Commissioner for the South African Revenue Service v The Executors of Estate Late Sidney Ellerine

The late Sidney Ellerine held 112,000 7% redeemable non-cumulative preference shares in Sidney Ellerine Trust (Pty) Ltd, representing 99.47% of voting rights. The company's share capital also consisted of 600 ordinary shares held by various family trusts. On his death, SARS assessed the preference shares at R563,376,418 (99.47% of the company's value) on the basis that the deceased was entitled to convert them to ordinary shares using his voting power. The executors contended the shares should be valued at par value of R112,000, arguing that special condition 5.8 of the Memorandum read with Articles 4.2 and 34 of the Articles of Association precluded conversion without 75% approval from ordinary shareholders. The Tax Court held that the deceased was not entitled to convert the shares without such approval, as conversion would constitute an amendment requiring consent under Article 34.

• Whether the holder of preference shares could convert them to ordinary shares without amending Article 34 of the Articles of Association, which required written approval of 75% of holders of each class of shares
• Whether conversion of preference shares to ordinary shares required approval of 75% of ordinary shareholders under Article 4.2
• The proper valuation of preference shares for capital gains tax purposes under paragraph 40 read with paragraph 31(3)(a)(i) of the Eighth Schedule to the Income Tax Act 58 of 1962
• Whether conversion of shares constitutes a 'variation of rights' requiring consent under Article 4.2

The appeal was upheld with costs, including costs of two counsel. The Tax Court order of 11 October 2016 was set aside and replaced with an order declaring that the deceased was entitled, on the date of his death, to convert the preference shares to ordinary shares and the preference shares must be valued for purposes of paragraph 40 read with paragraph 31(3) of the Eighth Schedule to the Income Tax Act on this basis.

A conversion of preference shares to ordinary shares pursuant to an express power in the articles of association does not constitute an 'amendment' to the article dealing with preference share rights, and therefore does not trigger restrictions on amendments. A 'variation of rights' under company articles occurs when the rights, privileges and conditions attaching to a class of shares are varied, not when shares of that class become commercially less valuable as a result of corporate action. Where articles of association contain an express power to convert shares of one class to another by special resolution (Article 7.1.10), this operates independently of provisions protecting class rights (Article 4.2). For purposes of valuing shares under paragraph 40 read with paragraph 31(3) of the Eighth Schedule to the Income Tax Act, the market value must reflect the legal rights the shareholder possessed at death, including the right to convert shares where the shareholder held sufficient voting power to effect such conversion.

The court noted the distinction recognized in English law between contracts made by a company with members in their private capacity and those made in their capacity as members. The court observed that there was no foundation for the submission that a contract was concluded between the company and the deceased in his personal capacity. The court cited English authorities (White v Bristol Aeroplane Co Ltd and Greenhalgh v Arderne Cinemas Ltd) supporting the principle that variation of rights requires actual changes to rights attached to shares, not merely commercial devaluation, and noted this distinction is equally applicable in South African company law. The court commented that had it been intended to qualify the position in Article 7.1.10 by reference to Article 4.2, express language would have been required to make this clear.

This case establishes important principles for the valuation of shares for capital gains tax purposes on death. It clarifies the distinction between variation of rights attached to shares versus diminution in commercial value - only the former triggers consent requirements under articles of association. The judgment provides guidance on interpretation of company articles of association, particularly regarding conversion rights and class rights. It confirms that rights attach to classes of shares, not individual shareholders in their personal capacity. The case is significant for tax practitioners and company law specialists in determining when share conversions require shareholder approval and how to value shares with conversion rights for estate duty and capital gains tax purposes.