When looking at Capital Gains Tax (“CGT”) we often see examiners testing the primary residence exclusion discussed in Part VII of the Eighth Schedule. It is a popular section and a great place to score marks but this section is often misunderstood by students.

In general, when a natural person disposes of a primary residence the taxpayer will qualify for a primary residence exclusion of R2million (para45(1)(a)).

As a simple illustration, assume that a natural person sells a primary residence. The proceeds are R4 500 000 and the base cost is R1 200 000. This natural person has used the house 100% of the time as a primary residence and has used no part of it for business. The capital gain on this house will be:

Basic illustration of primary residence exclusion

This is a pretty simple example and most students are comfortable with it.

However, students often misunderstand when the primary residence exclusion of para45(1)(a) is available.

It is important to note that the primary residence exclusion is available per primary residence and NOT per person or per year.

In other words, it is possible to receive more than one primary residence exclusion per year!

Students often quote a rule which is mostly understood. This rule is that a “natural person can only have one primary residence at a time”.

This is correct per para45(3).

But do you really understand what that means?

Consider the following example:

Mr X purchases 5 houses at the beginning of Year 1. All of these houses have the same cost. He then moves into House 1 and rents out Houses 2 – 5 to tenants. He stays in House 1 for two years and then moves into House 2. He then rents out Houses 1, 3, 4 and 5 to tenants. After another 2 years he moves out of House 2 and into House 3. He then rents out all the other houses. He continues doing so until he has stayed in each of the 5 houses for 2 years and rented out each house for 8 years.

The diagram below illustrates this visually:

Table showing the times Houses 1 – 5 were used as primary residence and when it was rented out.

At the end of Year 10, Mr X sells all of the houses at the same time.

Assume that the proceeds on each house is R4 000 000 and that the base cost of each house is R1 000 000.

The question is: On which of the houses does he receive the primary residence exclusion of R2million (para45(1)(b))?

The usual answer given is: HOUSE 5 because this is the last house that he stayed in and a person can only have one primary residence at a time.

That is the WRONG answer.

The answer is that he can apply the para45(1)(b) primary residence exclusion to all five of the houses.

But why?

It is because he used all five of the houses for some period of time as a primary residence.

The capital gain that will be calculated for each house will be as follows:

Capital gain that will be calculated on each house. This is the capital gain for one house. The primary residence exclusion applies only to the period that it was used as a primary residence.

The R2 400 000 is the capital gain that relates to the eight years that each house was rented out to tenants. It was not used as a primary residence during this time and, therefore, the portion does not qualify for the primary residence exclusion. This R2 400 000 forms part of your aggregate capital gains for the year. This is why it is included in the “CGT” column above.

The R600 000 is the capital gain that relates to the two years that each house was used as a primary residence. Only this portion qualifies for the primary residence exclusion of para45(1)(a). As the R600 000 is less than R2 000 000, there is no capital gain on the portion that relates to the primary residence.

In summary: There is a capital gain of R2 400 000 that relates to the time period that the house was NOT used as a primary residence. There is Rnil capital gain for the time period that the house was used as a primary residence, as the R600 000 is less than the R2 000 000 primary residence exclusion.

IMPORTANT: There will be five capital gains calculations as there were five houses disposed off. Each of these will receive the primary residence exclusion for the period it was used as a primary residence.

It is very important to note that the R2 000 000 primary residence exclusion is NOT apportioned. In fact, the only time it is ever apportioned is when ownership is shared. Do NOT apportion the R2 000 000 in any other situation.

The primary residence exclusion is a popular test topic. Make sure that you know it well.

Good luck for Test 1

Roulon du Toit CA (SA) is a founder of CA Campus and lectures taxation.

For more information on why you should choose CA Campus as your UNISA CTA support provider visit: www.cacampus.co.za/why-ca-campus/

If you would like to see an additional example of the primary residence exclusion, click on the link to view an example on the SARS website:

Primary residence exclusion example (SARS)