Municipal Finance Management Bill: deliberations

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Finance Standing Committee

11 August 2003
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FINANCE PORTFOLIO COMMITTEE

FINANCE PORTFOLIO COMMITTEE
12 August 2003
MUNICIPAL FINANCE MANAGEMENT BILL: DELIBERATIONS

Chairperson:
Ms B Hogan (ANC)

Relevant documents
Draft Municipal Finance Management Bill - 12 August 2003
Second Legal Opinion on the Bill
First Legal Opinion on the Bill - circulated at meeting on 30 May 2003

SUMMARY
During the discussions on the first issue in the Legal Opinion dealing with the capping of the growth of municipal revenue by national legislation, Members considered whether this capping is in fact constitutional, whether measures should be put in place to ensure the rate of increase of the municipal tax is not too high and whether Section 229(2) of the Constitution allows for the capping of tariffs as well. The second issue in the Opinion deals with the granting of an exemption to a municipality from honouring its contractual obligations. Members considered the practicability of this provisional as well as its constitutionality, whether it is worded tightly enough so that a municipality cannot simply get out of its contractual obligations willy nilly and whether the exemption can be granted to a specific contract only. The third issue in the Opinion provides that procurement policy is a Treasury norm and standard.

Clause 31 of the Bill dealing with contracts having budgetary implications was also discussed, and Treasury explained that this clause has simply been made more explicit so that its contents and intention are clarified.

MINUTES
Second Legal Opinion on the Bill
Mr Ismail Momoniat, Treasury Deputy Director General: Intergovernmental Relations, stated that there are really only two factors that affect the Bill: any amendments that might arise from the Second Legal Opinion (the Opinion) and some consequential amendments to the Municipal Systems Act, to be discussed next week.

The Opinion is a positive one, and the general thrust of the Opinion (document awaited) is contained in Points 12 and 13 of the document.

The Chair stated that it is important to note Point 12.3.3, which provides that national government has no power to control municipal expenditure. Is the Opinion stating that the municipality's revenue controlling measures are related to taxation? This would imply that municipalities have far more leeway when imposing service levies etc., and they do not fall under the control of national government.

Mr Momoniat replied that the Opinion does differentiate, on the revenue side, between taxes and surcharges on the one hand, and tariffs on the other. Taxes and surcharges can be regulated in terms of national legislation, because of Section 229 of the Constitution. Tariffs are not specifically referred to in that section, and for this reason they cannot be dealt with in the same way as taxes and surcharges

First question: Growth limits
Mr Momoniat stated that this question really relates to Clause 20(b)(iv) in the Bill (document attached) which is linked to whether national government can limit the rate of total revenue growth, as well as the rate of operating expenditure. In Point 19 the Opinion provides that the wording in the previous draft was different because it focused on the rate of revenue growth, whereas the wording of the current Clause 20(b)(iv) is quite different. The gist of the argument is that there are serious doubts that Clause 20(b)(iv)(bb) is constitutional.

The Chair explained that Adv Trengove had been asked to provide an opinion on this matter on a previous occasion to the Municipal Demarcation Board, in which he concluded that the previous wording of Clause 20(b)(iv) was probably constitutional. An amendment was then effected which changed the wording of Clause 20(b)(iv), and Adv Trengove then stated that the amended wording was unconstitutional. The question was then put to Adv Trengove whether there is not a contradiction between his First Opinion (document attached), which held that the capping provision is constitutional, with the second opinion which concluded it was unconstitutional.

Adv Gerrit Grové, Legal Drafter: Treasury, informed Members that the wording of the clause at the time of the Demarcation Board opinion is to be found in Point 15. The amended version of that provision is to be found in Point 16. The Opinion seems to conclude that it would be unconstitutional for "uniform norms and standards" of national government, as contained in the reworked Clause 20(b)(iv) in Point 16, to prescribe to municipalities how they should spend their money. An practical example of this is then provided in Point 21.3 of the Opinion.

The Chair stated that the Opinion is saying that the Constitution only allows national government to cap revenue growth as it relates to taxes and surcharge. But there are other forms of revenue growth which a municipality exercises, which national government does not have the power to cap. The Opinion thus concludes that national government cannot put a cap on total revenue growth of a municipality.

Adv Grove questioned whether there is a difference between capping an "increase in a municipality's budget", as contained in the original wording of Clause 20(b)(iv), and capping "the rate of total revenue growth", as contained in the revised draft. Adv Grove stated that he would be satisfied if there is a difference between the two.

The Chair stated that there is a difference between the two. A reduction in the municipality's expenditure would decrease the overall growth of its budget, and this is not related to revenue growth.

Mr Momoniat stated that Treasury's only concern here is guarding against an increase in tax rates by the municipality that are too high. Treasury is not concerned with the total sum collected by the municipality. It has to be ensured that their expenditure level remains within affordability levels, between the revenue the municipality actually collects plus allowed borrowing. Municipalities must not be allowed to run unfunded deficits.

Clause 20(b)(iv)(bb) could in fact be deleted completely. The phrase "the rate of total revenue growth or" in Clause 20(b)(iv)(aa) can also be removed. Here Treasury really just wants to cap the increase in the rate of the tax, to ensure that is not excessive.

Adv Grove cautioned against too specific a formulation of this provision. This could result in a possible encroaching on the Property Rates Bill, which is currently being considered by the Provincial and Local Government Portfolio Committee.

Mr Momoniat replied that he does not agree with Adv Grove. The Property Rates Bill has not yet been finalised, so this is not a real cause for concern. Treasury's approach is not out of line with that of the Property Rates Bill. Treasury has had a look at some of the latest reports, and some of the tax increases being imposed are really so massive that they could chase away all taxpayers. Some sort of limit thus has to be placed on the rate of the increase.

Mr M Tarr (ANC) asked whether the capping of a water surcharge would fall within the scope of this provision?

Mr Momoniat answered in the affirmative. Constitutionally a municipality can only impose a property rate tax plus a surcharge on municipal services, and Treasury would be capping the rate of increase in both. Any other tax has to be determined by national legislation. This provision could be formulated broadly to state that it is "a rate on any tax, surcharge or levy that the municipality is empowered to impose".

The secondary issue is the rate on the tariff. A tariff, where it reflects costs, is fine. But a tariff which is exorbitant is seen as a tax, for analytical purposes. There is much discrimination within municipalities in imposing tariffs.

Adv Grove stated that it cannot be discriminatory, because that would be unconstitutional. If it is differential, that's fine.

The Chair stated that Point 22.2 is a bit of a concern.

Adv Grove stated that the Opinion is merely saying that Section 229(2)(b) of the Constitution relates only to taxes. Thus if there are any other provisions of the Constitution that authorise capping of other revenue raising vehicles, such as tariffs, this would be fine. Section 94 of the Systems Act allowed for the capping of municipal tariffs, as well as Section 155(7) of the Constitution.

Mr Johan Booysen, SALGA, contended that Mr Momoniat's proposal amounts to over-regulating, and this is an issue. The Constitution states that the tools that have to be used to guard against the problems highlighted by Mr Momoniat is to build checks and balances into the process. One has to be very mindful of exercising the power or regulation, and when this is exceeded and amounts to over-regulation.

Mr Momoniat replied that the introduction of these hoops is a good idea, where the municipality wants to increase beyond the limit.

The Chair noted that Members agreed to this.

Adv Grove proposed that the Committee accept Adv Trengove's opinion that Clause 20(b)(iv) is unconstitutional, and then move on from there. The original wording of the clause has to be retained, because Adv Trengove has already concluded that it is constitutional.

Mr Momoniat agreed that Clauses 20(b)(iv)(aa) and (bb) should be scrapped. But the essence of Clause 20(b)(iv)(aa) should be retained by limiting that to the increase in the rate for tax surcharges and possible tariffs. He agrees with Mr Booysen that the Minister can determine the limit and where any municipality intends to exceed the limit, a process can be determined.

The Chair stated that Section 229(2) of the Constitution clearly provides, contrary to the argument being put forward by SALGA, that national legislation can regulate the powers to impose surcharge, taxes etc. Mr Momoniat is arguing very much in favour of this, rather than introducing a broad clause about limiting the budget. The Chair stated that she agrees with Mr Momoniat, because the limiting the substance of a municipality's budget impairs its autonomy. Adv Trengove is pointing out that there are a number of other revenue generating tools that national legislation may not be able to control. But the major sources of revenue are spelt out in Section 229(2) of the Constitution.

Adv Grove stated that the problem is that Section 229(2) does not refer to tariffs. Furthermore, only the surcharge would be covered by Section 229(2).

Mr Momoniat stated that in every case water or electricity services are delivered by a local or national monopoly, and thus by definition their price will reflect monopolistic profits, and so on. If there were a level playing field with many providers, the price would decrease. The Constitution allows that in this level playing field a surcharge can be imposed by the municipality, even on a private provider. The problem is that in a monopolistic environment one cannot really identify the surcharge. Point 22.2 of the Opinion states that surcharge can be capped as well, in terms of Section 155(7) of the Constitution.

The Chair ruled that this Committee has to abide by the prescripts of the Constitution. The courts themselves would have to concern itself with what exactly a surcharge is. This will be open to interpretation, but the exercises of the national legislature's authority to regulate the capping powers then becomes important. She requested Adv Grove to reformulate the provision dealing with the capping of revenue, in line with the discussions on the matter.

Second Question: Exemption of contractual obligations
Mr Momoniat stated that Adv Trengove did not go into whether capping measures in other legislation is constitutional or not, but he assumes that it is. He states that the first portion of Clause 40(2), or Clause 40A(1) in the revised Bill, is clear in the sense that if the Clause 31 or 43(3) process for long-term contracts is followed, then the capping provisions do not apply. He continues to state that the second part of Clause 40A(1) is not practical or enforceable. Not only is it not enforceable at the time the contract was concluded to ensure it has been complied with, but even after the contract has been signed it would always have to be monitored. Clearly this was not the intention behind the clause.

As a way forward, Adv Trengove then differentiates between the two options in Points 31 and 32 of the Opinion, and proposes that the first option should be accepted. Mr Momoniat stated that he agreed with Adv Trengove that the first option be adopted, and the second portion of Clause 40A(1) should be deleted.

The Chair asked Mr Momoniat to explain the rationale behind the two options.

Mr Momoniat responded that the granting of the proposed exemption from the capping provisions if Clauses 31 and 43(3) are followed is welcomed, because currently most providers avoid entering into long-term contracts purely because of the capping provisions. They feared that once the contract was entered into the Minister could then arbitrarily cap obligations. This is the reason for the proposed amendment. Adv Trengove points out that the second portion of Clause 40A(1), which is essentially the second opinion, is not practical.

Adv Grove explained that Adv Trengove does not examine or pronounce on the constitutionality of the provision, he merely states that it is. His concern is whether it is practicable. Adv Trengove decided that the second portion of Clause 40A(1) is to vague, and is thus not an implementable provision.

Dr G Woods (IFP) stated that his concern with this provision is that it could possibly be exploited. Municipalities could use this proposed amendment to try to get out of long-term contracts which they have entered into in an irresponsible manner.

Mr Momoniat stated that this point has to be returned to later. But it is important to note that a long-term contract can only be entered into for longer than three years if significant capital investments are involved. A whole process of community consultation is also involved. Although this has not been factored into the Bill the point has been made that this is where national and provincial governments have to come in and provide much advice, and ensure that the contracts are in order. This does not have to be legislated for specifically.

The Chair stated that this is not necessarily helping matters. If an exemption is applied to long-term contract, would the municipality not then know that it would not be subject to any kind of scrutiny as far as the tariff increases involved are concerned? What is the extent of the scrutiny into the contract prior to signing, to ensure that the municipality is not tying itself into unrealistic tariff increases?

Mr Momoniat responded that he does not have an answer to the question, but stated that it is an area that has to be looked at. All that has been allowed for is a very transparent process when the municipality commits itself to the long-term contract.

The Chair stated that the requirements for entering into a long-term contract are spelt out in Clause 31(1)(a)(ii). Thus the municipality would have to explain any plans it might have to build in an unrealistic tariff increase. These hoops do provide some comfort for any long-term contract that might be granted exemptions later on.

Mr Momoniat stated that the dilemma here is that this exemption is necessary to encourage Public Private Partnerships (PPP's), otherwise they will not invest.

The Chair agreed that the exemption is necessary, so that investors can have at least some comfort that the agreements will be honoured. A pretty comprehensive process has been provided for here.

Mr Momoniat stated that he shares Dr Woods' concern here, and this will also be made applicable to the provisions dealing with procurement.

Adv Grove stated that he has not drafted a revised provision that takes into account the amendments just proposed, but Point 31.1 and the last sentence in Point 31.3 of the Opinion can be used as the basis. The problem here is that the implication is that the municipality will be exempted from all other contracts as well, and the second portion of Clause 40A(1) was proposed precisely to guard against this. This is because the capping applies to the municipality as a whole, not to the specific contract.

The Chair asked whether it would not be possible to formulate the provision so that the exemption is made application to a specific contract.

Dr Woods agreed that it has to be limited to the specific contract, rather than to the municipality's ability to meet its contractual obligations. If not, the door is left open for "creative accounting" to play around with the contracts, and it could even result in arbitrage.

The Chair agreed with Dr Woods. The proof of the test is not the municipality's ability to meet its contractual obligations, but is instead whether the contractual obligation is honoured by the exemption. Clause 40A(1) is therefore ambiguous. The aim here surely has to ensure that even though the municipality is granted an exemption from the contract itself, it is not exempt generally from being capped on other forms of revenue.

Mr Momoniat stated that Clause 31 has to be looked at again and tightened up, to ensure that there are sufficiently effective checks in place to prevent manipulation of budgets. He stated that he is not sure whether outright abuse can be prevented if the checking has failed.

Dr Woods asked whether a solution could not then be found in requiring the municipality in question to apply for an exemption.

The Chair cautioned against this, as it would defeat the whole purpose of encouraging partnerships and investment with the private sector. If the private sector becomes aware that a private body will be deciding on whether the contract will be honoured in its original form, and the odds are that it need no be honoured, they might want more definite.

Mr Momoniat stated that the danger with exemptions here is that other spheres of government would have to take responsibility for those decisions, and what would happen if the wrong decisions are taken? A moral hazard problem is being created here.

Dr Woods stated that the municipality has to justify why is continues to enjoy the exemption. It has to be reduced to writing so that it can be checked.

The Chair agreed and requested that Mr Momoniat ensure that the justifications for the exemptions be tabled with the municipal council. This is the best way for the interests of transparency, because a virtually automatic exemption has to be established here. This would avoid the moral hazard concern, and would also give comfort to PPP investors.

Mr Momoniat agreed, and stated that Treasury will think about a formulation of the hoops to be put in place here.

Third Question: Procurement and asset disposal
Mr Momoniat stated that in this portion of the Opinion Adv Trengove is basically saying that he was wrong, and he concludes that not every procurement policy is necessarily a Treasury norms and standard. He spells this out in Point 37 of the Opinion, and this is really all that Treasury wants in any event.

The Chair reminded Members that the issue here was whether national legislation can regulate procurement, and whether it is included as a "Treasury norm and standard". Adv Trengove has now concluded that procurement should fall under Treasury norms and standards.

Dr Woods asked whether the new Treasury regulations, which he understands are still currently in draft form, will be applicable to municipalities as well.

Mr Momoniat answered in the affirmative. There would be a similar set of provisions in the regulations.

Adv Grove stated that this problem could be easily remedied by simply deleting the reference to "Treasury norms and standards" in Clause 84 of the Bill.

The Chair agreed.

Clause 40: Decisions to increase cost of resources for municipal services
Mr Momoniat explained that Treasury has been engaged in much discussion on this matter with the Department of Water Affairs and Forestry (DWAF), with Water Boards, Eskom and the National Electricity Regulator (NER). Clause 40 as it stands in the revised Bill should be scrapped, even with the amendments proposed to it, because it did not really cater for some of the concerns raised by the entities. This clause should be replaced with the new proposed Clause 40 contained in the Bill, which is now entitled "Decisions to increase cost of resources for municipal services".

This clause does not seek to limit the functions of the regulator, because the NER decides on final prices. A two-fold deal has been struck with the NER: firstly, the NER really has to be clear on what it is regulating. Secondly, the NER would be taken out of the loop to comply as though they were approving an increase. But once the NER approves an increase it has to be tabled in Parliament. Although this is not expressly stated in the Bill it is hoped that Parliament will still host public hearings on it, so that the NER can explain the decisions it has taken.

DWAF questioned whether a national department should be forced to comply with these provisions. Treasury felt that where they provide water directly to a municipality, there is no reason why they should not comply with this provision as well.

Eskom was concerned that if the transition is made into a competitive arrangement, any detailed information Eskom provides on its pricing structure could benefit its rivals. Mr Momoniat stated that this is not really a concern, because information can always be presented in a way that does not give competitors an unfair advantage. Treasury is of the view that this section should only be reviewed when a competitive arrangement is introduced.

This new clause is essentially the same as the previous version except that it has more detail, as requested by industry players. Mr Momoniat stated that It will satisfy many of issues raised, and drafts of this reformulation have been forwarded to those parties.

Ms Leslie Feranda, from the NER, asked when the timing of the changes to the tariff in Clause 40(6) would come into effect.

Mr Momoniat responded that it would come into effect in the next financial year. But if the intention is to bring a change into effect immediately, the approval of the Minister of Finance would have to be sought. The hoop in Clause 40(6) was introduced because municipalities have to budget for these increases, and the current formulation requires them to have an adjustments budget just to deal with the electricity issue. Treasury has spoken to Eskom and advised them that it would be easier for Eskom to change its approach, than to ask 294 municipalities to change.

The Chair sought clarity on the position in an area that does not have a regulator, such as water supply.

Mr Momoniat replied that the Minister of Water Affairs would be the regulator. The clause has separated out the Department of Water Affairs and Forestry and the Ministry. Thus the Department of Water Affairs and Forestry has to go through these hoops when it is seeking the approval of the Minister of Water Affairs for the increase.

The Chair requested that Mr Momoniat forward this amendment to Eskom. Is the Department of Water Affairs and Forestry happy with this amendment?

Mr Momoniat informed Members that he has spoken with the DG, a meeting was held with them and the clause was forwarded to them yesterday. They wanted the Department of Water Affairs and Forestry itself to be exempted, but Treasury informed them that this only applies to the Department of Water Affairs and Forestry supplies water directly to the municipality. They thus have to go through the same process as other bulk suppliers.

The Chair noted that SALGA fully supports the clause, and the clause was accepted by the Committee.

Clause 31: Contracts having budgetary implications
Mr Momoniat informed Members that some of the changes that have been effected to this clause come as a result of amendments proposed during a previous discussion on this clause. These include the deletion of the phrase "for less than five years" at the beginning of Sub clause 2(c), as well as the introduction of Sub clause 4. Sub clause 1(c)(i) has to be made more explicit, even if there is a bit of repetition with Sub clause 1(aa). It is really desirable to involve major capital investments in long-term contracts, otherwise there is really no point in having a municipality enter into a long-term contract beyond three years.

The Chair stated that the transferral of risk also has to be included in Sub clause 1(c)(i).

Mr Momoniat agreed, and suggested that a few more provisions be included here. He informed Members that he has recently become aware of people engaged in unsolicited long-term contracts for things they should not be doing, and they do not even follow procurement processes. This is very problematic.

Adv Grove expressed concern with the moving of Sub clause c(i) to Sub clause 1(aa), because Sub clause 1(aa) does not require the municipal council to exercise its judgement over the matter. This would then move away from the subjective test employed in Sub clause c(i).

Mr Momoniat stated that he agrees with what Adv Grove is saying, but stated that he has proposed this amendment very deliberately. A more objective test has to be established here, because there needs to be a stronger test for long-term contracts.

The Chair asked Mr Momoniat to look at Treasury's PPP regulations in this regard and merge it with this provision, so that such a blatantly objective judgment is not employed. Sub clause 1(c) also has to be made more explicit then, as Mr Momoniat has suggested.

Mr Momoniat stated that a second issue that has to be explored here is introducing categories of long-term contracts, and a set of accompanying hoops for each. Perhaps an enabling clause for regulations should be prepared in the meantime.

The third issue that it should not also inadvertently be made too easy for municipality to secure three year contracts. Contracts for borrowing in terms of Sub clause 2(a) has been exempted, largely because a separate section deals with this exclusively. The question under Sub clause 2(b) is whether employment contracts of senior managers should also be exempted.

Mr Booysen clarified that the Systems Act is very clear on this. Their employment contracts are performance based, and cannot exceed five years.

The Chair noted that Sub clause 2(b) can thus be left as it is.

Mr Momoniat informed Members that the proposed amendment to Sub clause 2(c(i) replaces "or" with "and", otherwise too great a burden could be created..

Adv Grove suggested that the scrapping of the phrase "for less than five years" at the beginning of Sub clause 2(c) could be interpreted to mean that long-term contract for 20 years, for example, would be exempted. This is not the intention of the provision. Sub clause 2(c) should be left as it currently stands in the Bill.

The Chair asked Adv Grove to consider this matter further.

Chapter 11: Municipal entities
Mr Momoniat stated that most of the provisions in the Bill dealing with municipal entities have been transferred to the Municipal Systems Amendment Bill. The only provisions that have been retained in the Bill are those dealing specifically with some sort of financial governance.

Clause 89C: Financial implications for municipalities
Mr Momoniat stated that this clause has been included in the Bill just to clarify how some of the financial assets and issues are dealt with when establishing a municipal entity, otherwise a municipal entity does not make sense.

The Chair stated that she is "a little irritated" because she was promised that there would be no further amendments to the Bill. Yet they coming through again "thick and fast". This Bill was approved by this Committee and it was told that the Constitutional Opinion is still outstanding, but it is now receiving more amendments.

Clause 93A: Staff matters
Mr Booysen asked who would be responsible for determining the actual salary of the staff of the municipal entities, if the parent municipality only determines the upper limits of the salary.

Mr Momoniat replied that the municipalities have to get together and decide the salary structures and set the upper limits. The Board of the municipality can then decide.

Mr Booysen agreed.

The meeting was adjourned.

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