The Supreme Court of Appeal (“ZASCA”) delivered a judgment[1] on 26 February 2019 on the imposition of understatement penalties as provided for in the Tax Administration Act[2].

In this case, the taxpayer paid provisional income tax (“IT”) of R13.8 million to the South African Revenue Service (“SARS”) for the 2011 to 2014 years of assessment. However, when (finally) submitting his IT returns, the taxpayer applied for a refund of the full amount of provisional tax paid on the basis that he had not commenced trading and submitted ‘nil returns’ for these periods. He was also not yet registered as a vendor in terms of the Value-Added Tax (“VAT”) Act[3] and therefore did not submit any VAT returns.

SARS performed an IT and VAT audit and confirmed that the taxpayer concluded consultancy agreements and earned substantial fees (which were inclusive of VAT) during these periods.

SARS considered the declaration of zero income and the failure to submit VAT returns to constitute gross negligence and levied 100% understatement penalties in respect of IT and VAT. The taxpayer objected to these penalties and SARS subsequently reduced the IT penalty to 25% (reasonable care not taken when completing the return) and the VAT penalty to 50% (no reasonable grounds for tax position taken). The taxpayer then objected to these decisions to the Tax Court.

The Tax Court found that SARS was indeed entitled to impose the understatement penalties. However, the taxpayer had been grossly negligent in his tax affairs and accordingly increased both penalties to 100%.

In hearing the taxpayer’s appeal to these findings, the ZASCA agreed with the Tax Court’s decision that SARS discharged its onus of proving the taxpayer’s “understatement” of his IT and VAT.

Interesting to note is that the taxpayer argued that there was no prejudice to SARS as it could simply have set off the R13.7 million provisional tax already paid against his current tax liability. SARS argued that without using additional SARS resources for purposes of the audit, it would have accepted the ‘nil returns’ and refunded the full provisional tax payment. Also, no VAT would have been paid. The ZASCA agreed and confirmed that prejudice is not only determined in financial terms.

The ZASCA furthermore confirmed that the Tax Court is bound to the documents presented. As SARS never raised the issue of the increase of the reduced penalties for adjudication, it was incompetent of the Tax Court to raise the reduced understatement penalties. The 100% penalties were therefore set aside and the original 25% and 50% penalties were reinstated.

[1] Purlish Holdings v The Commissioner for the South African Revenue Service (76/18) ZASCA 04

[2] Act No. 28 of 2011

[3] Act No. 89 of 1981

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