In April of this year, the Constitutional Court delivered its judgement on the Value-Added Tax (“VAT”) case between Capitec Bank Limited (“Capitec”) and the Commissioner for the South African Revenue Service (“SARS”) (Capitec Bank Limited vs. CSARS CCT 209/22).
The crisp issue was whether Capitec could claim a deduction for VAT purposes for payments it had made regarding loan cover insurance policies where the insured passed away or was retrenched. The insured would be a Capitec client who had obtained loan funding from the bank, and as an additional service, Capitec would provide the client with free loan coverage. If the insured passed away or was retrenched, the insurance policy would result in a payout, which would then be used to settle the insured’s debt with Capitec.
From a VAT perspective, loan financing constitutes a supply of a financial service, with the receipt of interest being consideration for an exempt supply. However, fees charged are taxable and subject to output VAT at the standard rate. In respect of the loan funding it provided to clients, Capitec would charge both interest and fees.
Section 16(3)(c) of the VAT Act provides that a vendor may claim a deduction equal to the tax fraction (currently 15/115) multiplied by the payment made to indemnify another person in terms of any contract of insurance where the supply of that insurance contract is a taxable supply (i.e. a supply subject to VAT at either the standard rate (currently 15%) or zero-rate).
Section 17(1) of the VAT Act contains a fundamental principle regarding the claiming of input tax deductions in that a deduction is only allowed to the extent that the underlying expenditure (i.e. goods or services supplied to the vendor) is intended to be used in the making of taxable supplies. Apportionment must be applied when expenditure cannot be directly attributed to a taxable or non-taxable supply.
SARS disallowed Capitec’s deduction claimed in terms of section 16(3)(c) in full, arguing that the underlying insurance contract was supplied for no consideration, making it a non-taxable supply. It also argued that the loan cover was supplied in the course of the exempt activity of supplying credit.
The Constitutional Court analysed the facts systematically and ultimately found that it cannot be said that a supply made for no consideration is not a taxable supply. Furthermore, it could also not be said that the free loan cover was offered exclusively in relation to the exempt activity of earning interest. Because Capitec also earned taxable fee income, the Court concluded that the “loan cover was a mixed supply made in the course and furtherance of Capitec’s exempt activity of lending money for interest and its enterprise activity of lending money for fees”.
The Court thus disagreed with SARS’ full disallowance of the deduction claimed by Capitec but did, however, reiterate that some form of apportionment needs to be applied as the deduction claimed in respect of section 16(3)(c) would be in relation to both exempt and taxable supplies. An interesting point that was raised by the Court is that section 17(1) does not find application to the section 16(3)(c) deduction as the deduction does not constitute input tax as envisaged by section 17(1), but that on the reading of the VAT legislation and the concept of apportionment, section 16(3)(c) does lend itself to apportionment where relevant.
The Court thus determined that Capitec should receive some form of relief and referred the VAT assessments back to SARS to allow for a partial deduction based on an appropriate apportionment method. The final quantum of the allowed deduction and the method of apportionment applied is still unknown and it remains to be seen what the final result will be. An important takeaway from this case is that where VAT vendors are making mixed supplies, they should be aware of the rules governing the claiming of input tax and deductions and consult with knowledgeable VAT experts when in doubt.