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Purchasing property for the purpose of reselling it at a profit is a taxable “scheme Of profit-making”

The bungalows which overlook the Clifton beaches on Cape Town’s Atlantic coast are amongst the most valuable real estate in the country.

Until 1994 the bungalows could not be owned. They belonged to the city council which leased them and permitted the lessees to build on the land. The council also permitted the lessees to “dispose” of their bungalows, in which event the council would enter into a lease with the new party.

For years, the lessees agitated for greater security of tenure and in 1986 the council adopted a scheme which gave them an option to purchase their sites at a fair price.

One of the lessees of the Clifton bungalows was a Ms Wyner. In 1986 she was told that her bungalow would be offered to her for R228 000, but for some unexplained reason, the offer was never made.

In 1994 the council passed a resolution that the Clifton bungalow sites be sold to the existing lessees at market value, and that those lessees who elected not to purchase be offered a 20-year lease at a market-related rental and permitted to purchase the bungalow at any time during those 20 years at the then prevailing market value.

In terms of this resolution, Ms Wyner’s bungalow was offered to her for R802 000. She decided to buy and resell it. She had no trouble in getting bridging finance from a bank and in October 1994 she took transfer of the property. In September 1995 she sold it for R2 850 000.

SARS assessed her and taxed her R701 000 in respect of that sale, having allowed her to deduct the cost of certain refurbishments. On appeal, the Tax Court ruled in favour of SARS. In a further appeal, Ms Wyner was victorious in the Cape High Court, which set aside the assessment.

The case then went to the Supreme Court of Appeal, whose judgement has just been reported. (See CSARS v Wyner 2004 (4) SA 311)

The crisp issue before the court was whether, in buying and almost immediately reselling the bungalow, MsWyner had been engaged in a taxable “scheme of profit-making”, given that, at the time she purchased the bungalow, she had decided to resell it within a year.

The essence of a “scheme of profitmaking”, as laid down in Elandsheuwel Farming (Edms) Bpk v SBI 1978 (1) SA 101 (A), is that it is the acquisition of property for the purpose of reselling it at a profit. Prima facie, Ms Wyner’s purchase and resale seemed to fit this definition exactly.

In finding in her favour, the Cape High Court had held that, in the particular circumstances of this case, Ms Wyner had had a sui generis (ie unique) right to the bungalow, which was close to ownership and that she was in the same category as a person who, through force of circumstances, sells her home. Consequently, her profit was of a capital nature.

The Supreme Court of Appeal disagreed. Until she bought the bungalow from the council, Ms Wyner (said the court), had merely been a lessee. Her profit on resale was not fortuitous, but had been designedly worked for. She was held to be taxable on the profit from the sale on the basis that her acquisition and sale had been a “scheme of profit-making”.

A second striking element of the SCA judgement is that the court insisted on viewing the facts through a highly technical legal prism. The court was not prepared to look beyond the “juristic nature” of the transactions and the strict legal rights of Mrs Wyner. Thus, the court did not regard it as significant that, even before its 1994 resolution, the council – in practice if not in law – regarded her and the other occupiers of the bungalows as having a security of tenure beyond that of ordinary lessees.

This highly legalistic approach cuts both ways. It invites tax consultants to devise tax-avoidance arrangements which are based on fine legalistic distinctions. So long as the transactions are genuine and not a sham and are not in contravention of section 103(1) of the Income Tax Act, the Wyner judgement gives reason to think that the Supreme Court of Appeal would uphold the tax consequences of those fine legal distinctions.

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