fixing the VAT inclusive price whether the trade will in fact be as an income-earning activity when transfer takes place. The parties’ intention to transfer an income-earning activity is thus sufficient. The agreement must provide for the sale of an income-earning activity and not merely a trade structure. The new owner must be placed in possession of a trade which can be operated in that same form, without any further action on his part. For this reason an agreement to dispose off a business yet to commence or a dormant business is not a going concern.

Assets necessary for carrying on the trade must also be disposed

Assets which are necessary for carrying on a trade must be disposed off by the supplier to the recipient for zero rating to apply. Where all the assets used by the registered operator in a trade, except the premises from which the enterprise is conducted, are disposed of, it must be determined whether the premises are necessary for carrying on the trade disposed of. The assets or things which are necessary for the continued operation may vary according to the nature of the trade and the thing supplied and each case must be treated based on its facts.

Conclusion

Due to several rules needed to satisfy the requirements of a going concern you will almost certainly need an advisor to guide you through the process. There are serious tax ramifications if the attempt to zero rate the transaction fails. The VAT will become due, penalty and interest certainly apply for failing to pay the VAT due on time. Meanwhile Matrix Tax School will be hosting its Cross Border Taxes Seminar on the 17th of July 2019. Marvellous Tapera is the Founder of Tax Matrix (Pvt) Ltd and the CEO of Matrix Tax School (Pvt) Ltd. He writes in his personal capacity.

Background

The government introduced transfer pricing legislation with effect from 1 January 2016. The transfer pricing legislation made a number of provisions regarding transactions between associates. The key requirement of transfer pricing laws and rules is that transactions between associates or related parties should be at arm’s length. The arm’s length principle entails that the amount charged by one related party to another for a given product should be the same as if the parties were not related. What had remained a grey area, not clarified by the legislation is the documentation requirements to be maintained by associated persons. The government has through SI 109 of 2019 gazetted the Income Tax (Transfer Pricing Documentation) Regulations, 2019 which require every taxpayer to maintain documentation that verifies that the conditions in its transactions with related parties for the relevant tax year are consistent with the arm’s length principle. The regulations took effect from May 10, 2019, the date of their publication and are the focus of this article.

Law and Interpretation

Contemporaneous documentation is a requirement of transfer pricing laws in many jurisdictions. Documentation is considered to be contemporaneous if it is in place at the statutory tax return’s filing date. Each taxpayer should endeavour to determine transfer prices for tax purposes in accordance with the arm’s length principle, based upon information reasonably available at the time of the transaction. Thus, a taxpayer ordinarily should give consideration to whether its transfer pricing is appropriate for tax purposes before the pricing is established and should confirm the arm’s length nature of its financial results at the time of filing its tax return. However since this law was introduced in year 2016, there had not been any documentation prescriptions provided. The new regulations make detailed documentation requirements as will be discussed in this article. Documentation must include an overview of the taxpayer’s business operations (history, recent evolution and general overview of the relevant markets of reference) and organisational chart (details of business units or departments and organisational structure) together with a description of the corporate organisational structure of the group that the taxpayer is a member (including details of all group members, their legal form, and their shareholding percentages) and the group’s operational structure (including a general description of the role that each of the group members carries out with respect to the group’s activities, as relevant to the controlled transactions). Furthermore, the regulations require a description of the controlled transaction(s), including analysis of the comparability factors as well as an explanation of the selection of most appropriate transfer pricing methods, and, where relevant, the selection of the tested party and the financial indicator. Additionally, the documentation must provide detail of any industry analysis, economic analysis, budgets or projections relied on; details of any advance pricing agreements or similar arrangements in other countries that are applicable to the controlled transactions; as well as a conclusion as to consistency of the conditions of the controlled transactions with the arm’s length principle, including details of any adjustment made to ensure compliance.

Transfer Pricing for Domestic Transactions?

Meanwhile our TP rules are out of sync with the rest of the world because it also focusses on domestic transactions. The imposition of transfer pricing legislation on domestic transactions is administrate expense and presents complications. Firstly, there is anti-tax avoidance legislation that already existed prior to transfer pricing legislation and this legislation provides sweeping powers to the Commissioner General to adjust prices or income where the transactions, arrangements or operations between the parties are found not to be compliant with the arm’s length principle or not reflective of market prices. The second issue is that domestic transactions are being conducted in a jurisdiction with the same tax rate and conditions such that issues of profit or income shifting will not give rise to a permanent tax advantage to taxpayers. Rather, it will simply be a zero-sum game. Thirdly, transfer pricing documentation is very expensive to produce particularly for small to medium enterprises (SMEs) who form the bulk of taxpayers in Zimbabwe. In terms of the OECD Transfer Pricing Guidelines as well as the United Nations (UN) Practical Manual on Transfer Pricingfor Developing Countries (from which the Zimbabwean legislation largely borrow), taxpayers are not expected to incur disproportionately high costs and burdens in producing documentation and therefore require tax administrations to balance requests for documentation against the expected cost and administrative burden to the taxpayer of creating it. In addition, the OECD transfer pricing guidelines do not cover domestic issues as they focus on the international aspects of transfer pricing only. Where a taxpayer reasonably demonstrates, having regard to the principles of the OECD Guidelines, that either no comparable data exists or that the cost of locating the comparable data would be disproportionately high relative to the amounts at issue, the taxpayer should not be required to incur costs in searching for such data. That expensive documentation will be required of SMEs who may not afford it will rock at the core of the principles of taxation, chiefly the principle of Economy which requires costs of compliance to be at the lowest minimum and reasonable level. This problem is compounded by the fact that the new transfer pricing regulations did not specify thresholds in terms of revenue or values of transactions or taxpayers revenues above which transfer pricing documentation would be required. It therefore means that all taxpayers who engage in transactions with associates are obliged to keep contemporaneous transfer pricing documentation.

Decision Impact

The documentation can at any time be requested by the Commissioner and if so requested, it must be submitted within seven (7) days from the date the request is issued in the English Language. Taxpayers with related transactions should therefore prepare and submit transfer pricing documentation in order to avoid penalties. However, the authorities may need to re-examine the need for transfer pricing documentation in respect of domestic transactions as it may be too expensive to have transfer pricing documentation by SMEs. Meanwhile if the authorities maintain transfer pricing regulations on domestic transactions then thresholds for maintenance of documentation should be set.

The tax law requires records to be kept for 6 years. This is simple for income tax purposes because income tax returns have to be filed each year. Besides this, the records are dealt within a business set up. Under the Capital Gains Tax Act, record keeping is more problematic due to the fact that the disposals are infrequent and also because there could be a significant delay between the date the expenditure was incurred and the date of sale of the property. Another problem is that proprieties may also be held by individuals who hardly maintain records of their expenditure. It is rare for individuals to keep records of costs on labour, materials, amounts paid to contractors, any architect’s fees, building permit charges and legal fees directly connected with building their homes. The downside is that Capital Gains Tax will be levied on gross capital amount, against the spirit of the law which provides that capital gains tax should be levied on the net wealth i.e. proceeds less costs.   

In Zimbabwe, Capital Gains Tax is levied on specified assets, namely immovable properties which include homes, marketable securities and certain intangible assets. The tax is levied on capital gain which is the amount by which a specified asset’s selling price exceeds its base cost (cost of acquisition/construction, improvement, inflation allowance, selling costs etc). Capital Gains Tax is then charged at the rate of 20% of the capital gain for a specified asset acquired after the 1st of February 2009 and at 5% of proceeds if the specified asset was acquired prior to 1 February 2009. Marketable securities listed on Zimbabwe Stock Exchange stock are exempt from Capital Gains Tax, but are subject 1% Withholding Tax.

Deductible expenditure includes the cost of acquiring or constructing the specified asset. If you acquired the asset by way of inheritance your expenditure is amount declared for estate duty purposes of the deceased and in the case of a donation your acquisition cost is the amount used for Capital Gains Tax or Income Tax purposes of the donor. Expenditure on improvement, additions or alterations to the specified asset is also deductible, but does not include expenses deductible for Income Tax purposes such as repairs. Inflation allowance is 2.5% of acquisition or construction cost and cost of improvements, alterations or additions. It is granted per year or part of the year thereof from the date of incurring the expenditure until the date of selling the specified asset. Other expenditure that is deductible is that which is directly incurred or in connection with the sale of the asset.

Only provable expenditure is deducted, implying records should be kept of specified asset’s purchase price or construction cost, cost of improvements, additions, and other items that affect the basis of your specified asset. The records are required to prove or justify costs to ZIMRA. The exact information required depends on the type of asset sold, when it was acquired, how it was acquired, whether a valuation was used and how it was sold. On acquisition, documents to retain will include acquisition details, legal costs, stamp duty, valuation fees etc. An estate valuation report is required for an asset acquired by way of an inheritance. If expenditure was incurred in improving the property and this is reflected in the value of the asset on sale, then these costs are usually allowed and the invoices should be retained.

A formal valuation from reputable valuation firms (3 quotations) is required whenever a specified asset is sold. The Commissioner General can set aside the selling price if it has not been established at fair market price. The valuation report is required to justify selling price and should be retained. Any sale agreement giving details of the sale proceeds will be required as well. Where an asset is gifted, the sale proceeds may be the market value and evidence of this is a valuation report and this should be kept. Where the asset is destroyed correspondence relating to an insurance claim including details of any compensation received for a damaged asset should be retained.

Without paper work it is difficult to justify costs and you may be assessed on proceeds or a higher gain. The paper work should be written in the name of the owner of the property. The invoices or receipts should specify details of materials acquired (quantity and prices must be contained). Your file must also contain delivery notes. Quotations are not acceptable to ZIMRA. Where the materials have been bought unfortunately in the name of the contractor or third parties you may need an affidavit to confirm this. Also keep a contract between yourself and the builder or contractor to justify labour cost. The contract must be signed by both parties. Cash purchases tend to be the major area where audit trail often lacks. It is encouraged to transact through a bank account especially for large transactions. Where this is not possible insist on receiving receipts with full details of your purchases. When you are forced to buy from informal traders still insist on receipts and invoices. If these documents are not available consider making one yourself which the person must sign. Include his name, address and I.D. number in addition to the general contents of an invoice. If records of costs of acquiring/constructing or improving a specified asset are not kept you also stand to lose inflation allowance. For safe keeping of title deeds, receipts/invoices of expenditure and other related correspondences you may consider lodging copy files with your banker or lawyer. This way you may also be able to salvage these files if your original file is lost or was destroyed for instance in a house fire.