“Creating an environment in which SMMEs can thrive is inextricably linked to creating conditions in which all businesses can thrive.” (National Treasury, 2019 Economic Strategy document)

The VCC (Venture Capital Companies) incentive allows a holder of shares to claim a 100% tax deduction of the cost of the shares issued by an approved VCC, provided certain requirements are met. The deduction is subject to recoupment if the VCC shares are held for less than five years.

VCCs have been investing in small and medium-sized businesses (SMEs) that include education, agriculture, renewable energy, hospitality and tourism, and student accommodation. Many of them are especially hard-hit by the strict lockdown regulations imposed on businesses.

Funding has always been a major stumbling block for start-ups, and small businesses wanting to expand. They will find it far more difficult post-COVID-19 to get access to funding. Without the tax incentive it is possible that investments may flow offshore – investors will take their money where the rewards match the risks.

According to SARS, there were 180 registered and approved VCCs which had raised R8.3 billion at 28 February 2019.

The VCC industry body, 12J Association of South Africa, conducted its own survey on the impact investments have made to date. It released the results in June this year.

Responses were received from 12J managers that collectively manage 106 VCCs and R9.3bn in assets under management to date.

The R9.3bn industry assets under management has been raised from over 5,500 investors, equating to an average investment amount of R1.7m per investor.

The survey report shows that the Section 12J capital raised has been invested into more than 360 small, medium and micro-sized entities which in turn support 10,500 jobs (50% of them permanent) across dozens of industries.

According to the survey the incentive has been cost-effective at an average cost per job of approximately R126,000 for each current job created. This is in contrast to current job creation focused incentives in South Africa, which allow for a required cost per job of up to R450,000.

Getting the investors

When the VCC tax incentive was introduced these companies were to be the “marketing vehicles” to attract retail investors with the tax incentive as a major advantage.

There was an initial investment limit of R750,000 per tax year and a lifetime limit of R2.25m. This limit was removed around 2011 in order to make the incentive more attractive.

However, due to several amendments to the Act, aimed at combatting perceived abuse, the incentive only really gained traction after 2015.

In July last year new caps were introduced. Investments by a natural person and trusts were capped at R2.5m and for companies investments were capped at R5m in a tax year.

Small businesses – the clock is ticking!

The regime is subject to a 12 year sunset clause that ends on 30 June 2021.

Many of the industries qualifying for VCC investments were hard hit by the impact of the COVID-19 pandemic. Survey participants expect COVID-19 to have a negative impact on the ability of SMEs to obtain equity capital over the next year and even the next two years. This is likely to manifest itself in a far higher unemployment rate and corresponding lower growth in the South African economy.

More than 75% of the participants in the industry survey said investors would not have invested their capital in SMEs, had it not been for the attractiveness of the Section 12J tax incentive.

The 12J Association of South Africa suggests that the tax incentive should be extended until at least 2027.

SMMEs will now need more support than ever before, and if your small business is struggling to find funding, ask your accountant now for advice on applying to a VCC. Unless the June 2021 sunset clause on tax incentives for section 12J funding is extended, support from investors will soon dwindle – the clock is ticking!