Rising interest rates and low interest employer loans

In this series of articles, Cameron Kotze – the Tax Partner at Ernst and Young – discusses some topical tax issues for our readers.

THE gross income of any employee includes the value of any benefit or advantage granted by the employer to the employee during the year of assessment. The Directorate Inland Revenue has issued a notice that prescribes how the value of such benefits which must be included in the employees’ taxable income must be determined.Low-interest loans granted by the employer to the employee are specifically dealt with in this notice.In essence the difference between what is referred to as the official rate of interest as determined by the Directorate and the interest rate charged by the employer is determined and the employee is taxed on the difference between these two rates if the rate charged by the employer is lower than the official rate of interest.For many years (1993 to 2003) the official rate of interest was fixed at 15 per cent per year.The calculation of the value of a low interest employer loan was therefore quite easy.If the employee was charged interest at 10 per cent per year, the benefit at any time was five per cent per year on the amount owing to the employer.In 2003 the official rate of interest was dropped to 12 per cent per year provided the rate of interest charged by financial institutions remained below 15 per cent.With the increase in interest rates during the course of last year, the prime overdraft rate of financial institutions hit the 15 per cent mark and currently this rate is 15, 25 per cent.In terms of Income Tax Practice Note 6 of 2003 the official rate of interest must be determined with reference to the prime over draft rate charged by financial institutions.On the basis that the current prime over draft rate is currently 15,25 per cent, the official rate of interest that must be used to determine the value of a low interest employer loan is 15 per cent.Employers therefore have to use 15 per cent and compare this to the rate of interest rate charged on employee loans to calculate the fringe benefit value of the low interest loan.Only once the prime overdraft interest rate is set a level that is less than 15 per cent, can the 12 per cent interest rate be used to calculate the fringe benefit value of low interest loans.The official rate of interest applies to all employer/employee loans including housing loans except for the following loans – * Casual loans to employees which in aggregate per employee do not exceed N$3 000 at any time during the year; and * Study loans granted to an employee to further own studies.It is important for housing loans to remember that the employer can reduce the value of the low interest loan benefit by one-third (on the assumption that the employee earns more than N$30 000 per year) if approval for a housing scheme has been obtained from the Directorate Inland Revenue.If you have not adjusted your fringe benefit value calculations of low interest loans the time is right to do straight away.Rather rectify your non-compliance with the law yourself because it can be a very painful and costly exercise if an inspector of the Directorate has to discover you have not complied with the law.Ignorance is bliss but no excuse for failing to comply with the law.* Should readers have queries, they are invited to send them to cameron.kotze@za.ey.comThe Directorate Inland Revenue has issued a notice that prescribes how the value of such benefits which must be included in the employees’ taxable income must be determined.Low-interest loans granted by the employer to the employee are specifically dealt with in this notice.In essence the difference between what is referred to as the official rate of interest as determined by the Directorate and the interest rate charged by the employer is determined and the employee is taxed on the difference between these two rates if the rate charged by the employer is lower than the official rate of interest.For many years (1993 to 2003) the official rate of interest was fixed at 15 per cent per year.The calculation of the value of a low interest employer loan was therefore quite easy.If the employee was charged interest at 10 per cent per year, the benefit at any time was five per cent per year on the amount owing to the employer.In 2003 the official rate of interest was dropped to 12 per cent per year provided the rate of interest charged by financial institutions remained below 15 per cent.With the increase in interest rates during the course of last year, the prime overdraft rate of financial institutions hit the 15 per cent mark and currently this rate is 15, 25 per cent.In terms of Income Tax Practice Note 6 of 2003 the official rate of interest must be determined with reference to the prime over draft rate charged by financial institutions.On the basis that the current prime over draft rate is currently 15,25 per cent, the official rate of interest that must be used to determine the value of a low interest employer loan is 15 per cent.Employers therefore have to use 15 per cent and compare this to the rate of interest rate charged on employee loans to calculate the fringe benefit value of the low interest loan.Only once the prime overdraft interest rate is set a level that is less than 15 per cent, can the 12 per cent interest rate be used to calculate the fringe benefit value of low interest loans.The official rate of interest applies to all employer/employee loans including housing loans except for the following loans – * Casual loans to employees which in aggregate per employee do not exceed N$3 000 at any time during the year; and * Study loans granted to an employee to further own studies.It is important for housing loans to remember that the employer can reduce the value of the low interest loan benefit by one-third (on the assumption that the employee earns more than N$30 000 per year) if approval for a housing scheme has been obtained from the Directorate Inland Revenue.If you have not adjusted your fringe benefit value calculations of low interest loans the time is right to do straight away.Rather rectify your non-compliance with the law yourself because it can be a very painful and costly exercise if an inspector of the Directorate has to discover you have not complied with the law. Ignorance is bliss but no excuse for failing to comply with the law.* Should readers have queries, they are invited to send them to cameron.kotze@za.ey.com

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