Understanding Taxes and VAT for Business: A Beginner's Guide
In this article you will learn about:
How provisional tax works
When provisional tax payments are due
Tips to manage provisional tax
The consequences of not paying provisional tax on time
What VAT is and why is it important to SMEs
What the VAT requirements are for SMEs
Tax incentives that are available to SMEs
How provisional tax works
Provisional tax is a system of paying income tax in advance. It is designed for businesses and individuals that earn income which is not subject to automatic monthly tax deductions by an employer or client. A small business owner is required to pay provisional tax if he or she meets a specific criteria, which includes:
Generating income other than a salary such as rental income, investment income, or freelance income.
If the small business owner is a company director or shareholder, and the company earns income that is not subject to PAYE.
If the business owner is a sole proprietor or a partner in a partnership, and the business generates income above certain monetary thresholds - which vary from time to time.
Provisional tax payments are based on estimated taxable income for the year and are paid in two installments during the tax year. A third “reconciliation” payment is due after the end of the tax year. As a small business owner, it's important to understand the provisional tax system and how it works to avoid penalties and interest and to ensure your business is tax compliant.
When provisional tax payments are due
In South Africa, the first provisional tax payment is due six months into the tax year (around the end of August). The second payment is due at the end of the tax year (around the end of February). The third reconciliation payment is due no later than the end of September of the following tax year.
If your actual tax liability is less than the provisional tax paid, a refund will be issued. If it is more, you will be liable to pay the difference.
To get an estimate of your business' tax liability, try the free Income Tax calculator for small businesses on Tax Tim.
Tips to manage provisional tax
You need to keep accurate records of all income and expenses throughout the year to ensure that estimates are accurate for business taxes.
Overestimating your tax that is due is better than underestimating it and getting penalties.
You can claim all business-related expenses, deductions, and contributions to a retirement annuity.
There are penalties for late payment of business taxes so make sure you meet tax deadlines to avoid interest.
If you are unsure, please seek advice from a tax practitioner about how to manage provisional tax payments.
The consequences of not paying provisional tax on time
If a taxpayer or small business fails to pay provisional tax on time or underestimate their tax liability, they may face:
Penalties: These are charges imposed on the outstanding amount. It is calculated as a percentage of the outstanding amount, and the interest is charged daily until the tax amount is paid in full.
Legal action: The South African Revenue Service (SARS) can take legal action against the taxpayer or small business to recover the outstanding tax. This can include issuing a judgement against the taxpayer, attaching their assets, or garnishing their salaries.
Loss of tax benefits: Taxpayers who fail to pay provisional tax on time may lose certain tax benefits like the ability to claim deductions or credits for certain expenses or investments.
Reputational damage: Not paying provisional tax on time can cause damage the taxpayer's reputation and his business.
What is VAT and why is it important to SMEs
VAT is value-added tax and it is imposed on goods and services. VAT is an indirect tax and this means that it is collected by businesses on behalf of the government and passed onto the consumer as part of the price for goods and services. In South Africa, VAT is a vital source of revenue for the government. The standard VAT in South Africa is currently 15% and this is levied on most goods and services, including imports.
VAT is a significant tax for SMEs in terms of compliance and cost. SMEs need to ensure that they are correctly accounting for and collecting VAT on their sales and are managing their cash flow effectively to meet their VAT obligations.
What the VAT requirements are for SMEs
SMEs are required to register for VAT if their annual taxable turnover exceeds a certain threshold, which is currently set at R1 million per annum. This means that VAT is a significant compliance issue for many SMEs, who need to ensure that they are correctly accounting for and collecting VAT on their sales.
VAT can be a significant cost for SMEs, particularly those that are not registered for VAT and therefore cannot claim back any VAT paid on their business expenses. This can make it more difficult for SMEs to compete with larger businesses, which are often able to offset their VAT costs against their own VAT liabilities.
VAT can also impact SMEs in terms of cash flow. Businesses are required to pay over the VAT they have collected to the South African Revenue Service (SARS) on a monthly basis, which can put a strain on cash flow, particularly for smaller businesses.
Tax incentives that are available to SMEs
Tax incentives are available to SMEs in South Africa and the purpose is to promote economic growth and job creation by providing tax relief to eligible businesses.
Here are some tax incentives available:
Small business corporations (SBCs): SBCs are taxed at a lower rate than other companies. SBCs are defined as companies with a turnover of less than R20 million per year.
Employment tax incentive (ETI): The ETI is a tax incentive aimed at encouraging employers to hire young and inexperienced workers. Employers can claim the ETI for up to 24 months for each qualifying employee.
Venture capital companies (VCCs): VCCs are companies that invest in SMEs. Investors in VCCs can claim a tax deduction of up to R2.5 million per year.
Research and development (R&D) tax incentives: SMEs that invest in R&D can claim tax deductions for qualifying expenditure on R&D.
It is important to note that the eligibility requirements and benefits of these incentives vary. SMEs can seek professional advice from a tax practitioner to determine which incentives they are eligible for and how to take advantage of them.
A final thought
For small business owners, tax compliance is an important obligation that should not be overlooked. By accurately estimating and paying their tax liability on time, SMEs can avoid penalties, legal action, and loss of tax benefits.
Call to action
It is crucial for small business owners and their reputation to ensure compliance with tax regulations. Only compliant SMEs will be able to access investment and funding from public and private sector entities. You can learn more about this here.
Key Takeouts
Take the time to ensure your business is operating above board by ensuring you pay your provisional tax every year. If you feel it is too much work, hire a tax practitioner to assist you.
*Disclaimer: This content was correct at the time of publishing the article. Tax rates and regulations may vary and change from time to time.
