Assessed losses can be carried forward—provided that the company doesn’t cease trading.
If the amount of allowable deductions exceeds the taxable income in your business, you will end up with what is known as an ‘assessed loss’ for tax purposes. In terms of Section 20 of the Income Tax Act, you are entitled to carry forward this assessed loss and set it off against taxable income in future years.
This loss can be carried forward indefinitely, provided that you carry on a trade during the year. If there is no trade at all during a tax year, and there is an assessed loss that is brought forward from previous tax years, that assessed loss will be forfeited.
Many people start a business, and make losses during the first couple of years. However, in some cases, the business idea is written off as a dead loss and the company ceases to trade. It is often some years later when the owners decide to revive the business, that they discover that their assessed loss is, ahem, ‘lost’.
An example of how this can happen in practice appears in the box below.
Example
New Business (Pty) Ltd has the following taxable receipts and deductions:
| Tax year | 2018/19 | 2019/20 | 2020/21 |
| Sales | R500 000 | R520 000 | R550 000 |
| Cost of sales | R300 000 | R310 000 | R325 000 |
| Other expenses | R210 000 | R205 000 | R210 000 |
| Taxable income/loss | R10 000 loss | R5 000 profit | R15 000 profit |
The taxable income / assessed loss would be calculated as follows:
| Tax year | 2018/19 | 2019/20 | 2020/21 |
| Assessed loss brought forward | R0 | R10 000 | R5 000 |
| Taxable income / loss current year | R10 000 loss | R5 000 profit | R15 000 profit |
| Assessed loss carried forward | R10 000 | R5 000 | R0 |
New Business (Pty) Ltd would not be liable for any tax in the first two years, and would only be liable for tax on R10 000 (R15 000 profit, less R5 000 assessed loss brought forward) in 2020/21.
However, if New Business (Pty) Ltd did not trade at all during the 2019/20 tax year, the assessed loss of R10 000 brought forward from 2018/19 would be lost. The full R15 000 profit in the 2019/20 tax year would be subject to tax.
However, while Section 20(1) requires that there must be trade during the tax year following the carrying forward of an assessed loss, it does not specify that it must be the same trade that gave rise to the loss, nor does it specify that such trade must take place for a specific period—only that trade must take place during the following tax year.
This means that even if you carry out a different trade the following year, and such trade takes place even for only a day, SARS cannot take away the assessed loss under this Section.
But be careful! If your ‘act of trade’ in the following year is fabricated solely to get around the requirement in Section 20(1), SARS could attack it under the anti-avoidance provisions. But even if you have wound down your business activities dramatically, as long as your reduced activities constitute genuine trading activities, you should be safe in this regard.
2022 Budget proposal
In the 2022 Budget Review document issued by National Treasury, a proposal was included to restrict the use of carried forward assessed losses. The proposal is to limit the offsetting of the balance of assessed losses brought forward to 80 per cent of taxable income.
What this means is that companies with an assessed loss balance that matches or exceeds their current‐year taxable income will need to pay tax on 20 per cent of their taxable income.
According to the Budget Review, the proposal does not increase companies’ tax liability but ensures that tax payments from companies are smoothed over time—adding that smaller companies more likely to struggle with cash flow will be exempt from the proposed changes.
This change is proposed to take effect for years of assessment ending on or after 31 March 2023—in other words, for financial years that started on or after 1 April 2022. We will need to wait until the draft amendment Bills are published for comment to see how this proposal might work in practice.
There may also be a change to the layout of the provisional tax return for the first period (which, for financial years that started on 1 April 2022 will be for the six months ended 30 September 2022).
Written by STEVEN JONES
This article is a general information sheet and should not be used or relied on as legal or other professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your adviser for specific and detailed advice. Errors and omissions excepted (E&OE).