Section 20A of the Income Tax Act[1]ring-fences losses incurred by natural persons from certain trades under specific circumstances. If applicable, the natural person will not be able to set off the loss incurred from that trade against the income from any other trade (such as salary or other professional income) and may only set off the loss against future income derived from the trade to which the loss relates.
The first requirement for section 20A to apply, is that the natural person must fall within the highest income tax bracket during the relevant year of assessment.[2] The second requirement relates to the nature of the trade carried on by the natural person and the fact that the person has incurred losses in respect of that trade for at least three of the last preceding five years of assessment.[3]
There is, however, an exemption to section 20A. The losses incurred in respect of the specific trade will therefore not be ring-fenced if the natural person can prove that the trade constitutes a business in respect of which there is a reasonable prospect of deriving taxable income (other than a taxable capital gain) within a reasonable period of time.
The factors to take into consideration include the proportion of gross income derived in relation to the allowable deductions for the relevant year of assessment, the level of activity and the amount of expenses incurred in respect of advertising or promoting the trade and whether or not the trade is carried on in a commercial manner. In respect of the latter requirement, consideration must be given to the number of full-time employees, the commercial setting of the premises where the trade is carried on, the extent of the equipment used exclusively for purposes of carrying on that trade and the time the natural person spends at the premises conducting the business.
Other factors include the number of years during which losses were incurred in proportion to the period in which the trade was carried on (considering unexpected events giving rise to the losses and the nature of the business involved), business plans and changes to ensure taxable income in future and the extent to which assets of the business are available for recreational or personal use.
Please note that the exemption in section 20A(3) will not apply if the trade is listed in section 20A(2)(b) and in carrying on the trade the natural person has incurred losses in at least six of the last ten years of assessment (ending on the last day of the relevant year of assessment).
[1] No. 58 of 1962
[2] Section 20A(2)
[3] Section 20A(2)(a) and (b)
This article is a general information sheet and should not be used or relied upon as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your financial adviser for specific and detailed advice. Errors and omissions excepted (E&OE)
