South Africa can promote future investment and encourage corporate growth by addressing certain discrepancies in how the law treats business merger and amalgamation transactions.

Section 44 of the Income Tax Act governs merger and amalgamation transactions from a tax perspective and provides for tax rollover relief if certain requirements are  met. The regulations governing mergers and amalgamations under the Companies Act are contained in sections 113, 115 and 116 of the Act, and these two pieces of legislation are in some aspects inconsistent with each other.

A complete alignment between the two Acts with regard to merger transactions would be impractical, as each serves a different purpose. However, addressing at least some of these discrepancies would promote ease of doing business, which in turn affects the country’s investment prospects. 

Merger provisions are often bypassed
Both Acts have been drafted in such a way that merger transactions – or transactions which have the same effect – can be brought about by means other than the specific merger or amalgamation provisions described in the two Acts. Other, more established fundamental transactions can be utilised in the Companies Act, such as a scheme of arrangement, which has different requirements to those of a statutory merger. 

Similarly, from a tax deferral perspective, a proposed amalgamation transaction can be actioned in terms of an asset-for-share transaction (section 42 of the Income Tax Act). Alternatively, parties may rely upon the tax rollover relief provided in an intra-group transaction (section 45), or a liquidation distribution transaction (section 47), in terms of the Income Tax Act. Nevertheless, each of these alternative tax rollover relief mechanisms have their own set of requirements and anti-avoidance provisions, despite the more flexible application to a merger transaction . 

Also, given uncertainties within each Act’s specific merger provisions, in practice, practitioners often opt for applying the alternative sections to achieve the effect of a merger transaction. However, this may lead to additional requirements and may add to the administrative burden of actioning the merger transaction . While, for example the other tax relief provisions may have more flexible requirements, they could simultaneously also have more onerous anti-avoidance rules.

These issues in the Income Tax Act and Companies Act concerning merger transactions create uncertainty surrounding the application of and interaction between these two Acts . As a result, the specific existing company law and tax law provisions governing mergers or amalgamation transactions seem to be unpopular mechanisms, and tend not to be used as the principal sections for implementing merger transactions. 

Dr Carolina Koornhof at her graduation ceremony in May 2024 with her parents at her side.

Contradictory legislation holds businesses back 
In my thesis I identify certain discrepancies between these two Acts. For example, the Companies Act requires, in terms of an “amalgamation or merger” as defined, that all assets and liabilities must be transferred under the merger transaction, with no exceptions. Further, no obligations may be contractually excluded from the transfer (section 116(7)(b)). But according to the Income Tax Act’s definition of “amalgamation transaction”, certain assets may be retained to settle debt. 

So if the transaction is actioned in terms of the statutory merger of the Companies Act, it is futile to retain any assets to settle debt, as all the amalgamated company(ies) obligations become the obligations of the resultant company(ies) by operation of law (ex lege). However, if certain assets are retained to settle debt in terms of the Income Tax Act, the transaction would fall outside the application of section 116(7) of the Companies Act, and the definition of an “amalgamation or merger” in section 113 of the Companies Act will not be met. 

Legislative amendments needed to give clarity
Some of my recommendations include amendments to existing legislation. Amending existing legislation can remove some of this uncertainty that exists in the current legislation. In the example above, the Income Tax Act should be clarified to state that if certain assets are withheld as provided for in section 44 of the Income Tax Act, section 116 of the Companies Act would not apply to the transaction. If section 116 of the Companies Act does not apply, there would be no statutory merger by operation of law. This means that a transfer would not occur purely by virtue of a statute (ex lege), and any asset transfers that occur in terms of the merger would have to be actioned manually at additional costs.

I further recommend in my thesis that new concepts, such as a short-form merger, should be introduced in the Companies Act. This concept is currently missing from the Companies Act, and has no specific tax deferral provision in the Income Tax Act. A short-form merger has fewer procedural steps compared to a normal statutory merger, as the short-form merger generally takes place between two sister companies, or between a subsidiary and its holding company. A short-form merger would modernise South Africa’s company law by providing companies a cost-effective and streamlined restructuring mechanism to improve their operational efficiencies and reorganising their group structures at a lesser cost. 

While corporate taxation is a key pillar in ease-of-doing-business scores, much attention is focused on South Africa’s overall corporate tax rate, and less consideration has been given to the existing tax policy itself. By reviewing and amending tax and company law to remove these contradictions, we can support essential business activity with less red tape, allowing companies to do business more efficiently, quickly, and easily. In turn, this promotes South Africa’s overall attractiveness as an investment destination.