An investigation into the normal tax implications of a carried interest received by fund managers

[摘要] ENGLISH ABSTRACT: The term 'a carried interest - which refers to the right held by a private equity fund manager to share in the future profits generated by the investment fund that it manages - is not defined in the South African Income Tax Act 58 of 1962 (the Act), nor has it been under scrutiny of the South African courts. Consequently, there is uncertainty regarding the classification of the initial receipt of a carried interest and the cash flow from a carried interest for normal tax purposes in South Africa.Due to this uncertainty this research was undertaken. It consists of a literature review of pure theoretical aspects of published theoretical and descriptive material. The wording of the Act with specific reference to the gross income definition and the phrases 'amount received in respect of services rendered and 'of a capital nature was scrutinized, together with relevant case law and academic articles.The aim of this study was to determine the nature of a carried interest for normal tax purposes when distributed to the fund manager of an investment fund. In order to address this it was needed to determine:o whether the initial distribution of a carried interest by an investment fund to a fund manager constitutes a fringe benefito whether a carried interest distributed by an investment fund to a fund manager constitutes gross income in terms of other provisions of the Acto the nature of the cash flow from a carried interest, for normal tax purposes, earned by the investment fund upon the liquidation of the fundo the effect of section 9C of the Act on the underlying investments of, and consequently on a carried interest in, an investment fundo the effect of the guidelines formulated by the South African courts on the underlying investments of, and consequently on a carried interest in, an investment fundIt was determined the fund manager performs its services independently of the investment fund. As a result the initial receipt of a carried interest cannot be regarded a fringe benefit.Furthermore, reference to the definition of gross income and substantiating case law indicated that the receipt of a carried interest does not constitute gross income, because the fund manager only receives an entitlement to share in future profits of the investment fund, which does not constitute an amount as defined by case law.Hence the study progressed to the cash flow from a carried interest. It was concluded that the cash flow from a carried interest has a closer relationship with the risking of capital than with the provision of services. Therefore, the amount received is not classified as an amount received in respect of services rendered.The nature of the underlying investments were investigated and presented the conclusion that the investments are normally held with the dominant intention for resale, and thus are income in nature. However, the overriding effect of section 9C of the Act makes it possible for the underlying investments to be deemed capital in nature if certain requirements are met.The carried interest regime was examined in the USA and the Netherlands and was compared to South Africa. It was concluded that the lack of specific legislation in South Africa is requires thoroughly researched legislation that would provide a clear answer to the method of taxing a carried interest without causing loss of foreign investment.

[发布机构] Stellenbosch University