Dr Carolina Meyer | Lecturer | Tax Law | University of Pretoria | mail me |
Addressing merger law gaps is essential for aligning tax and company legislation, fostering business efficiency, and encouraging investment. South Africa can promote future investment and encourage corporate growth by addressing discrepancies in laws governing mergers and amalgamations.
Section 44 of the Income Tax Act governs merger and amalgamation transactions from a tax perspective. It provides tax rollover relief if certain requirements are met. The Companies Act governs mergers and amalgamations under sections 113, 115, and 116. However, these two Acts are inconsistent in certain aspects.
Complete alignment between the two Acts regarding merger transactions would be impractical, as each serves a different purpose. However, addressing some discrepancies would promote ease of doing business and positively impact South Africa’s investment prospects.
Addressing merger law gaps
Both Acts allow merger transactions, or transactions with similar effects, to be executed using alternative mechanisms. These mechanisms bypass specific merger or amalgamation provisions described in the two Acts.
For example, the Companies Act allows mergers through more established fundamental transactions, such as a scheme of arrangement. This scheme has different requirements compared to those of a statutory merger.
From a tax perspective, amalgamation transactions can be actioned under an asset-for-share transaction in section 42 of the Income Tax Act. Alternatively, parties may rely on tax rollover relief provided by intra-group transactions under section 45 or liquidation distribution transactions under section 47. Each of these alternative mechanisms has its own requirements and anti-avoidance provisions. These mechanisms are more flexible for mergers but also involve additional complexities.
Due to uncertainties within the specific merger provisions of each Act, practitioners often prefer applying alternative sections. These alternatives achieve the effect of a merger transaction but may impose additional requirements. They also increase the administrative burden of executing mergers. While alternative tax relief provisions are more flexible, they may include more stringent anti-avoidance rules.
The inconsistencies between the Income Tax Act and Companies Act create uncertainty in applying and reconciling their provisions. As a result, the merger and amalgamation provisions under these Acts are unpopular. They are rarely used as the principal mechanisms for implementing mergers.
Merger law gaps holds businesses back
In my thesis, I identify discrepancies between these two Acts. For instance, the Companies Act requires that all assets and liabilities must transfer under a merger transaction without exceptions.
Additionally, section 116(7)(b) mandates that no obligations may be excluded from the transfer contractually. However, the Income Tax Act allows certain assets to be retained to settle debt under its “amalgamation transaction” definition.
If a merger is executed under the Companies Act, retaining assets to settle debt is ineffective. This is because, by law, all obligations of the amalgamated company become obligations of the resultant company. However, retaining assets under the Income Tax Act would exclude the transaction from section 116(7) of the Companies Act. Consequently, the transaction would fail to meet the “amalgamation or merger” definition in section 113 of the Companies Act.
Legislative amendments needed for clarity
Some of my recommendations include legislative amendments to address these inconsistencies. Amending current legislation would reduce uncertainty and improve clarity for merger transactions.
For example, the Income Tax Act should specify that assets withheld under section 44 would exempt the transaction from section 116 of the Companies Act. If section 116 does not apply, there would be no statutory merger by law. Asset transfers in such cases would need to occur manually, increasing costs.
I also recommend introducing new concepts, such as a short-form merger, in the Companies Act. This concept is missing in the Act and has no specific tax deferral provision in the Income Tax Act.
A short-form merger involves fewer procedural steps than a statutory merger. It typically occurs between sister companies or between a subsidiary and its holding company. This addition would modernize South Africa’s company law, offering companies a cost-effective restructuring mechanism. It would allow them to improve operational efficiency and reorganize group structures at a lower cost.
Promoting investment through legislative reforms
Corporate taxation is crucial in ease-of-doing-business scores. However, more attention is often given to the corporate tax rate than to existing tax policy.
By reviewing and amending tax and company laws to remove contradictions, South Africa can reduce red tape. This will support essential business activities, enabling companies to operate more efficiently and quickly. Simplifying legislation also improves South Africa’s attractiveness as an investment destination.
