Credit Rating Services Bill [B8-2012] ; Rates and Monetary Amounts & Amendment of Revenue Laws Bill [B10-2012]: Treasury response to submissions

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Finance Standing Committee

04 June 2012
Chairperson: Mr D van Rooyen (Acting)
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Meeting Summary

National Treasury briefed Members on its responses to public comments made at last week's public hearings on the Credit Rating Services Bill [B8-2012] and the Rates and Monetary Amounts and Amendment of Revenue Laws Bill [B10-2012].

National Treasury provided Members with a re-draft of the Credit Rating Services Bill [B -2012] with tracked changes and explained that the following five key issues had arisen – scope and application (Clauses 3 and 4), plain language (Clause 1(5)(b)), liability (Clause 19), endorsement (Clause 18), and offences (Clause 32); and other issues. National Treasury also referred Members to the much more detailed Response Document which covered major themes in the hearings; scope and application; plain language; liability; rationale for entrenching delictual liability; delictual liability in the Credit Ratings Services Bill; liability – United States; liability – European Union; exclusion from liability; conclusion on liability; endorsement; offences; and detailed clause-by-clause responses.

National Treasury observed that if Parliament were to pass this Bill, South Africa would be the first country in Africa to meet the European Union's equivalency requirements. It was important to recognise the global nature of credit ratings. Account had been taken of all the new regulatory developments in the EU and other countries. National Treasury wanted to promote investment, protect investors, ensure that the rating process was credible, and make sure that there was integrity in the process. This would lay the basis for creating South Africa as a financial services hub for the entire continent. Some stakeholders thought that the Bill was too strict on credit rating agencies. Others were concerned at the complexity of regulating multinational agencies. Members of Parliament had asked interesting questions on the ability to regulate even 'opinion' or 'free speech'. There were issues about the small number of analysts in rating agencies in South Africa, about using Johannesburg as a base to expand into Africa, and the potential for agencies to exit South Africa if regulation became too onerous. Other stakeholders thought that the Bill was too lenient, in particular, that the exemption provisions allowed exemption of too many people and were too wide ranging. Obviously there was need to allow for removal of agencies. Some people wanted stronger liability provisions, and stronger provisions on key personnel. National Treasury hoped that it had struck a middle ground in what was quite a contentious area of legislation. National Treasury reviewed the rationale for introducing the Bill, noting that the EU's strict equivalency requirements were to be met by 30 April 2012. South Africa should meet those requirements with this Bill by June 2012. It was one or two months behind schedule, but was 'on track'.

More philosophical questions included whether there could be regulation of an opinion. The general approach was that the opinion itself was not regulated but the process at how that opinion was derived. National Treasury thought it quite important to have a plain language requirement. National Treasury had taken independent advice on the liability provisions, and had also taken account of an EU proposal similar to the Bill. National Treasury had amended Clause 4, and essentially the endorsement regime was now required only for credit ratings on South African entities, securities, or financial instruments. It was important to note that there was another G20 commitment, which was to reduce the reliance on credit ratings. So South African legislation, particularly on pension funds, was moving away from using credit ratings. National Treasury acknowledged that the Bill had inadvertently criminalised relatively minor transgressions.

ANC Members asked if, beside the recession, there was any other regulatory problem that made this Bill necessary. They asked also how much power the Financial Services Board would have to intervene in questioning an endorsement done by an external agency, and if credit rating agencies would pay to be registered. What happened if an investor wanted to use the rating by an external agency that had not registered with the South African Registrar? Had National Treasury considered the business model of the credit rating agencies? An IFP Member sought a presentation on United States and EU practices, and asked to what this Bill really applied. He asked why one could not regulate the product rather than the entity, and had difficulty accepting that this Bill had no financial implications for the state. A DA Member found the definition of 'this Act' extremely broad. Did National Treasury have a justification? The United States had a simple system whereby the credit rating agency was registered and then a supplementary list of all its associates was published. Thereafter, any rating published by anyone in that group achieved eligibility in that country. Surely South Africa could apply the same approach and avoid the question of endorsement. He agreed with the IFP Member that National Treasury should be present during the deliberations clause-by-clause. He was concerned about the definition of 'credit rating'. It seemed to apply to much work done by non-credit rating agencies. Surely liability should be limited to wrongful intent, fraud and gross negligence.

Alarmed by the G20 commitment to reduce reliance on credit ratings, he observed that surely credit ratings had emerged for sound practical reasons. What would emerge in their place? A COPE Member did not understand exactly how credit ratings worked and why this Bill was necessary. Now this Committee was expected to pass this law according to a strict time frame. He placed on record that he objected. He asked how South Africa differed from countries such as Argentina and Singapore. Did they have acts or regulations? Was there a form of self-regulation? Would their examples be appropriate to South Africa? If Moody's and other credit rating agencies left South Africa and issued from abroad a rating on a South African entity or instrument and published it on the internet, this proposed legislation could surely not apply. It very dangerous to codify common law. Why did National Treasury want to do so?
 
National Treasury explained that the Rates and Monetary Amounts and Amendment of Revenue Laws Bill largely dealt with changes in tax rates which were now separated from the usual Taxation Laws Amendment Bills, which would contain the more complex changes. In answer to the objection to implementing tax rate changes before the legislation was formally enacted, National Treasury noted that in taxation, it was established practice that changes in rates were usually and had always been effected by the date of the Ministerial announcement in February. The law, in various places, recognised this, especially in personal income tax rates. This was healthy, as an economic stimulus could be adopted within weeks. The dividend income tax was not new. What was new was that the rate had been changed from 10 to 15%. However, Government was well within its rights to propose an increase or decrease in the rate subject to Parliament's adopting it. There would always be people, such as the South African Constitutional Property Rights Foundation, who would see one tax as a panacea. Its land tax proposal, to replace all income taxes and value added tax, had nothing to do with the Bill. National Treasury had stopped engaging with this organisation because it did not agree with its approach. An accounting firm had called for a reduction in the 40% rate of tax for 'rainmakers'. A number of studies had shown that even if one lowered the rate of taxation for the wealthy, and it did stimulate the economy, one did not make up the losses of revenue to the fiscus. When a small business owner sold the business there was a tax relief. The gain would be exempt, as this was the owner's form of retirement. The definition of small business was changed from R5 million of gross assets to R10 million. This was more than generous.

 
A COPE Member asked why the dividends tax rate change was not before the Committee, as the Income Tax Act specified a rate of 10%. An ANC Member asked if an amendment could be tabled to give formal endorsement to the dividends tax rate change from 10% to 15%. A DA Member said that the change in the rate of capital gains tax was a significant new increase as it was a tax on savings. Surely there was a need to incentivise savings? This Member proposed that the fluctuation in the fuel price gave scope for funding infrastructure through the fuel levy.

Meeting report

National Treasury Credit Rating Services Bill Response Presentation
Background
Mr Ismail Momoniat, Deputy Director-General (DDG): Tax and Financial Sector Policy, said that National Treasury considered all comments from various stakeholders during the 22 May 2012 hearings. (Slide 3). There were the following five key issues – scope and application (Clauses 3 and 4), plain language (Clause 1(5)(b)), liability (Clause 19), endorsement (Clause 18), and offences (Clause 32); and other issues. Beside the presentation document, Mr Momoniat referred Members to the much more detailed Response Document which covered major themes in the hearings; scope and application; plain language; liability; rationale for entrenching delictual liability; delictual liability in the Credit Ratings Services Bill; liability – United States; liability – European Union; exclusion from liability; conclusion on liability; endorsement; offences; and detailed section-by-section responses. Mr Momoniat referred to the re-draft of the Bill with tracked changes.

South Africa would remain at the forefront of regulation, but not the first mover
Mr Momoniat observed that if Parliament were to pass this Bill, South Africa would be the first country in Africa to meet the European Union's (EU) equivalence requirements. (Slide 4). It was quite important to recognise the global nature of credit ratings. In the drafting of the Bill, account had been taken of all the new regulatory developments in the EU and other countries. There were many complexities, and one remained at all times concerned that there might be unintended consequences. National Treasury had tried to minimise those by anticipating as many of them as possible. By and large, National Treasury's message was that one wanted to promote investment, protect investors, ensure that the rating process was credible, and make sure that there was integrity in the process. This would lay the basis for creating South Africa as a financial services hub for the entire continent.

Scope and application
Mr Roy Havemann, Acting Chief Director: Financial Stability and Markets, explained the specific issues raised. He said that a number of concerns had been expressed in the public hearings.

Firstly, there were those who thought that the Bill was too strict on credit rating agencies. Others were concerned at the complexity of regulating multinational agencies. Members of Parliament had asked interesting questions on the ability to regulate even 'opinion' or 'free speech'. There were issues about the small number of analysts in rating agencies in South Africa, about using Johannesburg as a base to expand into Africa, and the potential for agencies to exit South Africa if regulation became too onerous.

On the other hand, there were those who thought that the Bill was too lenient, in particular that the exemption provisions were too wide ranging. Obviously there was need to allow for removal of agencies. Some people wanted stronger liability provisions, and stronger provisions on key personnel. (Slide 5; Response Document, section 3).

This led one to hope that perhaps National Treasury had struck a middle ground in what was quite a contentious area of legislation.

Mr Havemann pointed out that the Bill allowed for something called 'fit and proper' which was quite a standard approach in financial services legislation. However, since credit rating agencies were very important, it was suggested that there was need for stricter requirements.

In response – return to rationale for introducing the Bill
Mr Havemann thought it was important to take a step back and review the rationale for introducing the Bill. Certainly it was very important to give protection to investors and to provide protection from unscrupulous agencies. South African investors must be certain that the ratings that they were using were undertaken in an appropriate way. There was considerable reliance, both formally and informally, in the system on ratings. The Association for Savings and Investment South Africa (ASISA) had made this comment, 'very nicely', in its presentation the previous week, highlighting that, in particular, small investment houses and pension fund trustees relied on credit ratings quite extensively, since they did not have their own in-house teams of researchers. Futuregrowth had also alluded to this. Moreover, the European Union imposed strict equivalence requirements, which were to be met by 30 April 2012. South Africa should meet those requirements with this Bill by June 2012. It was one or two months behind schedule, but was 'on track' (Slide 6).

More philosophical questions
These included whether there could be regulation of an opinion. National Treasury took the view that agencies could only express an opinion based on the data at their disposal, and could not be held liable if the data which they received in good faith was inappropriate. Also they could not be held responsible for how investors used an opinion. National Treasury had taken independent legal advice, and in the Response Document gave considerable detail under what circumstances common law liability would apply. Obviously an opinion was free speech and one could not regulate that. Thus the general approach was that the opinion itself was not regulated, but the process at how that opinion was derived. The methodology should be reasonable. Intentions should be in good faith - this was one of the common law principles included. One should also try to get around conflicts of interest, as might occur in an agency with only one client (Slide 7).

Plain language
There were a number of concerns about the 'onerous' plain language requirement. National Treasury thought it quite important to have a plain language requirement, to ensure that opinions were expressed in a form of language appropriate to the users of such opinions, and that there was no need to change the requirement in the Bill (Slide 8).

Liability
A number of comments had been raised. There was concern that liability provisions could threaten the viability of credit ratings agencies (CRAs). The liability regime was potentially higher than already existing
provisions. There was reliance on third-party data. In response, National Treasury had done much work on understanding the liability provisions, and had taken external advice from the commercial law department of the University of the Witwatersrand. It had also taken account of an EU proposal similar to the Bill. In the EU proposal, civil liability was the standard in the EU, provided that the rating agency met the requirements of the regulations. In the United States there had been considerable efforts to remove credit ratings from many exemptions, particularly the removal of exemptions in the United States legislation on exchanges securities by way of the Dodd-Frank Wall Street Reform and Consumer Protection Act 2010 (H.R.4173). Thus South Africa was really following what had happened in the EU and in the United States. As National Treasury had submitted two weeks previously, the current liability provisions entrenched common law. There was substantial case law and interpretation of common law liability. National Treasury would prefer courts to rely on principles and precedents rather than on statute, and National Treasury wanted credit rating agencies not to be able to contract out of their common law liability. On this basis, National Treasury submitted to the Committee that there should be no change to Clause 19 (Slide 9; See response document, page 32; and slide 10).

Endorsement of ratings and role of foreign credit ratings agencies in South Africa
There were a substantial number of comments on the proposed endorsement regime. At least one agency had commented that this might prove a disincentive for agencies to operate in South Africa. This was particularly so if one read Clause 18 together with Clause 19, where it created liability for South African credit rating agencies. This was a liability with regard to ratings on non-South African instruments and entities. Many comments, particularly on the potential for double regulation, the substantial additional regulatory burden on credit rating agencies, and the potential for the burden on the regulator, because he or she would have to check that every time an endorsement took place that all the conditions of the Act were met. National Treasury took the point that this was quite an onerous requirement, so it had proposed a small, but quite important change (Slide 11; response document, page 28).

Credit ratings agencies operated globally
Mr Havemann referred back to the slide that he had presented two weeks previously. The three main agencies in South Africa operated as true multinationals, with different services provided in different jurisdictions (Slide 12).

Mr Havemann commented that the analysts who did the ratings on South African banks might not be based in South Africa. It was thus quite important to understand how these analysts operated internationally, as they were completely outside the regulatory net as it applied to ratings on South African entities. The EU had created a 'lead analyst' approach. Such an analyst might not always be in the EU - hence an endorsement regime. National Treasury took the point that potentially the endorsement regime that it had created was extremely wide ranging. It wanted to see that if a rating was performed on a South African instrument that the rating was done by an agency, which fell within the South African regulatory framework, or endorsed by such an agency.

The Bill expressly allowed for multinational ratings agencies to operate in South Africa
Mr Havemann explained that National Treasury had made two small changes to the Bill. The definition of external credit rating agency (Clause 3(1)) was not changed. For all intents and purposed, if it passed the EU rules it passed the South African rules.

With regard to Clause 3(2) which determined who was allowed to operate in South Africa, it was now allowed for external credit rating agencies to operate in South Africa provided that they were approved by the Registrar. This created the opportunity for Moody's to bring its analysts into South Africa (Slide 13).

And there were outsourcing provisions
Indeed, Clause 12(1) already gave a South African registered rating agency the ability to outsource functions to an entity in the same group. National Treasury's view was that the Bill was sufficiently flexible. The only area of contention was endorsement and use for regulatory purposes (Slide 14)

As a backstop, there were relatively broad exemption powers
National Treasury wanted to extend these exemption powers to external credit rating agencies, but that if it was a rating issued on a South African instrument, the person who published that rating, particularly if it was to be used for regulatory purposes, must be based in South Africa. XX were specified in Clause 27(1) XX (Slide 15).

Proposed new Clause 4
National Treasury achieved the above by changing Clause 4, and splitting it into two parts. Essentially the endorsement regime was now required only for credit ratings on South African entities, securities, or financial instruments (Slide 16).

For regulatory purposes, ratings on South African entities could only be issued by, or endorsed by South African credit ratings agencies. Ratings on non-South African entities could be issued or endorsed by South African credit ratings agencies, and by approved external credit ratings agencies. The G20 commitment was to reduce reliance on credit ratings. There was a limited number of instances where ratings were used for regulatory purposes. (Slide 17).

Mr Havemann commented that this would allow South African pension funds to buy instruments in London provided that they were covered by the London rules on credit rating agencies.

Essentially the endorsement regime was now required only for ratings on South African entities, securities or financial instruments for regulatory purposes. If the rating was for non-South African entities it could now be issued or endorsed by South African credit rating agencies or by approved external credit rating agencies, that is, non-South African credit rating agencies.

It was important to note that there was another G20 commitment, which was to reduce the reliance on credit ratings. So South African legislation, particularly on pension funds, was moving away from using credit ratings.

Offences
National Treasury acknowledged that the Bill had inadvertently criminalised relatively minor transgressions. It was proposed to narrow this to Clause 3(2) and Clause 4 (Slide 18).

Other
Other comments were contained in the detailed response document with an attached matrix providing responses to every comment made in the parliamentary process. Also available to Members of the Standing Committee were comments and responses on the preliminary draft of the Bill (Slide 19).

Discussion
Mr T Harris (DA) sought sufficient time to understand the table of exemptions before asking questions.

Dr M Oriani-Ambrosini (IFP) asked for clarity on the process. Could he ask his many questions now, or later? If National Treasury would be present during the clause-by-clause deliberations, he would defer his questions.

The Acting Chairperson did not want to discourage questions in any form. He would allow a ten-minute break.

Mr N Koornhof (COPE) said that for him liability was the big issue. He wanted to begin asking questions.

The Acting Chairperson ruled that there should be a break.

Dr Oriani-Ambrosini had not had an answer to his question.

The Acting Chairperson urged Dr Oriani-Ambrosini to ask his questions after the break, but this would not prevent him from asking questions in the clause-by-clause deliberations, as the Committee could seek further clarity on certain issues.

Ms Z Dlamini-Dubazana (ANC) reminded Members of the purpose of the day's meeting - to hear National Treasury's responses to the public hearings. It was too early to fulfil Dr Oriani-Ambrosini's request.

The Acting Chairperson asked Members to take their ten-minute break to study the Response Document, after which he allowed Members to pose questions.

Ms Dlamini-Dubazana asked if, beside the recession, there was any other regulatory problem that made this Bill necessary.

Ms Dlamini-Dubazana asked how much power would the Financial Services Board (FSB) have to intervene in questioning an endorsement done by an external agency.

Dr Oriani-Ambrosini sought a presentation on United States and EU practices and clarity as to whether one was dealing with an EU resolution or directive.

Dr Oriani-Ambrosini asked to what this Bill really applied. He understood that it applied to a formal determination by a regulated company called a credit rating service that must be identified in terms of the regulations. However, the Bill in its present form appeared to apply to all that came out of the agency rather than the specific action. The problem arose in Clause 3. The definition of 'published' was borrowed from defamation law.

Dr Oriani-Ambrosini asked why it was necessary to have an approval by the Registrar (amended Clause 4(2)). The Registrar should approve the jurisdiction, but not necessarily anything that was licensed under the jurisdiction.

Dr Oriani-Ambrosini asked why the compliance unit was being given disguised regulatory powers. (Clause 16). This would engender confusion and was over-reaching.

Dr Oriani-Ambrosini understood that the aim of the Bill was to regulate the methodology and conflicts of interest. If this was so, what was the purpose of Clause 17?

Dr Oriani-Ambrosini thought it was necessary to expand the base of delict (Clause 19). It would be reasonable to limit it to gross negligence and malice.

Dr Oriani-Ambrosini said that the credit rating services performed would be something other than a credit rating issue. It was necessary to limit the issue (Clause 4). He did not understand what the loss or the cost was, if it was not a damage. This was a critical point.

The Acting Chairperson wanted to hear the issues that Dr Oriani-Ambrosini thought were not catered for in the responses. He asked him if he had those in mind.

Dr Oriani-Ambrosini said that he had many issues but wanted to give other colleagues the chance to ask questions.

Mr N Koornhof (COPE) said that by National Treasury's own admission there were many complexities.

Mr Koornhof did not understand exactly how credit ratings worked and why this Bill was necessary. He understood that everybody was furious with these credit rating agencies. However, now this Committee was expected to pass this law according to a very strict time frame. He wanted to place on record that he objected.

Mr Koornhof objected to National Treasury's assertion that South Africa would meet the equivalency requirements by 30 June 2012. The Committee was not aware of any requirement by the EU that was proposed to the world. Also South Africa was not part of the EU.

Mr Koornhof knew of four credit rating agencies. He could not remember the name of the fourth. Where were the unscrupulous credit rating agencies in South Africa? Why did one need protection?

Mr Koornhof noted the Frank-Dodd Act in the United States. In the EU there was regulation. Were all the EU regulations operative, or were they constantly changing?

Mr Koornhof asked how South Africa differed from countries such as Argentina and Singapore. Did they have acts or regulations? Was there a form of self-regulation? Would their examples be appropriate to South Africa?

Mr Koornhof asked if the proposed Act would be needed if Moody's and other credit rating agencies left South Africa. Surely if they did leave and issued from abroad a rating on a South African entity or instrument and published it on the internet, this proposed legislation could not apply?

Mr Koornhof thought it very dangerous to codify common law. Why did National Treasury want to do so?
 
Mr Harris could not expect to comprehend the entire re-draft of the Bill in ten minutes. He hoped that Dr Oriani-Ambrosini's proposal would be accepted and that National Treasury would be present during the deliberations clause-by-clause.


Mr Harris was not satisfied that the change to Clause 4 solved the problem around double regulation. Clause 18(3) still applied. The proposal over-complicated the matter. Laws needed to be drafted so that they could be understood quickly.

Mr Harris thought that the Bill's approach penalised credit rating agencies for not having analysts in the country. The present approach made it enormously complex.

Mr Harris had requested that the Senior Parliamentary Legal Adviser give a definition of 'this Act'. The present definition was far too broad. He requested National Treasury's view too.

Mr Harris was concerned about the definition of 'credit rating'. It seemed to apply to much work done by non-credit rating agencies.

Mr Harris said that surely one wanted to limit the liability to wrongful intent, fraud and gross negligence (Clause 19).

Mr Harris said that an agency could simply not comply unknowingly and then be guilty of an offence (Clause 32). Surely some changes could be made to Clause 19 to specify that it had to be a deliberate contravention to tighten up the phrasing in Clause 32.

Mr Harris asked if National Treasury could identify one unscrupulous action by a credit rating agency in South Africa.

Mr Harris asked what the implications for South Africa were if it did not comply with the EU equivalency requirements.

Mr Harris asked why it was necessary to codify common law?

Mr Harris was interested in the G20 commitment to reduce reliance on credit ratings. Surely credit ratings had emerged for sound practical reasons. What would emerge in their place? How would one assess credit worthiness in their absence? He was alarmed by that commitment and had not seen it before.

Ms J Tshabalala (ANC) was concerned with other agencies that performed similar credit rating services.

Ms Tshabalala asked about methodology and application. What happened if an investor wanted to use the rating by an external agency that had not registered with the South African Registrar?

Ms Tshabalala asked if National Treasury had considered the business model of the credit rating agencies.

The Acting Chairperson asked Members not to be discouraged or be pessimistic. It was too early to expect the legal team to express an opinion. Perhaps the next day they could advise appropriately. National Treasury had confirmed its availability for the clause-by-clause deliberations the next day. He asked Members to confer with their respective parties.

Responses
Mr Momoniat acknowledged Mr Koornhof's concern that the process of the Bill was somewhat rushed. National Treasury would prefer more time but was not responsible for the parliamentary process.

The issue was not whether credit rating agencies in South Africa had been unscrupulous. He emphasised that there was a role for credit rating agencies and National Treasury wanted them to remain in South Africa, but credit agencies, in general, did not know everything and made mistakes, sometimes spectacular ones, as with the high rating given to Lehman Brothers before its collapse.

For the above reason many parts of the world had taken a heavy rather than a 'light touch' approach, for the latter - depending on common law alone - was not sufficient. Unfortunately, much draconian legislation in the financial sector was now to be expected, whether done by formal legislation or by regulation.

South Africa was a relatively small player globally, and had no choice but to comply with the EU requirements, if it wanted EU investors to invest in South Africa. The cost of not doing so would be that EU investors would not entrust their funds to South Africa. The world had changed.

He expected much lobbying of Members of Parliament by stakeholders. However, those who had made submissions acknowledged that National Treasury had endeavoured to be reasonable. If there were clauses that were unreasonable, these would be reconsidered.

It was necessary to use some judgement as to where one drew the line on liability. If one made the legislation too onerous, no agency would want to remain in South Africa. It was necessary to find the right balance, and National Treasury would welcome more discussion.

National Treasury would make available to Members the legal opinions that it had obtained.

If South Africa did not have this legislation there would be consequences. There was a fine line between what one put into the proposed act and what one put into regulations. National Treasury would like to shift the balance more towards regulation. This meant a less transparent approach than with 'hard legislation'. However, in the financial sector things moved so fast that the supervisors were almost entrusted with some law making capacity. For this reason it was very important to hold the supervisors to account as well, since they would have quite strong powers. This was the way the world was going. South Africa would find it very hard to swim against the current.

Mr Havemann referred to an extensive House of Lords committee hearing on this issue. Similar questions had been asked in those hearings. Other legislatures around the world were asking similar questions on the need for and scope of regulation. This was a bill that would align South Africa with the work of other legislatures. National Treasury would be happy to provide the House of Lords committee report if required.

It was important that all the players in the financial services industry were regulated appropriately and were regulated internationally in a consistent way. The global crisis had highlighted that a number of players had been completely unregulated. Such lack of regulation had created enormous costs for everybody. South Africa itself did not have a financial crisis, but had lost one million jobs. As of now, banking systems that were beginning to fail were having major impacts. The Greek economy had contracted by 14 or 17%. South Africa was growing at between two and three per cent a year and would like to grow quicker. What would happen if it contracted by 17%? The Bill sought to ensure that the system was robust, survived, and was appropriately regulated. To date, South Africa had had a well-regulated system, and needed to keep up with international best practice.

It would not be possible to provide Dr Oriani-Ambrosini with an international best practice presentation by the following day. However, he could certainly send through the EU regulations, which were thicker than the Bill. The Dodd-Frank Wall Street Reform and Consumer Protection Act 2010 (H.R.4173) was very long, with even longer regulations. Having a relatively slim Bill was important in enabling South Africa to remain flexible.

Mr Havemann proposed replying to Dr Oriani-Ambrosini's questions on specific clauses in the clause-by-clause deliberations.

The Acting Chairperson asked Mr Havemann to reply to Dr Oriani-Ambrosini immediately.

Mr Havemann replied that Clause 3(1) specified that the Bill applied to services performed and published within the Republic of South Africa and to any person who issued credit ratings within the Republic. Every G20 country was trying to create the same standard of regulation, as these agencies could move from one jurisdiction to another. The Bill applied specifically to the provision of services and to the publishing of ratings.

Mr Havemann replied to Mr Koornhof that it was very true that these agencies could publish ratings on the internet. This was why it was necessary to create a jigsaw puzzle where all jurisdictions had similar legislation. This was behind the EU equivalence approach.

On why there was a need for approval by the Registrar, Mr Havemann explained that the approval of particular jurisdictions was not the approach that had been taken by the EU, which on its website had a specific list of agencies which had been approved. This was the approach that National Treasury had taken.

On Clause 16(1) Mr Havemann explained that National Treasury did not necessarily want the rating agency to have a compliance officer in South Africa, so long as it had a compliance officer anywhere in its group. If that sub-clause were removed, it would mean that the credit ratings agency or its group must have a compliance officer in South Africa, which would entail considerable expense. This sub-clause was a good thing for the credit rating agencies.

Mr Havemann replied to Dr Oriani-Ambrosini that National Treasury had sought external and independent legal opinion. Liability arose if it was subsequently discovered that an agency had undertaken ratings in a matter that was not in good faith [bone fide], or was negligent, or collected information in a way that was not appropriate. (Clause 19)

Mr Havemann replied to Mr Harris that he would not like to mention the names of agencies, but there were agencies, not Moody's, Standard and Poor, or Fitch, that had tendered to provide ratings and provided them at a substantially reduced price compared to the big three. This meant that a municipality was almost forced to use a rating from a cheaper agency.

Except in the Banks Act, there had never been any requirement on the operations of credit ratings agencies. So it was very important to introduce this Bill to allow for that.

On double regulation and the over complication of having analysts, the opposite was true. Under the Bill it was not required to have analysts in South Africa. The whole endorsement regime and the external credit rating agencies regime was designed to allow for very small operations in South Africa. The compliance unit was not required to be in South Africa.

The proposal on the external rating agency related to Clause 4. It was hoped not to make the Bill too complicated, but legal counsel and drafters tried to anticipate all eventualities and this created quite complicated provisions; however, National Treasury was open to suggestions on how to simplify.

This Bill was published for comment in August 2011. It was the second or third [financial bill] tabled in Parliament this year. It was only after the budget bills that it was brought to the house.

The Financial Stability Board [of the G20] had issued an extraordinarily complex and extensive document on how countries could reduce their reliance on credit ratings agencies across the world. National Treasury had taken into account all those proposals and, among others, had reviewed Regulation 28 of the Pension Funds Act.
 
Mr Momoniat explained that by reliance, the Financial Stability Board meant that judgement over and above the ratings must be applied.


Mr Havemann said that only one company had commented on the revised definition. National Treasury hoped that the revised definition struck a balance.

Clause 3(2) covered many questions. Private credit ratings were excluded. It was intended also to exclude all credit ratings that were produced internally.

The offences clause (Clause 32) existed because of consequences.

The EU was dogmatic to some extent. Already credit ratings agencies globally were changing their business models to comply internationally with these regulations.

Mr Momoniat said that different rating agencies gave different opinions. A parent group might have a particular process, but it was up to an investor to decide which rating to take.

The Acting Chairperson asked Members to confine themselves to follow-up questions and bear in mind that they would have further opportunities the following day.

Dr Oriani-Ambrosini repeated his earlier question - why could one not regulate the product rather than the entity and how it achieved its product? This would solve a number of drafting difficulties.

Dr Oriani-Ambrosini had difficulty accepting that this Bill had no financial implications for the state.

Dr Oriani-Ambrosini accepted that one was regulating methodology and form, but not manner. However, one was within the parameters of the limitation 'clause' of the Constitution. There were four different levels - the law, the rules of the Regulator, the directives of the Regulator, and then the regulations of the Minister, that affected freedom of opinion of future events. He submitted that this was not constitutionally tenable.

Dr Oriani-Ambrosini was pleased that National Treasury had studied all the documents mentioned. Members must follow the same itinerary and study the same information.

Mr Harris found the definition of 'this Act' extremely broad. Did National Treasury have a justification?

Mr Harris asked if National Treasury was opened to narrowing the liability provisions of Clauses 19 and 32.

Mr Harris understood that the United States had a simple system whereby the credit rating agency was registered and then a supplementary list of all its associates was published. Thereafter, any rating published by anyone in that group achieved eligibility in that country. Surely South Africa could apply the same approach and avoid the question of endorsement.

Ms Tshabalala asked if more value for money would be achieved from the exercise that the Committee was undertaking, bearing in mind that the Committee had a responsibility to the users of credit ratings to ensure that they could use them appropriately. Would credit rating agencies pay to be registered?

Ms Tshabalala was not satisfied with the response on the definition of credit ratings.

Mr Momoniat replied to Dr Oriani-Ambrosini that National Treasury was mindful that it was Parliament that had the responsibility for finalising the legislation, and National Treasury would be happy to supply further documentation.

There would be financial implications for financial entities. This was because banks, in the way that they had operated in the United States, had generated huge costs to all the world's economies. One million people had lost their jobs in South Africa because of poor regulation over Lehman Brothers. For this reason there was a heavy-handed approach. In the financial sector one could not provide services without being regulated and this involved expenses such as audit fees. 'The legislation is draconian.'

There were two types of issues with regard to regulated entities: (1) those which applied to be registered or to be regulated. Obviously there were certain costs and arrangements which had to be made, including capital requirements that had to be adhered to. There were also market conduct provisions. (2) there were investors, who, when they invested, used, in this instance, the opinions of credit rating agencies. It was a very valuable service that was provided. However, as with audit companies, one had to deal with conflicts of interest.

Mr Momoniat replied to Mr Harris that Moody's had suggested the United States approach, while National Treasury had favoured the EU approach. There were a number of issues around the Dodd-Frank Act, including extra-territoriality.

Mr Momoniat replied to Mr Harris and to Dr Oriani-Ambrosini that in the financial sector there were various levels of legislation. Therefore 'this Act' covered all of that. In the Basel process there were a great many technical definitions. There was a recognition that this was best done by supervisors.

Mr Momoniat replied to Ms Tshabalala that National Treasury had taken the definition into account. That point had been raised and the definition had been changed.

Value for money was not a big consideration. However, National Treasury wanted the credit rating agencies to pay the costs of regulating them, but this was a small cost compared with trying to regulate the behaviour of these entities.

Credit rating agencies would have costs when they changed their business models. The banking sector might complain that politicians were interfering excessively, but the reality was that when the banking sector had messed up the world in the way it had, when taxpayers funds had to be used, it must not be surprised that banking had become so political. If regulators did not have the power to regulate, then there might be more banking crises.

Mr Havemann apologised for not giving a specific answer on regulating products rather than entities. Clause 4(1) actually spoke specifically of using credit ratings that were issued or endorsed by credit rating agencies. The credit ratings were the product, for which the Bill provided regulation; however, it was also necessary to regulate the producer - the credit rating agency. It was not possible to regulate the one without the other.

The Financial Services Board had already proposed all the proposed rules and Members could review them. This would also help Mr Harris with the Act's definitions.

Nothing in the United States financial system was simple. The United States did everything differently from everyone else. This was not necessarily a good thing, as could be seen from the global financial crisis. The United States legislation created an entity called a 'national statistical organisation'. Only three entities qualified, and they were the big three. He was not sure that it was appropriate for a licensed entity to allow another entity to use its licence on its behalf.

There was a requirement that the Registrar must publish a list of all the ratings that were related.

Mr Havemann replied to Ms Tshabalala that National Treasury would provide the Committee with the original definition of 'credit rating'. The general feeling was that the new definition was much narrower and was more appropriate.

As far as possible regulated entities were required to pay their own way in regard to the cost of their licensing.

A staff member of one of the credit rating agencies had moved across to the Financial Services Board.

Mr Momoniat said that National Treasury remained open to suggestions.

The FSB replied that obviously regulation did have a cost, but sought to ensure that these costs were equitable and fair to FSB's constituents.

Ms Jeannine Bednar-Giyose, Director: Financial Sector Regulation and Legislation, replied that the definition of 'this Act' was crafted in terms of making the other definitions in the Bill simpler. However, National Treasury would be open to the advice of the Senior Parliamentary Legal Adviser.

National Treasury had made a proposal to amend the offences and penalties provision to reduce its ambit. National Treasury thought that it provided for reasonable scope for liability for an offence. The penalties to be imposed would always need to be appropriate to the offence.

The Acting Chairperson thanked National Treasury for these responses, and looked forward to National Treasury's participation the next day, together with a legal opinion from Adv Frank Jenkins, Senior Parliamentary Legal Adviser.

National Treasury Rates response: Monetary Amounts and Amendment of Revenue Laws Bill
Mr Momoniat said that this Bill largely dealt with the rates of tax. Obviously because there had been changes in the dividends income tax and capital gains tax it was felt desirable to separate these changes from the usual Taxation Laws Amendment Bills.

In taxation it had become the practice that many proposals were implemented after the Minister had made the announcement. Some were implemented immediately, some at the beginning of the fiscal year. If a certain comment were to be taken seriously, it would preclude implementing any of the deductions until October or November, or June, or whenever the legislation was passed.

What would be quite draconian would be a tax measure that took effect before the Minister had announced it. Sometimes with tax avoidance there was need for such draconian measures.

The dividend income tax was not new. It had been announced last year. What was new was that the rate had been changed from 10 to 15%. Government was well within its rights to propose an increase or decrease in the rate subject to Parliament's adopting it.

There would always be people who would see one tax as a panacea. Frankly, some such proposals were frivolous. National Treasury had stopped engaging with the South African Constitutional Property Rights Foundation (SACPRIF) because it did not agree with its approach. In any case the eighth report of the Katz Tax Commission had dealt with land taxation a few years ago.

Prof Keith Engel, National Treasury Chief Director: Tax Legal Design, said that the more complex changes would be contained in the second bill that would be coming to the Committee. Almost everything to do with base changes had a forward effective date of 01 January 2013. National Treasury had been doing that increasingly. It was often found that the taxpayers wanted 'good' changes immediately, and the 'bad' changes later. Generally when substantive changes were made, they became effective the next year.

Rate changes, on the other hand, did not require a great deal of planning. So changes in rates were usually and had always been done by the date of the Ministerial announcement in February. The law, in various places, recognised this, especially in personal income tax rates. This was healthy, as an economic stimulus could be adopted within weeks. The price for this was that the 'good and the bad' came together.

The dividends tax was not new; it was only a change in the rate of an old tax.

One of the accounting firms had called for a reduction in the 40% rate of tax for 'rainmakers'. Such proposals assumed that a reduction in tax for the rich would lead to a trickling down of the money to the poor. If indeed one did lower rates, it did help growth and sometimes resulted in additional revenue, but it was necessary to achieve a balance. A number of studies had shown that even if one lowered the rate of taxation for the wealthy, and it did stimulate the economy, one did not make up the losses of revenue to the fiscus. Unfortunately, there was a common attitude of 'Don't tax me: tax the other guy!' Here one saw the large accounting firms pitching for their clients. Low-income people did not get that same pitch.

One submission was that there was a lower rate for small business companies so there should be a lower dividend rate for small business companies. That had not been a significant issue since small business companies did not usually take out much money through dividends. They usually took it out through salaries or interest payments on shareholder loans. It would be nice to have, but it was not of critical importance.

There was another question about effective dates. The capital gains rate was being increased from 01 March, but pre 01 March gains as well as post 01 March gains were to be taxed. It was a question of fairness versus simplicity.

When a small business owner sold his or her business there was a tax relief. The gain would be exempt, as this was the owner's form of retirement. The definition of small business was changed from R5 million of gross assets to R10 million. This was more than generous. The tax accounting firms had, however, said that R10 million was too small. On the other hand, the firms were not concerned with really small businesses.

There was going to be discussion on putting ceilings on retirement annuities and on what was deductible.

The land tax proposal from SACPRIF had nothing to do with the Bill. Periodically this small group of people had fallen in love with the land tax as the solution to all their ills. The literature in support of their proposal was all very theoretical. A stronger case had to be made for the proposed change. Essentially they wanted to remove income tax and value added tax (VAT) because these were taxes on their form of wealth, their securities and their interest. Again, it was a very typical issue in tax: 'let's make sure that the tax does not apply to me'.
 
Discussion

Mr Koornhof said that the dividend tax was somewhat different. The Income Tax Act specified clearly a rate of 10%. Why was this change not before the Committee?

Mr Momoniat replied that the change from 10 to 15% was done in this Bill.

Prof Engel said that the rate change was clearly expressed in the law. This would be ratified. Many businesses anticipated this and had made adjustments. In March there was a massive payment of dividends to beat the change in rates. The revenue systems were withholding the tax as from 01 April.

Dr Z Luyenge (ANC) sought clarity on the global standing of South Africa as to its economy.

Mr Momoniat replied that there were concerns for all economies in the world. If the European crisis continued it would impact on South Africa. Therefore there was need to diversify the economy. If there was an economic decline, there would be a decline in revenue.

Ms Tshabalala asked as to the possibility of tabling an amendment to the National Assembly to give formal endorsement to the change in the rate of the dividends tax from 10% to 15%.

Mr Harris noted that since there was actually a tax loss on the dividends there was ultimately tax relief in this aspect. However, the capital gains tax was a significant new increase, as it was a tax on savings in a country which had a low rate of savings. Surely there was a need to incentivise savings.

The Minister had said that the aggregate tax burden, because of this Bill, had increased marginally to 25% of gross domestic product (GDP). What was National Treasury's estimate of what this proportion should be? Hong Kong, by contrast, had a tax burden of only 13% of GDP.

Mr Momoniat replied that National Treasury did not have a target as to the percentage of the tax burden as a percentage of GDP. South Africa compared well to the rest of the world. It was not South Africa's aim to be a tax haven, as it sought to be an equitable society. Taxing of dividends, as well as capital gains, would be more equitable.

Prof Engel said that things did not happen magically in isolation. Having a tax burden as a percentage of only 17% of GDP might mean having to borrow more or cut expenditure. In the United States there was a belief in big spending and low taxes. This resulted in debt levels exceeding those of Greece, but the United States could get away with it. South Africa could not do that.

Mr Harris said that the fluctuation in the fuel price gave scope for funding infrastructure through the fuel levy.

Mr Momoniat replied to Mr Harris that an opportunistic approach to allow only an increase in the price of fuel would lose votes and there was need to work through the Division of Revenue Act. An ad hoc approach would not work. A proper process was required.

The Acting Chairperson said that rapid changes might compromise the noble objective of maintaining the credibility and predictability of South Africa's tax system. To what extent was this accommodated?

Mr Momoniat replied that National Treasury sought to make predictable, mainly technical, tax changes. This was the first adjustment to capital gains tax after ten years of implementation.

The dividends tax was nothing new. National Treasury had been put under pressure because when people had assessed their corporate income tax they had added on their secondary tax on companies (STC), so STC had been abolished, even though it was a good tax and was easy to collect, in favour of a more difficult tax - the dividend (withholding) income tax. International comparability problems had forced National Treasury to take that direction. Even there the issue of savings was taken into account. The retirement funds were exempt from the dividends tax.

Prof Engel said that for the first time the rates and thresholds had been separated from the rest of the Bill. The one bill, as previously, meant that the rates and thresholds would not be enacted until November.

Prof Engel said that Tax law changed every year, as it affected every transaction in the economy. However, National Treasury had been careful about rate changes.

Mr Momoniat said that one had to be careful to avoid uncertainty and bad news together. Nobody minded a combination of good news and uncertainty.

The Acting Chairperson adjourned the meeting.

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