The end of the close corporation

Although government has for years hinted at its intension to scrap the close corporation (CC) as a legal entity for small businesses, the strongest indication so far that the era of CCs is rapidly drawing to a close comes in the form of a recent announcement on the website of Cipro, the government agency responsible for registering CCs and companies.

The agency announced that as soon as the new Companies Bill becomes law, nobody will be allowed to register new CCs anymore. Existing CCs, however, will be allowed to coexist with a new type of company that the Bill seeks to introduce.

The Companies Bill is currently making its way through Parliament. Government has indicated that it wants the Bill signed into law by the end of next year, but observers say this is unlikely because the Bill, which will completely overhaul South African company law, still needs a lot of work. Parliament has received numerous submissions from the business community criticising large parts of the Bill, especially where it deals with listed companies and accounting standards.

None of the criticisms so far seem to be aimed at the basic idea of how the Bill will accommodate small businesses: although businesses will no longer have a choice about company structure, companies below a certain size will not have to have their books audited annually as is currently the case.

The cost burden of an annual audit is probably the main reason why business owners have until now chosen to register their businesses as CCs, which require owners to have financial statements drawn up by a qualified accountant. This is a lot less expensive than an annual audit, which costs upwards of R10 000.

The new law will provide for three tiers of financial scrutiny, says Zodwa Ntuli, deputy director-general of the consumer and corporate regulation division of the Trade and Industry Department.

The smallest companies will be completely exempt from scrutiny, although they will still have to keep financial records for tax purposes. Mid-sized companies will have to undergo a “review” of some kind, the exact nature of which will be determined by the minister of trade and industry. Large companies will have to undergo standard annual audits. The turnover thresholds and other criteria that will determine which businesses have to undergo reviews and audits are not stipulated in the Bill, which simply gives the minister the power to regulate.

As long as these thresholds and the registration fees of the new entity are unknown, business owners will find it hard to strategise around whether and how to incorporate their business activities in the near future.

Ntuli said it is too early for the department to reveal proposed regulations, but the public will have a chance to comment on them before they take effect. The business community will also be given a grace period in which to prepare for the new rules.

Clifford Amoils, head of auditing at the consulting firm Grant Thornton, says the lack of clarity is a problem, especially for auditing firms, which now find it difficult to estimate the size of their market in future. “At the moment there are a lot of small audit firms that survive on doing the audits on small companies.”

A minor advantage of having companies as the only corporate entities is that small businesses will no longer be discriminated against because they are incorporated as “lesser” entities. Until now, Pty (Ltd) companies have had a slight advantage over CCs because they are viewed in the market as more substantial and sophisticated businesses.

But Douglas van der Merwe, of the company registration service Swiftreg, believes a major disadvantage of the disappearance of CCs is that many of the concepts that underpin companies are abstract and sophisticated.

For example, an owner of a company needs to understand the difference between a shareholder and a director. In a CC, there are no directors, the idea being that the members (shareholders) of a CC are involved in its management.

He fears that, though most business owners may be able to gain an understanding of such concepts, they simply wouldn’t bother, rendering the system dysfunctional.

The same goes for the more onerous secretarial duties placed on companies, such as the obligatory keeping of the minutes of board meetings, he says. Even current registered companies often ignore these duties. If the same obligations are placed on CC-type businesses, it would probably result in pervasive neglect, undermining the law as a whole.

Amoils says the Bill seeks to simplify company structure and the obligations that go with it, especially for smaller businesses. It may even happen that CCs start converting to companies under the new law if the advantage offered by company status outweighs the hassle of company red tape.

But until more details are available, the looming changes are likely to gnaw at the business-owner community, among whom CCs have always been hugely popular since it was started in 1984. In recent years the number of CCs registered on Cipro’s database has exploded to more than a million. However, large numbers of these are believed to be dormant CCs registered for the sole purpose of winning a government tender. Many people tender, but few win, leading to scores of unused CCs.

Ironically, Cipro has for the first time started cleaning up its CC database by requiring all CCs to submit an “annual return” from this month. Those who do not submit the return will be deemed to be dormant and removed from the database.

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