Your dormant company: a tax penalty landmine

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AKHONA MATSHOBA: Remember that company you started a few years ago to formalise your side gig that you had great ambitions for, but that you eventually ran out of fuel to sustain and forgot about – until this very moment at least? Or that time you signed on as a director of a company your friend or a family member started, to help them fulfil registration requirements, but which is no longer really active today?

Well, that company, which exists as a registered company and is on Sars’s radar but no longer on yours, could land you in trouble with the tax man if the proper deregistration or liquidation processes were not followed to finalise the business’s economic inactivity.

To help explain why you need to be concerned about this is tax specialist and CEO of Hobbs Sinclair, a Cape Town-based financial services firm, Neill Hobbs. Welcome to the pod, Neill.

NEILL HOBBS: Thanks very much.

AKHONA MATSHOBA: So first things first. Can you please explain what exactly a dormant company is, and what conditions a company would need to meet to be classified as such?

NEILL HOBBS: Okay. You’ve explained it quite well in your introduction. It’s normally something [where] you have a great idea, or a couple of friends get together and you say, ‘We’ve this great idea. We’re going to form a company, we’re going to sell supplements to a gym’ – or whatever idea it is, or ‘We’re going to buy a piece of property and do a development’.

So you give an instruction to your accountants and they form a company and the company is then registered for tax. The project never comes off, you forget about it, or it runs out of steam at some point in time, and it kind of drops off your radar that you formed this company in 2014 and you haven’t really thought about it since then.

Your accountants may have been attending to some annual returns, but in fact you haven’t done your duties as public officer of that company in terms of submitting tax returns. So that is a dormant company.

It’s a company formed for a purpose, and the purpose has vanished, and it sits there, in a sense, on the shelf.

AKHONA MATSHOBA: Expand on that, Neill. Is there a time frame [within which] a company would have to [be inactive] in order to officially be a dormant company, or is it just one that I forgot about and I’ve kind of moved on?

NEILL HOBBS: A ‘dormant company’ is really a kind of generic phrase we use. It’s not something that’s defined as such. So it’s a company that you’re not paying attention to, and that generally is not trading.

AKHONA MATSHOBA: So at the end of 2022 Sars made some changes to admin penalty rules, which will have implications for these companies. Tell us more about these changes and the consequences they will have for business owners and directors.

NEILL HOBBS: Okay. The first thing I want to draw attention to is that in fact this has been in tax law since 2012. So the law has been there for a long time. What’s happened is Sars advised us in 2022 that they’re going to be applying this with effect from December 1, 2022.

So it’s almost like a landmine that has been lying there, in the Income Tax Act, and Sars hasn’t been utilising it or implementing it.

But what they’ve said [is that] from December 1, 2022, guys, this is in the law and we will be applying it from December 1, 2022 onwards. So not a new law, and it’s revenue practice now to apply this law that’s been there for some time.

AKHONA MATSHOBA: That characterisation of it being a ‘landmine’ was quite interesting. What motivated Sars to activate the landmine now, and not before?

NEILL HOBBS: If we look at what has been happening at Sars – particularly since the appointment of [Sars Commissioner] Mr [Edward] Kieswetter who has been a very, very good tax administrator – what Sars has been doing under his direction is tightening up all the loose nuts and bolts in the tax system.

One of those is that people have turned a blind eye to tax for years and years and years, so there are many taxpayers who might be three or four or five – in some instances up to 10 – years behind with their tax returns.

Let’s assume I have a company that might have been trading for the last 10 years, but I just haven’t bothered to put in the tax returns, and every now and then I get a reminder from Sars and I ignore it. What’s been happening is that Sars is becoming much more insistent that you put these returns in.

And I think that’s been the trigger that has led Sars to say: ‘We’re going to apply these penalties from December 1, 2022 onwards. You [the taxpayer] may be happy that you haven’t put in 10 years’ tax returns, but we’re not happy. It’s going to cost you if you don’t do it.’

So I think it really is about tightening up on compliance, and obviously all the outstanding 10 years of tax returns might mean a lot of revenue that hasn’t yet been brought to account in the coffers of Sars. So just by tightening up on compliance we’ve seen that Sars is collecting a lot of money that has in fact been owed to it for several years but which hasn’t yet been brought to account in Treasury. That’s one of the reasons why we’re heading for such a significant surplus in the current tax year.

AKHONA MATSHOBA: You mentioned cost just now. How large a cost could this be for these companies? You mentioned that this has been in effect for a while. It’s been there, but it hasn’t been put into motion for quite a number of years. So what is the cost implication for those directors or owners of these dormant companies? What are the penalties looking like?

NEILL HOBBS: The penalties appear to be deceptively small, but they accumulate on top of each other. So they do aggregate and that is really where the danger lies. The smallest penalty is R250 per month that a tax return is outstanding. So R250 by itself doesn’t sound a lot.

If I have a company for which I haven’t put in my tax return for 36 months, suddenly I’m looking at R3 000 a year for the first year, R6 000 for the first and second year, and then R9 000 for the third year. If we accumulate that, we end up with R18 000 in fact as the penalty I have to pay for my three outstanding tax returns. So suddenly it’s a lot of money [that is due if] the company’s going to do nothing.

AKHONA MATSHOBA: So in terms of the revenue potential for Sars then, Neill, how much is Sars standing to make from these collections starting I guess in the next tax season?

NEILL HOBBS: Unfortunately I don’t really have insight into that, but what I can tell you is that [here] we probably have about 400 companies. We’re a fairly small practice. We have about 400 companies.

Of those I would say something in the region of 25%. So sort of 80 or 90 of those companies would fall into the definition of ‘dormant companies’, not really trading or not trading on an ongoing basis. So if we put that fraction onto this, it could be a lot of money for Sars, and it’s money that’s not budgeted to be collected.

In terms of gross income earnings for [AngloGold Ashanti] and so forth, it’s fractional, but it still is going to be a significant amount of money. I don’t know what it amounts to in billions, but certainly billions would be the potential for this penalty.

AKHONA MATSHOBA: That’s quite helpful, actually. So in terms of someone who’s listening now and thinking I haven’t really seen some income coming in for maybe the past year or two, is that a factor as to whether or not they will be liable for penalties – the fact that they haven’t seen any income inflows in the recent history?

NEIL HOBBS: No, not at all. The fact that the tax return is outstanding is what’s going to trigger the penalty. I mentioned the figure of R250 per month as the penalty outstanding. That figure increases, depending on what the profitability of the company has been historically.

The maximum penalty in fact is R16 000 per month, and that is for a company that had an above R15 million taxable income.

If we pick something a little bit closer to reasonability, if we had a company that made, for example, a R1 million taxable income three years ago, the penalty is a R1 000 per month, accumulating for each month outstanding.

So whether the company has had income or not is irrelevant. What is relevant is that it is not tax compliant.

So if you’re director of a company and the public officer of a company that’s not doing very much, you still have a duty to get the tax returns in so that Sars can work out whether there’s tax due or not. So it’s a penalty on non-compliance.

AKHONA MATSHOBA: So, for those directors – like I mentioned in the intro, someone might join a company because they were just asked to, and they’re not really involved in the workings of that company – are they also liable, or is the owner? How does Sars determine who is going to pay that outstanding amount?

NEIL HOBBS: In the first instance, it’s the company itself. If the company has no resources, then Sars would look to the directors of the company and say, ‘You have the duty of governance over this company, and there will be a public officer’.

And the public officer is quite an interesting thing. There’s always been, in the Tax Act, a public officer who is the person responsible to Sars for submitting tax returns.

Now the sort of discipline over that has fallen a little bit into disarray, and that is something that Sars is tightening up on now – who the public officer is.

Sars wants to know the ID, they want a picture of the person with their ID so they know directly who the individual is who’s responsible for the tax non-compliance. But technically any director of the company is responsible by definition in the Companies Act for overseeing the affairs of the company. If they haven’t put in the tax returns, they’re personally liable. I’m talking to a company and all principals.

For Sars to now get a judgment against that person is another hurdle that Sars will have to cross.

AKHONA MATSHOBA: And in terms of then trying to rectify the issue, how do stakeholders of dormant companies go about trying to fix the issue before the tax man comes knocking?

NEILL HOBBS: Okay, the first thing to do is to absolutely be proactive. For example what I’ve done – and you can do this quite easily – is go to CIPC [the Companies and Intellectual Property Commission], the companies registration office, and you could draw what they call a ‘spider report’ of every company of which [you are] a director.

In my case that was quite a shocking situation. It was a couple of hundred companies. Then I went through each of those companies and checked the tax compliance states of those companies. Thankfully they were all tax compliant, [with] one or two that I had to bring to compliant status.

So if you want to know what you are potentially liable for, your best route is to go through CIPC and draw the list of companies that you are a director on.

Then, how do you engage with Sars? Sars always welcomes an approach rather than having to chase you down. So I would then engage with Sars and say, look, this is a dormant company and hasn’t traded for the last five years. I’ve attended to the outstanding returns, and I know that you can charge penalties. This is the first offence that I’ve handled that the company has had, and I apply for remittance of the penalties.

Now, although Sars can apply the discriminative penalties retroactively to date – I’m talking from sort of December 1 until now – what they’ve tended to do is apply a lesser penalty. So they might apply a penalty of just R2 000 or R500 [for] what they consider to be a late submission.

So it’s my observation – it may not be right in terms of what’s going on within Sars – but my observation is that they’re applying the penalties at the moment fairly lightly, and not with the heavy hand that they’re entitled to in terms of the Tax Administration Act.

So a good open, honest approach to Sars to say: ‘I’m sorry, I was unaware but completely overlooked the fact I was a director of the company. Here are the returns, there’s no tax payable, and I’m asking you to remit the penalties.’

They might reduce it down to a simple penalty of R500 or R1 000. That’s a lot better than the kind of R30 000 that might otherwise be the case.

So there’s not lack of sympathy. It’s kind of like when you are watching a rugby game and the referee says, ‘Okay guys, no more with this foul play, or I’m going to start doing yellow cards’. We’re at that stage – like they say, ‘Behave yourself. We want to see you moving towards compliance, and we are not going to be heavy-handed with you’. But that kind of tolerance will vanish as time advances.

AKHONA MATSHOBA: So cooperate with the tax man and he’ll be nice to you, basically.

NEILL HOBBS: Pretty much. We do ourselves a disservice and we demonise the tax man, but revenue officials are people with a job to do. My experience is be civil, be polite, be humble, especially when you’re in the wrong, and you’re likely to get a compliant and obliging person on the [other] side.

If I can digress slightly, I’ve had exposure to revenue officials in other countries. We’re actually very blessed with the people we have working at Sars because, by and large, we are dealing with people who want to cooperate with us, and at this stage getting tax compliance up to date is without doubt one of the major drives within Sars.

AKHONA MATSHOBA: I hope your advice is listened to and followed. But for those who aren’t listening to the advice and are like ‘no’, what consequences could they face for not rectifying the situation in good time?

NEIL HOBBS: The consequences are a hardening attitude from Sars. Sars does have the ability. Let’s say I’m the sole director of a company and I’ve ignored that company’s affairs for the last 10 years, and Sars sends me a final demand for submission of returns and I ignore it. Sars sends me a final reminder or further demand and I ignore it.

Sars does have the ability to go down to the magistrate’s office and put a judgment against my name. It doesn’t have to be heard by a magistrate. Sars simply lodges a statement that says that I’m responsible for the default by this company, and can lodge a judgment against me.

I know that it can happen because it has happened to me in something that I was completely unaware of. That was because my address was not up to date and the demands had gone to a separate address. That almost is your best-case scenario.

Once Sars has a judgment against you, whether it’s against the company or against you in your personal capacity, Sars then has the ability to go into your bank account and take money out of your bank account or instruct the bank to take money out of your bank account and pay it across to Sars.

Sars has the ability to go into the business and instruct the debtors of the business, people who owe the business money, to pay directly to Sars. I have seen that happen.

You really don’t want to get rough with Sars because Sars has a much better opportunity to become rough with you.

So the message is really a simple one: we want you to be law abiding. I’m speaking for Sars. ‘We want law-abiding tax citizens, and if you are not going to oblige us with that, we’re going to have to get increasingly harsh in the way we deal with you as a non-compliant, non-cooperative taxpayer.’

AKHONA MATSHOBA: That was Neill Hobbs, tax specialist and CEO of Hobbs Sinclair. Thank you Neill, for the insight.

NEILL HOBBS: Pleasure.

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