When considering Sole Proprietorship versus Independent Contractorship – you need to be asking yourself the following questions:
1. Is there a difference between a Sole Proprietor and an Independent Contractor, with regards to how a Company deals with such a person who works on a specific project as far as contracts and SARS are concerned?
2. An IRP5 must be issued to an Independent Contractor (Code 3616 – Income); does this apply to a Sole Proprietor as well?
3. Also is there a difference in the types of expenses that these two “entities” can claim on their tax returns?
To answer these questions, the term sole proprietor and independent contractor must be understood.
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For South African Income Tax purposes the following apply:
A sole proprietor
A sole proprietor, also known as the sole trader is a type of business entity that is owned and run by one natural person and in which there is no legal distinction between the owner and the business. The owner is in direct control of all elements and is legally accountable for the finances of such business and this may include debts, loans, loss etc.
The owner receives all profits of the business and has unlimited responsibility for all losses and debts. Every asset of the business is owned by the proprietor and all debts of the business are the proprietor’s.
The sole proprietor is taxed on his/her profit (Income less tax deductable expenses) at the applicable tax rate for individuals.
For SARS’s’ purposes an independent contractor is someone that renders a service to another company, employer and who;
- employs three or more full-time employees, who are not connected persons in relation to him or her ( family members ect) and are engaged in his or her business throughout the particular tax year
- does not have to performed his/her service mainly at the premises of the client and
- is not subject to the control of any other person as to the manner in which the worker’s duties are or will be performed, or as to the hours of work.
It these three conditions are not met such an independent contractor is deemed not to be an independent contractor and the amount so received by him or her, will be treated as a “salary” from which employees tax must be deducted. This “independent contractor” might be a Close Corporation, Company or a Trust, which differs from the sole proprietor.
If the above conditions are not met that CC, Pty or Trust will be taxed as an employee. When this applies and employee’s tax is not deducted, SARS will hold the company that pays such persons “salary” responsible to pay the employees tax to SARS
Answer to question 1
For such a project, if the independent contractor met the above conditions there will not be a difference between how you treat the sole proprietor/independent contractor who is conducting the work.
The sole proprietor/Independent contractor must supply you with an invoice to enable you to do the remittance.
If such a person’s turnover is more than R 1m per annum a Tax invoice (VAT) must be issued to you.
Answer to question 2
If the sole proprietor and/or the independent contractor does not meet the above three conditions an IRP5 have to be issued.
Answer to question 3
If the independent contractor or the sole proprietor meets the conditions above they can claim the same types of tax deductable expenses from their income and is taxed on the net profit (total income less deductable expenses).
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It is advisable to get an affidavit from a person that do the work that he/she meets the conditions above. This will saves a lot of headache when SARS should levy penalties, because you have not deducted employee’s tax for the Independent contractor.
You will notice reference is made to tax deductable expenses. It is very important to know that not all expenses are tax deductable