Capital asset vs revenue asset

Beware – changing your intention about the nature of an asset can cost you more tax.

Capital asset vs revenue asset
- Advertisement -

We all know there is a difference between a capital asset and a revenue asset. Take an apple tree, for example. The tree itself is a capital asset. It produces fruit (and hence income), but it is not the fruit itself. The apple produced by the tree is a revenue asset, or an asset that generates income by its sale. If a few dozen apples are sold, the purchase consideration might equal the value of the tree. If the tree were to be sold for the same amount, the farmer might receive two piles of money – one for the apples, the other for the tree.

READ:Cost cutting – Are you in the danger zone?

The money in each pile would be identical, but SARS will view each pile as a different kind of money. One is revenue, subject to income tax. The other pile is capital. Although it doesn’t attract income tax, it is subject to capital gains tax (CGT).

- Advertisement -

Significant difference in tax payable
There will also be a difference in the amount of tax or CGT payable on each pile. The capital pile is likely to be subject to less tax. The farmer will thus put more after-tax money into his pocket from the capital pile. This is a very basic example. Most questions regarding whether an asset is revenue or income-producing are complex. Before 2002, all capital receipts were tax-free. Since then, CGT is payable upon the sale of a capital asset.

An asset considered as a long-term acquisition, such as a house or car, would be capital in nature. The very same asset, if acquired with a view to a fast sale, would be revenue in nature.

Changing your mind can cost you money
A change of intention will also affect the character of payments received. In the well-known matter of Natal Estates Ltd v SIR, the Appeal Court upheld the decision of the special court. This had ruled that the taxpayer had clearly changed its intention with regard to the land in question. The court took into consideration the scale of activities in the development, planning and sale of its properties. This was because the taxpayer had embarked upon the business of selling land. In the process, the land had become stock in trade. The proceeds from the sale of the land were therefore income or revenue in nature.

Keep diligent records when discussing assets

Circumstances play a major role in determining the intention relating to the holding of the asset on revenue account or as a capital asset. The seller, however, is permitted to give evidence in this regard, which is weighed in the usual manner by the Court. This was confirmed in SARS v Pretoria East Motors (Pty) Ltd (291/12) [2014] ZASCA 91, where the judges held that the taxpayer’s evidence and questions of its credibility be considered with great care.

Take care, therefore, when recording minutes of company, partnership or trust meetings that the fate of assets discussed are well considered from a tax viewpoint.

In this way, you will ensure that the correct intention is recorded.