02 - Buy and Sell, Share Buyback

Question 1

Estate Duty Act - sec 3 (3) (a) (i)

Answer 1

Policy payable to child/spouse of decease under duly registered ante/post nuptial contract

Question 2

Estate Duty Act - sec 3 (3) (a) (iA)

Answer 2

Buy and Sell policies

• Policy must be taken out by a person (both must be persons)
• Partner or Co-shareholder or Co-member in the same entity on date of death
• Purpose of enabling policyholder to acquire part or all of deceased’s shareholding/interest AND any claim by deceased against the company (e.g. shareholders loan)
• No premium was paid or borne by deceased.

Value of the policy must be in line with the actual value of the shareholding/interest.

If all four requirements are met - deemed to be free of estate duty

Question 3

Estate Duty Act - sec 3 (3) (a) (ii)

Answer 3

Keyman policies

except where the provisions of paragraph (i) or (iA) of this proviso apply, the Commissioner is satisfied and remains satisfied that

(1) Initiated - such policy was not effected by or at the instance of the deceased,
(2) Premium paid - that no premium on such policy was paid or borne by the deceased,
(3) Payment to estate - that no amount due or recoverable under such policy has been or will be paid into the estate of the deceased
(4) Payment to connected parties - and that no such amount has been or will be
- - paid to, or utilized for the benefit of, any relative of the deceased
- - or any person who was wholly or partly dependent for his maintenance upon the deceased
- - or any company which was at any time a family company in relation to the deceased;

If sec. 3(3)(a)(ii) does not apply,
the death claim value of the policy will fall in the estate for estate duty purposes and will potentially cause estate duty.

The level to which provision should be made for estate duty depends on whether the deceased was also a shareholder in the business – Estate Duty Act - sec. 4(p)

Question 4

Trust - Buy and Sell Agreement

Answer 4

1) Mr A - natural person, Mr B - Trustee
A person (Mr B) has transferred their shares into a intervivos trust.

Mr A dies - Sell to Trust B - Estate duty not applicable
(Trust takes out policy on Mr A)

Mr B dies - Sell to Mr A - Estate duty applicable (premiums + 6% interest are deductible from proceeds)
(Mr A takes out policy on Mr B - Trustee)

Where it breaks down is in requirement 2 - both parties must both on shares at date of death - SARS, allows for exception if Trust has policy in natural person.

2) Mr A - Trustee, Mr B - Trustee
Does not meet requirement two.

Question 5

ITA - Eighth Schedule - Para 55 (1) (a) (i)

Answer 5

A person must disregard any capital gain or capital loss determined in respect of a disposal that resulted in the receipt by or accrual to that person of an amount—

Para 55 (1) (a) (i)
If the policy is disposed of by/paid out to the original beneficial owner of the policy then it is exempt from CGT.

Question 6

ITA - Section 1 - Dividend

Answer 6

Definition of dividend
-includes any amount transferred or applied by a company that is a resident

• for the benefit or on behalf of any person
• in respect of any share in that company,
• whether that amount is transferred and applied as consideration for the acquisition for any share in that company
• BUT does not included any amount so transferred or applied to the extent that the amount so transferred or applied results in a reduction of the contributed tax capital of the company.

Company must make a determination that the portion of the buy back is capital related.

Question 7

What is Contributed Tax Capital and what is included?

Answer 7

Tax exempt - if payment is related to reduction in tax capital

1973 Act - Share premium = Tax capital
2008 Act - No par value - Therefore all Tax capital

Resident

Non resident

Tax Capital
Dividends and Dividend Tax
Capital Gains/Loss

Upon Death - ITA - Eighth Schedule - Para 40

• Death = Disposal of asset for proceeds at market value.
• Executor sells shares at tax capital value thought it is worth the entire share buy back value and therefore incurs a capital loss
• Executor will be liable for the dividend tax on the dividend portion of the share buyback.
• Capital loss incurred by executor of estate is a clogged loss (ITA - 8th Schedule - para 39; transaction between connected persons)

Question 8

ITA - Eighth Schedule - Para 40

Answer 8

Death = Disposal of asset for proceeds at market value.

There base cost of estate = market value

Question 9

Using a Life policy in the case of a share buyback

Answer 9

• Policy is dutiable (estate).
• Premiums not deductible under Sec 11 (w) (ii)

Share value property in estate

On death, shareholder deemed to have disposed of shares at proceeds equal to MV

The estate will sell the shares back to the company. The base cost will be the MV at date of death and proceeds will exclude the portion of proceeds that is a dividend.

Question 10

Under which regulations is a company allowed to buy back their own shares?

Answer 10

A company may buy back its own shares.

The company must comply with sec. 46 and sec. 48 of the 2008 Companies Act.

The 2008 Act (sec. 4) stipulates a solvency and liquidity test that must be complied with.

Repurchased shares becomes authorised un- issued shares.

Question 11

Why would a company buy back its own shares?

Answer 11

• To buy out a troublesome minority shareholder.
• To maintain family control of a private company.
• To facilitate employee share schemes.
• As an alternative to co-shareholders buying the shares from a deceased shareholder’s executor under a buy-and-sell agreement.

The main safeguards against abuse are the solvency and liquidity test and the personal liability directors may incur under sec. 77.

Question 12

What are the solvency and liquidity tests that must be complied with?

Answer 12

Solvency and liquidity test (s.4) - Companies Act

4. Solvency and liquidity test
   (1) For any purpose of this Act, a company satisfies the solvency and liquidity test at a particular time if,
   considering all reasonably foreseeable financial circumstances of the company at that time—

(a) the assets of the company, as fairly valued, equal or exceed the liabilities of the company, as fairly valued; and
(b) it appears that the company will be able to pay its debts as they become due in the ordinary course of business for a period of—
- (i) 12 months after the date on which the test is considered; or
- (ii) in the case of a distribution contemplated in paragraph (a) of the definition of “distribution” in section 1, 12 months following that distribution.

Question 13

Is a buy-back a distribution?

Answer 13

ITA - Section 1

“distribution” means a direct or indirect—
(a) transfer by a company of money or other property of the company, other than its own shares,

to or for the benefit of one or more holders of any of the shares, or to the holder of a beneficial interest in any such shares, of that company or of another company within the same group of companies, whether—

(i) … ;
(ii) … ;
(iii) as consideration for the acquisition—
(aa) by the company of any of its shares, as contemplated in section 48;

Question 14

What is the process for authorising distributions? (Companies Act Sec 46.)

Answer 14

Companies Act sec 46. Distributions must be authorised by board.—
(1) A company must not make any proposed distribution unless—

(a) the distribution—
- (i) is pursuant to an existing legal obligation of the company, or a court order; or
- (ii) the board of the company, by resolution, has authorised the distribution;

(b) it reasonably appears that the company will satisfy the solvency and liquidity test immediately after completing the proposed distribution; and
(c) the board of the company, by resolution, has acknowledged that it has applied the solvency and liquidity test, as set out in section 4, and reasonably concluded that the company will satisfy the solvency and liquidity test immediately after completing the proposed distribution.
(2) When the board of a company has adopted a resolution contemplated in subsection (1) (c), the relevant distribution must be fully carried out, subject only to subsection (3).
(3) If the distribution contemplated in a particular board resolution, court order or existing legal obligation has not been completed within 120 business days after the board made the acknowledgement required by subsection (1) (c), or after a fresh acknowledgement being made in terms of this subsection, as the case may be—
(a) the board must reconsider the solvency and liquidity test with respect to the remaining distribution to be made pursuant to the original resolution, order or obligation; and
(b) despite any law, order or agreement to the contrary, the company must not proceed with or continue with any such distribution unless the board adopts a further resolution as contemplated in subsection (1) (c).

Question 15

Who can be held liable if a distribution was authorised even though sec 4 requirements (solvency and liquidity) were not met?

Answer 15

Companies Act - Sec46.
(6) A director of a company is liable to the extent set out in section 77 (3) (e) (vi) if the director—

(a) was present at the meeting when the board approved a distribution as contemplated in this section, or participated in the making of such a decision in terms of section 74; and
(b) failed to vote against the distribution, despite knowing that the distribution was contrary to this section.

Question 16

What other restrictions imposed by Section 48 of the Company Act are relevant in terms of share buybacks?

Answer 16

(2) Subject to subsections (3) and (8), and if the decision to do so satisfies the requirements of section 46—
- (a) the board of a company may determine that the company will acquire a number of its own shares; and
- (b) the board of a subsidiary company…

(3) Despite any provision of any law, agreement, order or the Memorandum of Incorporation of a company,
- the company may not acquire its own shares, and a subsidiary of a company may not acquire shares of that company,
- if, as a result of that acquisition, there would no longer be any shares of the company in issue other than—
- - (a) shares held by one or more subsidiaries of the company;
- - or (b) convertible or redeemable shares.

(4) An agreement with a company providing for the acquisition by the company of shares issued by it is enforceable against the company, subject to subsections (2) and (3).

(6) If a company acquires any shares contrary to section 46, or this section, the company must, not more than two years after the acquisition, apply to a court for an order reversing the acquisition, and the court may order—
- (a) the person from whom the shares were acquired to return the amount paid by the company; and
- (b) the company to issue to that person an equivalent number of shares of the same class as those acquired.

(7) A director of a company is liable to the extent set out in section 77 (3) (e) (vii) if the director—
- (a) was present at the meeting when the board approved an acquisition of shares contemplated in this section, or participated in the making of such a decision in terms of section 74; and
- (b) failed to vote against the acquisition of shares, despite knowing that the acquisition was contrary to this section or section 46.

(8) A decision by the board of a company contemplated in subsection (2) (a)—
(a) must be approved by a special resolution of the shareholders of the company if any shares are to be acquired by the company from a director or prescribed officer of the company, or a person related to a director or prescribed officer of the company;

Question 17

Share buyback vs. Buy and sell

Answer 17

Estate Duty

• SBB - If funded by a policy, ED on policy. Premiums on policy taken out by company will not be tax deductible under sec. 11(w)
• BS - If structured correctly, no ED on policy
• SBB - ED on value of shares in estate
• BS - ED on value of shares in estate

Payment to Estate

• SBB - Payment to estate is a dividend and subject to dividend tax
• BS - Payment to estate tax free

Base Cost

• SBB - Does not increase share base cost for CGT
• BS - Buying shares of deceased increases BC

Issued Shares

• SBB - Number of issued shares decreases
• BS - Issued shares stay the same

Shareholding limitations

• SBB - If company acquires > 5% of own shares, must retain independent expert who must submit report to Board
• BS - Company does not acquire the shares, co- shareholders do

Other requirements (SBB)

• Company must satisfy the solvency and liquidity test for 12 months afterwards
• Board needs to take a resolution to determine whether any part of the payment is regarded as CTC

Question 18

ITA - Eighth Schedule - Para 55 (1) (a) (ii)

Answer 18

A person must disregard any capital gain or capital loss determined in respect of a disposal that resulted in the receipt by or accrual to that person of an amount—

Para 55 (1) (a) (ii)
- is the spouse, nominee, dependant as contemplated in the Pension Funds Act or deceased estate of the original beneficial owner of the relevant policy
and no amount was paid or is payable or will become payable, whether directly or indirectly, in respect of any cession of that policy from the beneficial owner of that policy to that spouse, nominee or dependant; or

Question 19

ITA - Eighth Schedule - Para 55 (1) (b)

Answer 19

A person must disregard any capital gain or capital loss determined in respect of a disposal that resulted in the receipt by or accrual to that person of an amount—

Para 55 (1) (b)
in respect of any policy, where that person is or was an employee or director whose life was insured in terms of that policy and any premiums paid by that person’s employer were deducted in terms of ITA - section 11 (w);

Question 20

ITA - 8th Schedule - para 39

Answer 20

Transaction between connected persons

Therefore Capital loss incurred by executor of estate is a clogged loss

Question 21

ITA - Eighth Schedule - Para 55 (1) (f)

Answer 21

Gain disregarded if the amount received or accrued constitutes an amount contemplated in section 10(1)(gG) or (gH).