National Treasury has abandoned its plans to tax the benefits you receive from an employee share plan or a broad-based black economic empowerment (BBBEE) trust set up by your employer as income, rather than as dividends or capital gains.

The proposals had attracted much criticism for appearing to discourage broad-based employee share ownership.

This week, Treasury released a revised draft Taxation Laws Amendment Bill, together with its feedback on comments on the initial proposal, confirming that the share-scheme proposal has been removed from the bill.

In its place, however, is a measure to deal with what is known as “dividend stripping”.

The initial draft bill had proposed an amendment to the Income Tax Act that would deem any distributions from shares you acquired as a result of your employment to be income, which would be taxed at between 18 and 41 percent, depending on your marginal rate of tax. The proposal also applied to shares to which you had restricted access – for example, an employer promises you shares if you remain employed for five years.

Currently, the dividends paid from these shares are taxed at 15 percent, and the capital gains you make on the shares when you get full ownership and sell them are taxed as capital gains, which depends on your income tax rate, but has a maximum effective rate of 16.4 percent.

David Warneke, the head of tax technical at tax and audit firm BDO, described the initial proposal as draconian and said it would result in a punitive effective rate of tax that was neither fair nor conducive to the promotion of business in South Africa.

Dan Foster, a tax director at law firm Webber Wentzel, said the initial proposal ran “contrary to the stated policy of broad-based black economic empowerment, whereby many companies seek to increase economic participation of black employees through share schemes”.

Treasury told Parliament’s standing committee on finance recently that the initial proposal in the tax amendment bill raised numerous concerns among taxpayers and practitioners.

It said commentators had pointed out that dividend flows are the reason BBBEE schemes are a viable incentive. Typically, participants in these schemes buy the shares on a loan that is repaid from the dividends earned by the shares. With dividends tax of 15 percent, 85 percent of the dividend remains to pay off the loan, but if the tax is higher, there will be less to go to the loans.

In addition, Treasury received comments about the proposal introducing complexity for employers deducting pay-as-you-go (PAYE) tax from employees and a proposed deduction for employers for the cost of establishing share incentive schemes introducing asymmetry and inequity in the tax system.

This week, Treasury released revisions to the draft bill for comment, which must be submitted by October 10.

Among the amended provisions in the draft bill is one to prevent tax avoidance through dividend stripping. This is when companies buy back the shares and distribute the proceeds as dividends shortly before the restrictions on the shares fall away and the growth in the shares’ value becomes taxable in the employees’ hands. Employees end up paying less tax than they should.

Treasury proposes that if, before the restriction is up, you receive the capital invested in the shares back by way of a distribution from those shares, this will be treated as income.