The proposed section 12k of the income tax act no 59 of 1962
Climate change is a natural process through which the earth and its atmosphere accommodate the change in the amount of energy received from the sun. It takes hundreds of years to complete one cycle of this process. The ice age is one example of such a cycle. However, human intervention is currently causing the climate to change too fast. This results in plants and animals being unable to adapt to this rapid change and, consequently, entire ecosystems are at risk. Several gases are emitted by certain processes on earth and act to trap the energy from the sun, thus causing the greenhouse effect. This effect is increased rapidly by human activities such as burning fossil fuels and clearing forests. The three major greenhouse gases are Carbon Dioxide (CO2), Methane (CH4) and Nitrous Oxide (N2O) (South African Weather Service 2009:1).
South Africa’s greenhouse gas emissions rank in the top 20 in the world, amounting to 42 percent of Africa’s emissions. The global nature of climate change arises from the fact that one ton of carbon emitted anywhere in the world has the same effect on climate globally (Treasury 2009). In an attempt to curb the emission of greenhouse gases the United Nations Framework Convention on Climate Change (UNFCCC) introduced the Kyoto Protocol. The Kyoto Protocol requires mandatory emission reduction targets after 2012.
South Africa is one of 189 countries to have ratified the Kyoto Protocol, the primary environmental instrument of the UNFCCC. In order to meet the mandatory emission reduction targets, the Kyoto Protocol allows for the establishment of Clean Development Mechanism (CDM) projects. These are projects initiated within developing countries (including South Africa) to address development in renewable energy, energy efficiency and other related fields designed to achieve emission reductions.
If certain elements are satisfied, the Kyoto Protocol allows for the CDM projects to yield carbon emission reduction credits in the form of certified emission reductions (CERs). The elements that need to be satisfied by CDM projects include the following:
• Emissions (environmental) additionality: Ensuring that any emission reduction is additional to what would occur without the project.
• Financial additionality: Ensuring that public funding from Annexure I countries is additional and not a diversion of pre-existing official development assistance to the developing country.
• Investment additionality: Ensuring that the investment project would not take place without a CDM project.
• Legal additionality: Ensuring that the project is additional to what is already mandated by legislation.
• Technical additionality: This element ensures that superior technology is used that would not have been possible to transfer to the developing country without the CDM project (Treasury 2009).
Countries listed in Annex I to the Kyoto Protocol are developed countries that have committed to meeting carbon emission reduction obligations. These countries are industrialised countries and include Australia, Austria, Belarus, Belgium, Bulgaria, Canada, Croatia, Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Iceland, Ireland, Italy, Japan, Latvia, Lichtenstein, Lithuania, Luxembourg, Monaco, Netherlands, New Zealand, Norway, Poland, Portugal, Romania, Russian Federation, Slovakia, Slovenia, Spain, Sweden, Switzerland, Turkey, Ukraine, United Kingdom, United States of America and, separately, the European Union (Wikipedia 2009).
When the Annex I countries anticipate failure to meet their commitment to carbon emission reductions, they can buy CERs from developing non-Annex I countries, such as South Africa, in order to meet their obligations in terms of the Kyoto Protocol. When these credits are sold to Annexure I countries, the revenue derived can be used by the developing country for CDM projects, which will make marginal projects viable (Treasury 2009).
The South African Department of Minerals and Energy has appointed the Designated National Authority (DNA) for Clean Development Mechanism to facilitate the application and registration process for CDM projects. The main task of the DNA is to assess potential CDM projects to determine whether they will assist South Africa in achieving sustainable development goals and to issue formal host country approval where this is the case. CDM projects currently registered in South Africa include project 0079, the Kuysa low-cost urban housing energy upgrade project in Khayelitsha and project 0177, the Lawley Fuel Switch Project South Africa, which converts coal to natural gas at the brick-baking kilns at Lawley Brick factory, wholly owned by Corobrick (Pty) Ltd (DME 2009:1).
However, there has been limited uptake of CDM projects in South Africa, due mainly to high financial investment given the risk associated with CDM project activities (Treasury 2009). In addition, the complicated verification and registration process for CDM projects hinders the uptake of these projects by the private sector (Treasury 2009).
In order to stimulate CDM projects, Treasury has proposed the introduction of certain tax incentives contained in the proposed section 12K of the Income Tax Act No 59 of 1962 (the Act). When a South African taxpayer obtains CDM project registration and implements that project, the taxpayer can dispose of CERs yielded by that project. Asian countries, such as Malaysia, also offer tax breaks in respect of income derived from CER trading. Thailand has also proposed the introduction of tax relief for such income, in order to develop strong CDM activity in that country (Wiriyapong 2009:2).
In terms of the proposed section 12K, revenue derived from the sale of CERs will be wholly exempt from income tax in the hands of the taxpayer. However, expenditure incurred in the production of CERs sold will not be deductible for tax purposes, as it was incurred in the production of exempt income. It will therefore be imperative that adequate records are kept to distinguish between expenses incurred in the production of this exempt income and expenditure incurred in the production of taxable income.
Bangkok Post website www.bangkokpost.com.
Department of Minerals and Energy website www.dme.gov.za.
National Treasury Taxation Amendment Draft 2009.
South African Weather Service website www.weathersa.co.za.
Ellane van Wyk CA(SA), is a tax lecturer at the University of Stellenbosch.