Improvement or enhancement in the value of an asset when determining its base cost


Paragraph 20(1)(e) of the Eighth Schedule to the Income Tax Act 58 of 1962 allows the cost of the improvement or enhancement in the value of an asset to be added to its base cost for capital gains tax (CGT) purposes. On the face of it, it seems like a fairly simple provision, but there is more to it than meets the eye.

It permits a person to add to the base cost of an asset

'the expenditure actually incurred in effecting an improvement to or enhancement of the value of that asset'.

It finds its provenance in section 38(1)(b) of the United kingdom Taxation of Chargeable Gains Act, 1992 (TCGA) and section 110-25(5)of the Australian Income Tax Assessment Act, 1997.

Section 38(1)(b) of the TCGA permits an addition to base cost for

'the amount of any expenditure wholly and exclusively incurred on the asset by him or on his behalf for the purpose of enhancing the value of the asset, being expenditure reflected in the state or nature of the asset at the time of the disposal, …'.

Section 110-25(5) of the ITAA deals with the fourth element of the 'cost base' (the Australian equivalent of 'base cost'). It reads as follows:

'(5)  The fourth element is capital expenditure you incurred:

​the purpose or the expected effect of which is to increase or preserve the asset's value; or'

Paragraph 20(1)(e) used to contain the words 'if that improvement or enhancement is still reflected in the state or nature of that asset at the time of its disposal' but they were deleted by the Taxation Laws Amendment Act 34 of 2019 with effect from 15 January 2020. Australia had removed a similar requirement from section 110-25(5) with effect from 1 July 2005, no doubt after having had similar problems with the requirement as South Africa would come to experience.

These words had proved problematic for non-scrip capital contributions. In some countries such as Germany, it is possible for a holding company to make a capital contribution to a wholly owned subsidiary without the issue of shares. Such a contribution would be made for the purpose of enhancing the value of the subsidiary's shares and so should qualify under paragraph 20(1)(e). However, when the subsidiary makes subsequent losses that absorb the capital contribution, it is arguable that the contribution is no longer reflected in the state or nature of the subsidiary's shares. Denying the addition to base cost makes little sense as CGT consequences should not depend on a decrease in the value of shares. For other assets, the part-disposal rules in paragraph 33 would take care of any part-disposal of an asset, making the 'state or nature' requirement redundant.

Yet, the UK has not seen fit to remove the state or nature requirement from section 38(1)(b) of the TCGA.

There are a number of differences between the wording of section 110-25(5) and paragraph 20(1)(e).

First, it is restricted to capital expenditure while paragraph 20(1)(e) is not. In practice , however, paragraph 20(1)(e) is likely to also deal with capital expenditure, since deductible revenue expenditure would be eliminated from base cost under paragraph 20(3)(a).

Secondly, the words 'the purpose or the expected effect of which' are absent in paragraph 20(1)(e). However, it is submitted that the absence of these words does not mean that the purpose of the expenditure can be disregarded when interpreting paragraph 20(1)(e).

By way of comparison, section 11(a) allows a deduction for 'expenditure and losses actually incurred in the production of the income …'.

Yet, despite the absence of the word 'purpose' in section 11(a), the purpose of the expenditure is a fundamental part of section 11(a). In Port Elizabeth Electric Tramway Co Ltd v CIR Watermeyer AJP (as he then was) confirmed the importance of purpose when he stated the following:[1]

'The purpose of the act entailing expenditure must be looked to. If it is performed for the purpose of earning income, then the expenditure attendant upon it is deductible.'

A common example of enhancement expenditure arises when a person erects a building on land. The cost of the building enhances the value of the land. Non-obligatory improvements effected by a lessee to a building would similarly enhance the lessee's lease right.

Another example is landscaping expenditure which enhances the value of the land.

Notional expenditure attributable to the taxpayer's skill and labour not allowable

In ITC 780[2] the appellant had constructed plant and machinery and sought to claim a wear-and-tear allowance under the equivalent of section 11(e) on the value of his skill and labour. The court dismissed the appeal on the grounds that the taxpayer had failed to discharge the onus of proving the value of his labour and the fact that the deduction was at the Commissioner's discretion.

In the United Kingdom case of Oram (Inspector of Taxes) v Johnson, the appellant had sought under a provision equivalent to paragraph 20(1)(e) to add to the base cost of a dwelling house the value of his skill and labour in improving it. In dismissing the appeal, Walton J stated the following:[3]

'It is perhaps a matter of first impression based on the impression that the word “expenditure" makes on one, but I think that the whole group of words, “expenditure", “expended", “expenses" and so on and so forth, in a revenue context, mean primarily money expenditure and, secondly, expenditure in money's worth, something which diminishes the total assets of the person making the expenditure, and I do not think that one can bring one's own work, however skilful it may be and however much sweat one may expend on it, within the scope of paragraph 4(1)(b).'

Settlement of debts or expenses of company by shareholder

A holder of shares in a company may be required under an agreement for the disposal of those shares to first discharge the debts of the company without creating or increasing the holder's loan account. Such a holder would be able to add the cost of discharging the debts of the company to the base cost of the shares, provided the purpose of the expenditure was to enhance the value of the shares.

Shareholders sometimes incur expenses on behalf of their companies. If it can be proven that such expenditure was incurred to enhance the value of the shares, it may qualify to be added to the base cost of the shares under paragraph 20(1)(e). In the United States case of Eskimo Pie Corp v Commissioner of Internal Revenue, the court stated the following:[4]

'Payments made by a stockholder of a corporation for the purpose of protecting his interest therein must be regarded as additional cost of his stock and such sums may not be deducted as ordinary and necessary expenses.'

The Australian Taxation Office recognises in Tax Determination TD 2014/14[5] that certain capital support payments made by a parent entity to its subsidiary for the maintenance or enhancement of the capital value of the parent's investment in its subsidiary is a cost of the investment under section 110-25(5). The ruling deals with support payments by a holding company to its loss-making subsidiary, or to its subsidiary that is not sufficiently profitable.

A payment of directors' or employees' bonuses by a shareholder may also enhance the value of the shares in the company and qualify to be added to the base cost. This, of course, is not a tax-efficient way of incentivising employees since the shareholder will not be able to secure a section 11(a) deduction for the expenditure, while the directors or employees will suffer an income tax inclusion. Such a payment is exempt from donations tax under section 56(1)(k) which exempts voluntary awards that are included in gross income under paragraphs (c), (d) or (i) of the definition of 'gross income'.

Special levies paid by owners of sectional title units

Owners of sectional title units have an undivided share in the common property. Sometimes they are required to pay a special levy for the purpose of effecting improvements to the common property, such as the installation of a swimming pool or the erection of a security fence. Expenditure of this nature will normally be of a capital nature, since it provides an enduring benefit. Since it enhances the owner's right in the common property, it may be added to the base cost of the sectional title unit. The same principle applies to owners of share block units who enjoy a right of use of the common property, since such expenditure will enhance the value of their right of use.

In Australia a levy for the installation of underground power cables was found to form part of the base cost of the taxpayer's property under the equivalent of paragraph 20(1)(e) (ATO ID 2001/665).

Payment by bare dominium holder to usufructuary and vice versa

The payment by a bare dominium holder to a usufructuary for the termination of the usufruct should qualify as an addition to the base cost of the asset, since restoring full title to the asset should enhance its value.

The same approach would apply when a usufructuary acquires the bare dominium and thus acquires full title.

Demolition costs

Depending on the facts and circumstances, demolition costs incurred in removing a building or part of a building for the purpose of erecting a new building, and the levelling of land may enhance the value of the land and qualify under paragraph 20(1)(e).

Difficult questions can arise in some cases. For example, assume that a person owns two buildings which are joined by a walkway. The person wishes to dispose of one of the buildings but the buyer does not want the walkway. Would demolishing it enhance the value of the building to be sold? It could be argued that without removing the walkway the seller would be unable to sell the building at an enhanced value. In other words, if the seller did not incur the expenditure, the buyer would have to and would demand a reduction in the purchase price.


Whether expenditure qualifies under paragraph 20(1)(e) will depend on whether the taxpayer can discharge the onus of proof under section 102 of the Tax Administration Act 28 of 2011. Often good tax planning can result in a more tax-efficient solution than seeking an addition to base cost, particularly when the recipient of the amount has to include it in gross income.

This article was first published in ASA October 2023

[1] 1936 CPD 241, 8 SATC 13 at 17.

[2] (1953) 19 SATC 328 (C).

[3] [1980] 2 All ER 1 at 6.

[4] 4 TC 669 (1945) at 676.

[5]<> [Accessed 16 August 2023]. ​



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