In ABC (Pty) Ltd v The Commissioner SARS (case number IT 13541) heard in Cape Town, and in which judgement was delivered on 20 April 2015, the judge analysed the section of the Income Tax Act that relates to the research and development (R&D) of computer programmes.
READ:Retiring to farm
In terms of Section 11D, certain classes of R&D qualify for a deduction of 150% of the costs that relate to such R&D.
The appellant, a software developer, maintained that its R&D activities fell within the ambit of Section 11D and that it was entitled to a 150% deduction in respect of its 2010 year of assessment.
The South African Revenue Service (SARS) conceded that R&D had indeed taken place and that the associated costs were deductible, but it contended that the software was intended for use in internal management or business processes and fell within the class of ‘prohibited’ R&D as per the then Section 11D(5) of the Income Tax Act.
SARS further contended that the software was primarily aimed at the improvement of the core business processes of the appellant’s customers. The appellant was of the view that the prohibition applied only to software produced by it that related to its own internal business processes and management. The judge analysed the wording of the section thoroughly.
Related only to internal business processes
SARS held that the only possible meaning that the words of the section could convey was that any expenditure that related to internal business processes or management of a client’s business activities in respect of computer software and design could not be deducted as these activities fell within the prohibition.
It held that the remainder of the portion of the section relating to prohibited types of activity that could not be deducted in terms of the special allowance of 150% dealt with exploration or prospecting, management or internal business procedures, trademarks, market research and so forth (and did not relate to the case).
The judge agreed with SARS. He mentioned the case authorities which deal with the interpretation of statutes and dealt with the interpretation aspect – which was essentially what this case turned on – very comprehensively and thoroughly.
No deduction allowed
Anyone grappling with the interpretation of a tax statute should read this ruling. In the end, the appeal failed. The appellant
was not entitled to deduct 150% of the costs relating to R&D expenditure, because this related to the internal business processes and management of the appellant’s clients.
Section 11D’s prohibited activities have been revised somewhat, but in essence are the same and are now excluded from the definition of R&D for purposes of the granting of the special 150% deduction, per subsection 11D(1) of the current Income Tax Act.
