By Jac Laubscher, 8 August 2014
The DTC’s terms of reference are quite explicit in describing what is expected of the committee with respect to the “role of taxation in the promotion of small and medium size businesses”, viz. that the committee should undertake “an analysis of tax compliance costs, the possible further streamlining of tax administration and simplification of tax legislation”. The focus is therefore on how the existing tax dispensation for small businesses can be improved rather than on new policy directions.
While the DTC did address these matters, it interpreted its mandate more broadly to include suggestions on the promotion of entrepreneurship in South Africa, implicitly assuming that small business and entrepreneurship are essentially two sides of the same coin. The DTC in particular concerned itself with what it refers to as the “missing middle”, viz. entrepreneurial businesses with growth potential. The committee therefore added “the role of incentives” to the three topics listed above.
In this regard the DTC apparently draws on the general imperative it was given “to inquire into the role of the tax system in the promotion of inclusive economic growth, employment creation, development and fiscal sustainability” within the context of the National Development Plan (NDP) with its emphasis on small and expanding businesses as creators of jobs (in spite of the DTC questioning the validity of the NDP’s position). The result is that the DTC also pronounces on matters such as the venture capital industry and the Employment Tax Incentive (ETI) Act, which aims to alleviate youth unemployment.
However, entrepreneurship and its role in economic growth are a complex topic and one should be careful not to gloss over this complexity. The distinction between replicative/necessity-driven entrepreneurship and innovative/opportunity-driven entrepreneurship is of crucial importance as they differ fundamentally in their effect on economic growth. They furthermore require different policy measures in order to flourish.
According to the Global Entrepreneurship Monitor high-impact entrepreneurs account for 40% of jobs created through the businesses they have founded although they represent only 4% of the total number of entrepreneurs. In contrast, low-growth entrepreneurs represent 90% of entrepreneurs but they create only 34% of jobs.
The DTC report on the taxation of small businesses should therefore be seen in the context of enabling replicative/necessity-driven entrepreneurship rather than high-impact innovative/opportunity-driven entrepreneurship. As such its contribution to the debate on the alleviation of unemployment will necessarily be limited.
As for the need to make it easier and cheaper for small businesses to meet their tax obligations, the DTC treads carefully around the trade-off between simplification of the tax code and procedures and the risk of enabling tax evasion and outright fraud. Its most telling recommendations in this regard are therefore on ways to improve the service SARS offers to small businesses, including clarity in communication.
As far as the venture capital industry is concerned, the DTC expresses its scepticism regarding venture capital as a source of funding for small businesses and suggests the creation of a tax incentive for angel investors. In a rather puzzling comment, the committee states that the provision of finance for small businesses is not the job of SARS or the NT (who ever thought it was?) but that the matter should be addressed by the Financial Services Board, the Department of Trade and Industry (DTI) and the Ministry of Small Business Development.
However, the NT’s recent proposals (included in the draft Taxation Laws Amendment Bill published on 24 July) to enhance the current tax dispensation for venture capital by increasing the asset limit for qualifying small companies from R20 million to R50 million and to make the tax deduction for investment in a venture capital company permanent if the investment was held for more than five years, are evidence of a more positive attitude towards venture capital. This is commendable in view of the constructive role venture capital can play in promoting high-impact innovative/opportunity-driven entrepreneurship, especially in the commercialisation of the results of basic research.
The DTC also expresses the opinion that the ETI is of limited value to small businesses because of its complex administration, the fact that it requires a sufficient employees’ tax liability against which to offset the incentive, and that unregistered businesses will be left out in the cold. It nevertheless sees value in the ETI as a stimulus for small-business growth and as a way to encourage businesses to register for tax purposes and to comply with minimum wage levels and labour regulations in general. The committee recommends that the ETI should be suitably revised to encourage tax compliance. However, the success of the ETI should surely be measured by its contribution to reducing youth unemployment rather than compelling small businesses to get their tax affairs in order.
The committee then proceeds to list the incentives provided by the DTI to support entrepreneurs and again expresses the view that it is not part of SARS or the NT’s mandate to supply such support. While SARS’s sole function is the collection of taxes and it has no policy role, surely the NT as the sole custodian of fiscal policy and joint custodian of macroeconomic and financial policy has an important role to play in devising policies to support entrepreneurship.
The DTC describes the current Small Business Corporation tax incentive (applying a lower tax rate than the headline corporate rate of 28% according to a progressive scale to small businesses with taxable income of up to R550 000) as benefiting mainly established, successful/profitable, niche small and medium-sized enterprises, offering little support in establishing a new business or for a struggling business not making a profit.
To incentivise the so-called missing middle, the DTC therefore recommends replacing the SBC tax incentive, which is estimated to cost the state R1,36 billion per annum, with a new incentive to reward tax compliance by small businesses. According to the committee’s estimate the savings from scrapping the SBC tax incentive will allow for a new incentive of between R10 000 and R20 000 per annum, escalating according to a business’ turnover, or alternatively a flat amount of R15 000 per annum at no net cost to the fiscus, assuming that 72 650 businesses will benefit.
Government has been quick to accept the alternative version of this recommendation, with the necessary changes being incorporated into the draft Taxation Laws Amendment Bill. The NT has also proposed the simplification of the calculation of the ETI by linking it to an hourly wage rather than a monthly salary, which should benefit small business.
The ETI and entrepreneurship of course relate not only to small business, and tax is not the primary policy instrument to encourage successful entrepreneurship (as acknowledged by the DTC). It would therefore be preferable to deal with these topics separately rather than as part of reviewing small-business taxation.