Last chance for Section 12J investments

Investors who want to invest in Section 12J still have until 30 June before the Treasury’s sunset clause on this South African tax incentive takes effect.

These investments offer investors a 100% tax reduction for investing in SMMEs in selected industries.

The incentive was introduced in 2009 and now has well over R10 billion under management. It was initially implemented with the understanding the Treasury would review the legislation after 12 years and decide on its future.

“Unfortunately, the Treasury decided against an extension, citing concerns regarding the effectiveness of the underlying investments in meeting its objectives, among others,” Dino Zuccollo, Westbrooke Alternative Asset Management principal and chairperson of the Section 12J Association of South Africa, says.

“There is also a need to increase tax collections, which may also have impacted this decision, especially during the pandemic.”

However, he says there is still one last chance to take advantage of the 100% tax deduction offered by Section 12J, which ceases at the end of June 2021. The incentive and its compliance requirements will not change, but the deductibility of the investment will fall away.

Zuccollo says the cap of R2.5 million for individuals and trusts and R5 million for companies remains, as well as the industries in which you can invest and the minimum five-year hold period. The capital gains consequence on exit also remains.

“There is no additional tax risk for investors who invest prior to 30 June 2021 and the rules of engagement for 12J remain the same,” he says.

Looking for alternatives

The cancellation of Section 12J and the requirement to invest by the end of June 2021, outside the traditional February tax season, raises some important considerations, such as choosing between asset managers and structuring houses and being careful about guaranteed income and buy backs.

Many providers offer Section 12J investments, but not all of them will be able to sustain their business models once the sunset clause starts. This is an important consideration, Zuccollo says.

“Investors should understand if (and how) their asset manager intends to sustain their business and whether they will still be around to manage client investments with the same level of skill and interest in years to come.”

He says Section 12J providers can broadly be classified as asset managers or structuring houses.

“In my view, asset managers are likely a safer choice, especially if they have a larger business where Section 12J is just one of the options offered. They also have a reputation to uphold, which incentivises them to make sure they do as well out of their Section 12J investments as they do with the rest of their investments.”

Structuring houses, he says, that were formed to create 12J structures, could be riskier. Zuccollo advises investors to enquire about their plans and the incentives they offer to ensure their services continue four or five years from now.

He warns that investors should also carefully consider promises of guaranteed income and buy backs.

“Guarantees are only as valuable as the strength of the guarantor or in other words, the balance sheet that underpins this guarantee.

“These promises could also put your investment at risk, as Section 12J companies are required to invest in equity shares and not guaranteed instruments. Do not be impressed by a clever marketing pitch when it might not be substantiated with substance.”

Investors should also remember to choose their investment mandates wisely and estimate their taxable income for Feb 2022.