The test for a simulated transaction revisited

A taxpayer may organise his financial affairs in such a way as to pay the least tax permissible.

Our courts have confirmed on many occasions that there is nothing wrong with arrangements that are tax effective, but there is something wrong with dressing up or disguising a transaction to make it appear to be something that it is not. The question of when a transaction is a simulated or sham transaction was considered in the recent Supreme Court of Appeal (SCA) judgment Sasol Oil Proprietary Limited v CSARS. 

Sasol had entered into contracts for the sale of crude oil sourced in the Middle East, acquired by a company in the Sasol group in the Isle of Man, sold to another company within the group based in London, and in turn sold and shipped to Sasol Oil (Pty) Ltd in Durban. Ultimately the SCA found that there were good commercial reasons for this arrangement and it was not created solely for the avoidance of tax. But importantly the SCA clarified the common law test for a simulation.

The mere production of agreements does not prove that the parties to the agreements genuinely intended them to have the effect they appear to have. A taxpayer must show on a balance of probabilities that the agreements reflect the actual intention of the parties. In Sasol Oil’s case the SCA confirmed that one must ascertain the intention of the parties having regard not only to the terms of the questionable transaction but also to other factors, including the improbability of the parties intending to give them effect.

It has been suggested by some legal commentators that the 2010 judgment by Lewis JA in CSARS v NWK Ltd changed the test for a simulated transaction. Lewis JA in Sasol Oil has now clarified that this is not the case. The judge explains that her previous judgment merely pointed out that in order to establish a simulation one must not only look at the terms of the disputed transaction but also the probabilities and the context in which they were concluded.

The SCA best explains a simulation in CSARS v Bosch as, “a question of genuineness of the transaction under consideration. If it is genuine then it is not simulated and if it is simulated then it is a dishonest transaction, whatever the motives of those who concluded the transaction.”

This article has been written by Graeme Palmer, a Director in the Commercial Department of Garlicke & Bousfield Inc

NOTE: This information should not be regarded as legal advice and is merely provided for information purposes on various aspects of tax law.

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