Division of Revenue Bill [B4-2017]: public hearings

Meeting report

Division of Revenue: Briefing

Bureau of Economic Research

Mr Hassan Essop, of the Bureau of Economic Research at the University of Stellenbosch, said he was asked to comment on whether the 2017 Division of Revenue allocations to the various spheres of government were justifiable, taking into consideration the constitutional mandate of the various spheres of government and the capacity to spend the allocated funds by each sphere of government; whether the current Division of Revenue allocations addressed the government's needs and interest, the developmental needs of the country, as well as economic and social disparities within the country; and whether the 2017 Division of Revenue allocations to the various spheres of government were in line with the current government spending priorities as stipulated in the National Development Plan (NDP) and also reiterated by President Jacob Zuma during the 2017 State of the Nation Address (SONA). However, he had commented only on whether the allocations were in line with the constitutional mandate, given the macroeconomic environment and fiscal limitations; whether allocations were focussed on government priorities; and had commented on “radical economic transformation,” given the NDP and SONA and recent proclamations regarding it.

He spoke about the general macroeconomic environment and fiscal limitations and the justifiability of allocations given the constitutional mandate and economic realities, the ability of municipalities to generate their own revenue, increased expenditure liability, SizweNtsalubaGobodo’s (SNG’s) implementation capacity, the framework of the NDP, SONA 2017 and recent statements.

On the macro environment, he said that there was high total public debt levels and ratings downgrades which limited spending ability. Coupled with the decreasing levels of investment, high total debt and increased interest repayments, this meant that there were less funds to spend. The lower growth meant tax revenue would be under pressure. Low employment growth and the lack of income growth amplified pressure on tax revenue generation, and SARS was highly likely to miss its tax target by tens of billions of rands.

While he acknowledged that the allocations were in line, this did not imply that resources were used to achieve desired outcomes. Even if the allocations were spent on desired outcomes, it did not imply that such spending was efficient and achieved the best possible outcome, and that this was applicable to all spheres of government. He also noted that the constitutional mandate required that the allocation be within fiscal limits, but the fiscal limits were narrowing.

Commenting on the provincial government allocation, he said the provincial framework saw wages, as a percentage of the total budget, decline marginally from 60.4% to 59.8% from 2015 to 2016. The Financial and Fiscal Commission (FFC) recommendation on the measurement of public sector productivity had not been finalised. Given the declining incomes, wage demands within the public sector would increase after the three-year cycle was completed. The conditional grant allocations focussed on appropriate areas, but the decline in the Human Settlements Development Grant was disconcerting, given the latest views on land reclamation. He also noted that a high level of budget expenditure did not always equate to money well spent.

On the local government allocation, he said that several grants would face cuts over the 2017 medium term expenditure framework (MTEF). The FFC had noted concerns that these cuts affected grants that performed well. While the average spend of these grants, like the Municipal Infrastructure Grant (MIG), might be high, the efficiency of the actual spend was a more accurate measure of performance. Studies had shown that actual spending was inefficient in a large number of municipalities across the country and that no clear action was being taken to address inefficient spending, which was different from inappropriate spending or a lack of spending.

He said the allocations were in line with the constitutional mandate. There were large transfers to rural municipalities with 61 rural municipalities receiving 31% of the transfers. This also spoke to the revenue generation capacity of these municipalities. One area that was lacking was public sector innovation. The allocations were not the main concern -- it was the spending and the efficacy of the spending that should be of concern.

On municipalities’ ability to generate their own revenue, he said that this was important as it improved accountability, because it was not shifting the responsibility to the national departments. Cuts in public sector funding because of fiscal constraints should stimulate innovation, and improve efficiency and planning. He questioned whether the fact that provinces generated only approximately three percent of their own revenue meant that they had become de facto national administrative offices.

There was little doubt that the Division of Revenue bill was in line with the current mandate and policy of government. There was a long-term policy that had consistently emphasised market-based plans and was with focussed on long-run growth. “Radical Economic Transformation,” however, created confusion because there was no clear and consistent definition, there was no implementation plan and there was no additional safety net plan due to increased costs. Other questions which could not be answered therefore were whether the current allocations were in line with Radical Economic Transformation as policy. In any event, Radical Economic Transformation had to be in line with fiscal limits.

He concluded by saying that within an unfavourable macro and fiscal environment and the lack of clarity on Radical Economic Transformation, it was not useful to the implementation/adjudication of current policy. It was not clear that “radical” changes would achieve “a better life for all” in the short and medium run. The current allocations were entirely justifiable within the current fiscal limits, and while there were several areas of concern, the focus has not wavered from national policy. The implementation of policy and linked capacity constraints remained problematic. The role of provincial government, as a sphere of government in its own right, had to be looked at. Sub-national governments’ ability to generate their own revenue would place increased pressure on the DoR Bill in future, and a reduced revenue generation capacity would also reduce the ability to issue debt, accountability and public sector innovation. The constitutional question about the role of sub-national government should be revisited, because the de facto situation may differ from the de jure position.

Discussion

Mr O Terblanche (DA, Western Cape) asked if the predicted gross domestic product (GDP) growth rate was not overly optimistic. What was the worst-case scenario regarding low growth rate, and was there a risk of a negative growth rate?

Mr T Motlashuping (ANC, North West) said the high unemployment rate which existed for over 20 years might have been inherited. He said there was no confusion over radical economic transformation. Only 10% of the population held 95% of the country’s wealth, and the government was saying this needed to change to include the disadvantaged. In addition, there had been land dispossession in 1913, hence there was no confusion - radical economic transformation was needed in the country.

Mr F Essack (DA, Mpumalanga) asked what the real inflation rate of the country was. If, as was most likely to happen, the tax target was raised the following year, what would the consequences be then? How could the limited focus on innovation be addressed urgently? How would radical economic transformation be implemented financially? He wanted clarity on the constitutional question about the role of sub-national government.

Mr C de Beer (ANC, Northern Cape) referred to spending, and said that Parliament had to engage with provincial and local governments on a quarterly basis. It would be good if the four finance committees engaged with South African Reserve Bank (SARB) on the quarterly reports.

The Chairperson asked about the current South African debt level, investment and low skills levels of municipal staff.

Mr Essop replied that the growth rate was estimated at 0.8% to 1.5%. However, population growth was greater than economic growth, which meant a decrease in per capita income. An increase in future taxes would mean tightening household budgets.

Unemployment stood at 24%, and little had been done to reduce it over the past 20 years. He agreed that both from a policy and an academic perspective, a solution needed to be found.

He said a clean audit did not mean that money had been spent well, and he felt government set the bar way too low.

He said a cut in government funding could lead to innovation, and he saw the cut in funding as an opportunity.

Regarding radical economic transformation, he said a goal should not be confused with policy. The goal was not controversial and Mandela’s policy was clearly laid out, whereas radical economic transformation was not and that policy had to be clear. It was not that radical economic transformation was good or bad, but it had to be clear.

Regarding the inflation rate, there were very many rates mentioned, but he would recommend sticking to what was called “headline” inflation.

Regarding the golden rule on keeping within one’s budget, he said there were hard limits, but the environment was constantly changing. He was available to give input on the MTEF.

Brexit was both a problem and an opportunity in respect of trade opportunities, especially if there was a hard Brexit.

Mr Steven Kenyon, Director: Local Government Budget Process, National Treasury, wanted to correct some points in Mr Essop’s presentation. He said the Human Settlements grant was less, but it was wrong to say it had decreased. The budget was just not growing as fast as before, and this was similar for other grants as well.

Regarding the own revenue generation of provincial and local governments in Mr Essop’s presentation, he said that local governments’ own revenue in the presentation referred only to own revenue from taxes such as property rates and taxes, but that 70% of local government was funded by the municipalities themselves, hence electricity charges were so important to municipalities.

Eskom

Ms Suzanne Daniels, Eskom Group Company Secretary, gave an overview of municipal debt. The total overdue municipal electricity debt as at 31 March 2017 was R9.4 billion. The top ten overdue municipalities were overdue by R6.2 billion. The top 20 overdue municipalities were overdue by R7.4 billion. There were 63 municipalities that were overdue by more than R10m, and 89 municipalities had overdue debt in excess of R500 000. The Promotion of Administrative Justice Act (PAJA) process has helped Eskom in recovering debt. It had currently finalised payment arrangements, supported by Council resolutions, for 61 of the top 66 defaulters.

To ensure a sustainable solution to the debt problem, Eskom was considering initiatives to address the five main issues raised by the municipalities:

• It was proposing the rationalisation of municipal tariffs to reduce tariff options from 11 to three;
• It would decrease the interest rate charged on overdue balances by half;
• It would change the payment period on municipal bulk accounts from 15 days to 30 days;
• It would change its payment allocation policy to allocate payments to capital first, and then to interest; and
• It would allow municipalities to pay connection charges over a 20-year period at a relevant interest rate instead of cash up front.

There were various challenges impacting the effectiveness and efficiency in municipalities, and the main drivers were skills competency, revenue management, funding and tariffs.

Eskom also noted that provincial governments, Treasury and the Department of Cooperative Governance and Traditional Affairs (CoGTA) had recognised that due to local economic circumstances, certain municipalities were not financially viable. The root causes were systemic in nature, and reducing municipal debt was something Eskom could not tackle alone.

On the issue of electricity distribution, she said that electricity was currently distributed largely through Eskom and the municipalities. Historically, Eskom had been solely responsible for electricity distribution in municipalities. The licence issued to Eskom by the National Energy Regulator of South Africa (NERSA) authorised Eskom to reticulate electricity within municipal areas. In terms of Section 156 (1) of the Constitution, municipalities had executive authority, but not exclusivity in respect of electricity reticulation, and the 2016 judgment of NCP Chlorchem (Pty) Ltd v National Energy Regulator and Others confirmed the legislative framework.

Eskom’s view was that while a municipality had executive authority in respect of electricity reticulation, this was not an exclusive local government function, and was accordingly subject to national legislation. Part B of Schedule 4 of the Constitution afforded Eskom the power to reticulate electricity within a municipal jurisdiction. The power to supply and reticulate given to Eskom in terms of the national legislation superseded the municipalities’ executive authority and the right to administer matters listed under Part B of Schedule 4.

Section 156 of the Constitution was not to be read in isolation of the broader legislative framework.

Eskom exercised its right to supply power and reticulate electricity within a municipal area according to its distribution licence issued by NERSA in terms of the Energy Regulator Act (ERA). Municipalities had similar rights in terms of their distribution licences issued to them in terms of the ERA. The respective rights co-existed in terms of the ERA.

She said the total municipal electricity debt, inclusive of current consumption, was R15.2b at the end of March 2017. Overdue municipal debt had decreased to R9.4 billion as at 31 March 2017 as a result of the implementation of PAJA. However, should Eskom be unable to continue to recover electricity charges, it would result in an escalation of Eskom debt levels and would negatively impact on Eskom’s credit ratings.

Regarding municipalities’ function in supplying electricity to households, she said that Eskom’s national distribution footprint to business and residential customers, together with the current financial viability and poor health of municipalities, did not support a legal position that would exclude Eskom from playing a pivotal role in electricity distribution. Eskom and the municipalities had legislatively co-existing rights to distribute, reticulate and supply electricity within municipal areas.

South African Local Government Association (SALGA)

Ms Jean de la Harpe, Executive Director: Municipal Infrastructure Services, said that in all Salga’s engagements it had emphasized that Eskom was an important national strategic asset and its financial viability was of paramount importance. SALGA encouraged and supported municipalities to pay all their creditors and that equally, they had to improve their revenue enhancement measures, implement credit control policies and better manage both creditors and debtors. She said that while Eskom was owed R10.2 billion, municipalities were owed in total R117 billion.

The complexity of the escalating debt situation required solutions at a constitutional, structural and systems level to ensure that both Eskom and municipalities were financially sustainable. SALGA had

used the inter-governmental relations (IGR) system in an attempt to find mutually beneficial, realistic and long term solutions, but apart from some system level issues like payment periods and interest charges, there had been a failure to resolve the constitutional, structural and systemic issues.

On the constitutional issue, she said that municipalities were service authorities for electricity reticulation. There was disagreement on the constitutional authority of municipalities for electricity reticulation. There was an absence of Service Delivery Agreements (SDAs) between Eskom and municipalities, as required by the Municipal Systems Act and the Electricity Regulation Act. Municipalities were unable to levy surcharges in Eskom supply areas and were unable to exercise credit control in Eskom supply areas. The terms and conditions of the licence issued by NERSA to Eskom to reticulate electricity did not make provision for a SDA with municipalities.

Salga argued that in terms of Section 156(1) of the constitution, municipalities had the executive authority in respect of, and the right to administer, electricity reticulation and had the power to regulate the provision of a municipal service by a service provider and were required to enter into an SDA with the service provider. SALGA said the current dispensation was subversive of the right of municipalities to administer electricity reticulation within the Eskom supply area, as this infringed on a municipality’s right to govern, on its own initiative, local government affairs of its community and to ensure that the provision of services to communities was done in a sustainable manner. Municipalities had the implicit constitutional power to charge fees for an electricity service and the constitutionally entrenched fiscal power to impose surcharges on fees for electricity reticulation services rendered on behalf of the municipality.

On structural issues, Ms De la Harpe said that there were legacy issues in the reticulation of electricity and how these could be resolved, and that there needed to be mechanisms to address the current arrangements for electricity reticulation. Other issues were the role of Eskom and municipalities in the provision of street lighting and the installation of pre-paid meters by municipalities to address collection, as well as the need for a grant to assist municipalities to install pre-paid meters.

On the matter of systemic issues, she said that Eskom’s credit control mechanisms for municipal bulk accounts should be aligned with municipal credit control by-laws and cycles. At issue was also the historical debt owed to municipalities, the reconciliation of municipal debt to Eskom, the notified maximum demand and related penalties, and the unsustainable payment agreements between Eskom and municipalities that were in arrears.

She then outlined the engagements SALGA had had on the service authority issue. An Inter-Ministerial Task Team on Eskom debt and the constitutional matters relating to electricity reticulation had been established. This was comprised of the Ministers of COGTA, the Departments of Finance and Public Enterprises, and the SALGA Presidency, chaired by the Minister of COGTA. A technical task team had been established to address the various issues and make recommendations to the task team. The task team had yet to come up with a set of recommendations.

On Eskom’s debt, she said that 12 municipalities of the top 20 debt defaulters were on the dysfunctional municipalities list. She spoke to the causal factors of Eskom debt, noting that some of the problems were systemic and some were ‘system design’ issues, such as Eskom’s credit control. Other factors were:

• Low revenue collection rates because of high non-payment and theft;
• Municipalities could not exercise credit control in Eskom areas because of SDA issues;
• Tariffs were not cost reflective;
• Electricity cross-subsidised other municipal services;
• Ageing infrastructure, which resulted in high technical losses;
• Critical skills gaps;
• Poor financial management –cash flow mismanagement, improperly managed indigent registers;
• Eskom interest, prime rate plus 5%, levied after 15 days of invoice;
• Notified maximum demand penalties.

Disconnections were unsustainable solutions with a negative economic impact.

Salga recommended that:

• The Minister of Public Enterprises ensure Eskom recognised municipalities as the constitutional authority to deliver electricity, and thus enter into SDAs with municipalities;
• Eskom align their payment conditions to that of the rest of the public sector (i.e. payment only after 30 days, and interest at the prime rate);
• Eskom review the Notified Maximum Demand (NMD) penalty regime;
• Treasury undertake a due diligence process to determine the underlying causes of the debt to Eskom, including affordability;
• Eskom enter into affordable and sustainable payment agreements, and suspend interest once such agreements have been reached;
• That there be a moratorium on disconnections – it was not a long term nor sustainable solution, which only caused unnecessary public unrest.

Financial and Fiscal Commission (FFC)

Dr Mkhululi Ncube, FFC Programme Manager, said that most of the issues the Commission wanted to raise had already been covered. There had been no change in the fortunes of municipalities, as evidenced by a comparison of the aggregate municipal debt between 2011/12 and 2015/16. This was of concern to the FFC.

He said that following the process of the PAJA, eight municipalities in the North West, Northern Cape and Mpumalanga had had their electricity interrupted since 16 January 2017.

Eskom had proposals on the table to resolve its debt quandary and had responded by reducing the interest rates charged on overdue balances from prime plus 5% to prime plus 2%, reducing municipal tariff options from 11 to three, changing the payment period on municipal bulk accounts from 15 to 30 days to give municipalities more time for payment, and changing its payment allocation policy to allocate payments to capital first and then interest. The Commission noted these proposals and, if implemented, it would lead to some improvements. However, some municipalities were failing to pay because of the large amounts owed to them by state organs, so the same pressure had to be put on state organs to pay municipalities.

He reiterated recommendations made by the FFC that:

• Efficiencies in the system needed to be improved;
• A proper diagnostic review of the root causes of non-payment be done, and if it was due to bad management, appropriate consequences should be rendered, especially against the perennial defaulters;
• That Intergovernmental Fiscal Review (IGFR) forums dedicate sufficient time to find lasting solutions to the debt problems within the local government sector;
• Smart prepaid metering was one option to be considered.

Discussion

The Chairperson said the issue needed to be elevated to a broader level, and to the National Council of Provinces (NCOP).

Mr De Beer said proactive measures must be taken by municipalities to control the flow of money. Revenue from Eskom electricity sales and Eskom payments had to be maintained. There had to be credit control and municipalities had to explain how it would be done.

Mr Terblanche said it appeared that Eskom and SALGA were fighting over turf and there was no credit control at SALGA and Eskom. Both had to come to an agreement on how to resolve the issues.

Mr Motlashuping said that municipalities’ managers were contracted for four or five years, and it would be unreasonable to expect them to be able to recover the R2.5 billion of debt in this period. He had not heard anything in the presentations which directly related to the Division of Revenue (DoR). The issues raised did not relate to DoR.

The Chairperson wanted clarity on the example given relating to Alexandra township and Sandton. He said it was not in the interests of the IGFR to seek court resolutions because it fell within the ambit of the Integrated National Electrification Programme (INEP), and the issues needed to be elevated to the NCOP.

Ms Ayanda Noah, Eskom Group Executive, referring to Eskom’s credit control, said it had good systems to monitor customer’s consumption and what they owed. The overall collection rate was 97%, so credit control was not out of control.

She said it was not a question of protection turf -- there was a lack of skills and capacity to collect revenue at municipalities, which was still a challenge. Eskom was running a pilot program in four municipalities by installing prepaid meters, two in the Eastern Cape and two in the Free State. It was not about turf, but about debt.

She said the presentation was not about the DoR, because that had not been the brief it had received from the Committee.

Mr Louis Maleka, Eskom Senior General Manager, responded to the Sandton / Alexandra question, and said credit management tariffs were for all users and there was no difference between Sandton and Alexandra. There were, however, licensed and unlicensed areas. Eskom was saying the focus should be on service delivery, and it was best placed to deal with this as it was their core business. It was a collaboration, not a fight.

Smart meters meant that one would not be able to get electricity if the water and taxes of a municipality were not also paid and up to date.

The Chairperson was interested in the decisions being taken at Ministers and Members of Executive Council MinMec) meetings, and how they were implemented.

Mr Kenyon said the issues raised had also been raised at the budget forum. Some issues were budget related, but a lot of issues were outside of the budget area.

On the funding of Local Government Equitable Share (LGES) to provide free basic services, Mr Kenyon said this was an indication of some mismanagement of monies in the system which was meant for the payment of bulk electricity purchases, etc.

Mr Sadesh Ramjathan, Director: LG Budget Process, National Treasury, said there were a number of factors for local governments’ current situation. Treasury had looked at a broader picture, however. Municipalities owed R34 billion, so resolving the municipalities’ debt to Eskom did not resolve their debt problems, which included debt to small, medium and micro enterprises (SMMEs). Municipalities had to adopt funded budgets which included their creditors. They had to pay. He said that only one municipality had provision for payment to Eskom included in its budgets, and that this meant that Eskom would once again be faced with debt defaulters.

Ms De la Harpe, responding on the Alexandra / Sandton issue, said Eskom residents got a lower tariff because people in municipalities were paying a surcharge which cross-subsidised services. SALGA welcomed smart meters if SALGA did everything, including revenue collection. If the collection of revenue went through Eskom vendors, Eskom took their cut first before the remainder came to the municipalities. What would help would be a dedicated grant for the installation of smart meters. Currently Eskom was raising the funds for the smart meters, but municipalities owed the money for them.

Ms Noah said some municipalities said that they themselves could fund the meters. Eskom was in full support if they could do this. Eskom was only advocating urgency in the matter. She said Eskom would see how it could strengthen collaboration with the municipalities.

Mr Ncube welcomed the fact that Treasury was putting pressure on the issue, and said that it needed to be looked at holistically.

The meeting was adjourned