Within the South African context, junior mining companies have been seen as too risky an investment by private equity firms, family offices, financial institutions and wealthy individuals.
As a way to encourage investments in the mining sector, which is one of the largest employers in South Africa, Treasury introduced a tax incentive under Section 12J of the Income Tax Act.
Although the incentive has been around since 2009, it is only within the last few years, through multiple amendments to the tax legislation, that the sector started to see a flurry of capital from the private sector.
Unconfirmed figures indicated that, as of 28 February 2018, over R3 billion has been invested through the incentive, of which close to 75% has been invested within the last 2 years.
This incentive is focused around the formation of a Section 12J Venture Capital Company which invests (similarly to private equity funds) into specific asset classes, be it, renewable energy, hospitality, franchising, private equity, mining etc.
Once formed, Section 12J Funds raise capital from South African taxpayers and invest the capital on the taxpayer’s behalf.
Section 12J Funds incentivise South African taxpayers to invest, through the returns which the fund aims to achieve and through the Section 12J tax deduction on the amount invested.
By way of illustration, if an investor (an individual in the highest tax bracket) invests R1 million in a Section 12J Fund, the investor will receive a tax credit of up to R450 000 at the end of his/her tax year.
What this means is that an investor will receive a return on 100% of the investment but only has exposure on a minimum of 55% of the original investment amount.
Due to the tax deduction reducing an investor’s exposure, Section 12J Funds have been an extremely attractive vehicle for companies to attract equity funding.
What makes Section 12J more attractive in the mining sector as opposed to other sectors, is that Treasury has allowed a Section 12J Fund to make multiple investments in mining up to R500 million per investment (in other sectors the limit is R50 million).
What the market is yet to see is one of the more prominent mining companies in South Africa, taking advantage of the incentive by forming their own Section 12J Fund to invest in projects.
The formation of the Section 12J Fund will have multiple benefits to a mining company; for example, the capital will be raised off balance sheet and the cost of funding is generally far less than debt and/or equity funding raised in the market.
Time is, however, running out for the formation of Section 12J Funds as Section 12J contains a sunset clause, which provides that Section 12J Funds have until 30 June 2021 to raise as much capital as possible.