Statement on VBS Mutual Bank matter; VAT Panel Report and TLAB & TALAB Bills: Treasury response

Meeting report

Statement on the VBS Mutual Bank matter
The Chairperson said the Committee welcomes the release of Adv Terry Motau’s report on VBS Mutual Bank which was commissioned by the South African Reserve Bank’s (SARB’s) Prudential Authority. The Committee expressed its outrage at the plunder of VBS Mutual Bank and urged the Hawks and the National Prosecuting Authority (NPA) to act swiftly and decisively against those alleged to be responsible for wrongdoing. Without interfering with the internal investigations of the Hawks and NPA and consistent with its oversight role, the Committee would call on the Hawks and NPA to report on progress in this regard.
 
The Committee was caught up with the Budget Review Recommendation Report (BRRR) and Tax Bills as well as the Medium Term Budget Policy Statement in the coming two weeks. It will immediately after that consider the VBS Report on 7 November 2018. The meeting will include the SARB, Adv Motau, National Treasury, the Financial Sector Conduct Authority, the Hawks, the NPA, the Independent Regulatory Board for Auditors (IRBA) and the South African Institute of Chartered Accountants (SAICA). Once again KPMG was accused of wrongdoing and the Committee urged IRBA to complete its investigation into their conduct expeditiously. SAICA was also urged not to be lame and act decisively. The collapse of VBS is a major setback for diversity and transformation in the financial sector. Until the Committee is convinced otherwise, its view remains that every attempt should be made to rescue VBS under a new effective leadership. The Committee also expressed concern that innocent employees at VBS Mutual, not accused of being part of the plunder, have lost their jobs and requested other banks to prioritise them in filling in vacancies they have. Lessons should be learnt from the collapse of VBS Mutual Bank to reduce the prospects of this happening in other financial institutions in future. Consideration needs to be given to an inquiry into whether SARB, National Treasury, the Department of Cooperative Governance and Traditional Affairs, the South African Local Government Association and other relevant organs of state could have acted sooner on VBS and reduced the extent of its failures.
 
The Chairperson further explained that with the implementation of the Financial Sector Regulation Act from 1 April this year, the new Prudential Authority has greater powers to subpoena witnesses and access information to investigate allegations of wrongdoing by financial institutions. The Committee strongly believes that these greater powers will serve the interests of depositors and policy holders, especially the lower income depositors and policy holders who disproportionately lose out the most when financial institutions collapse.
 
Mr D Maynier (DA) suggested that a meeting with the Public Investment Corporation (PIC) be fitted into this term’s Committee agenda. It was imperative for the PIC to appear before Committee given what was now in the public domain.
 
Ms T Tobias (ANC) disagreed and indicated the Committee was already pressed for time this term. The Bills which needed to be processed were a priority. Her suggestion was the Chairperson should decide whether additional items should be included in the agenda, guided by the Committee’s draft agenda for the term, agreed upon initially.
 
Mr A Lees (DA) said there were valid reasons to have the PIC appearing before the Committee this term. The PIC matter had to be interrogated urgently given the position the Corporation finds itself in.
 
The Chairperson noted that a commission had been established to inquire into the PIC. The present administration was serious in its fight against corruption, and there was no dispute that all of the allegations relating to the PIC should be examined. He agreed that there should be some sort of focus on PIC issues. He suggested that ANC and DA Members discuss this offline after the meeting. He invited Treasury to give a presentation on the Taxation Laws Amendment Bill (TLAB) and the Tax Administration Laws Amendment Bill (TALAB).
 
National Treasury presentation on TLAB and TALAB
Ms Yanga Mputa, Chief Director: Legal Tax Policy Design, National Treasury, gave an update on the TLAB and TALAB. Treasury and SARS held successive meetings with stakeholders to discuss the proposed amendments as part of the consultation processes. The proposed amendments included in the TLAB that received most comments are: Tax treatment of amounts received by or accrued to portfolios of Collective Investment Schemes; review of Venture Capital Company Rules; amendments to Mineral and Petroleum Resources Royalty Act, 2008; and clarification of the tax treatment of doubtful debts.
 
Tax treatments of amounts received by or accrued to portfolios of Collective Investment Schemes (CIS)
Revised proposed options
As indicated in the 2018 Budget Review, government has noted concerns regarding the frequent trading by some collective investment schemes and the argument that despite frequent trading, the profits are of a capital nature and should be taxable as such. In view of the fact that CISs are regulated by the Financial Sector Conduct Authority (FSCA), in order to avoid negative impact and unintended consequences as a result of the current proposed amendment in the 2018 TLAB, the following is proposed: government and industry be given more time to investigate and find solutions that may have less negative impact on the industry and holders of participatory interest before changes are made in the tax legislation and that the legislative changes in this regard be considered in the 2019 legislative cycle. Government continues to find ways to mitigate tax avoidance risks through regulation by the FSCA.
 
Review of Venture Capital Company Rules
Revised proposed options
On limitation of the issue of different classes of shares by a VCC or a qualifying company, no shareholder in a VCC may hold directly or indirectly, more than 20 percent of the shares of any class in a VCC, the test regarding the maximum holding in a class of shares will be applied after a period of 36 months from the date that a class of shares is first issued by the VCC. The test regarding the class of shares will not apply to shares issued before 24 October 2018 and will only apply to shares issued on or after 24 October 2018. The test regarding the class of shares will not apply to shares issued by the VCC for the carried interest purposes of VCC management (no VCC deduction obtained in this regard).
 
On limitation of the abuse of trading between an investor that invested in a VCC and a qualifying company in which the VCC takes up shares, the aggregate amount received by or accrued by the qualifying company from the carrying on of any trade with an investor in a VCC (together with connected persons) be limited to 50 percent of total amount received or accrued. The proposed change will come into effect on 24 October 2018 and will be applied after a period of 36 months from the first date on which that qualifying company issued any share to the VCC.
 
For a company to qualify as a qualifying company, investors are not allowed to hold more than 50 percent of participation rights in the company. This applies to participation rights acquired on or after 1 January 2019. The company may not carry on any trade through a business acquired from an investor (or its connected person) in the VCC.  This will apply in respect of a trade that commenced on or after 1 January 2019.
 
Amendments to the Mineral and Petroleum Resources Royalty Act
Revised proposed options
In order to remove confusion and to provide clarity to both taxpayers and SARS regarding the meaning of the tax base for purposes of calculating royalty, it is proposed that the following words [“without regard to expenditure incurred”] in section 6 of the Mineral and Petroleum Resources Royalty Act, 2008 be removed and be replaced with the following words “after deducting expenditure actually incurred”.
 
Clarification of the tax treatment of doubtful debts
Revised proposed options
If a taxpayer is applying IFRS 9 for financial reporting purposes to determine a loss allowance relating to impairment in respect of debt: 40 per cent of the IFRS 9 loss allowance relating to impairment that is measured at an amount equal to the lifetime expected credit loss plus bad debt written off that does meet the tax write off requirements; and 25 per cent of the difference between the IFRS 9 loss allowance relating to impairment and the IFRS 9 loss allowance in respect of which the 40 per cent tax allowance is determined. If a taxpayer is not applying IFRS 9 for financial reporting purposes, an age analysis of debt should be used: 40 per cent of the face value of doubtful debts that are at least 120 days past due date be allowed as a deduction; and; 25 per cent of the face value of doubtful debts that are at least 60 days past due date, but excluding doubtful debts that are at least 120 days past due date be allowed as a deduction.
 
Further, it was proposed that on application by a taxpayer, SARS may issue a directive to that taxpayer that the above-mentioned 40 per cent be increased to a percentage not exceeding 85 per cent after taking into account the following proposed set of criteria: the history of the debt owed to that taxpayer, including the number of repayments not met, and the duration of the debt; steps taken to enforce repayment of the debt; the likelihood of the debt being recovered; any security available in respect of that debt; the criteria applied by the taxpayer in classifying debt as bad; and such other considerations as the Commissioner may deem relevant.
 
National Treasury response to comments on the VAT Panel Report
Mr Chris Axelson, Chief Director: Personal Income Taxes and Saving, National Treasury, said an independent panel of experts had delivered its Report with recommendations to the Minister of Finance on 06 August 2018. The Minister of Finance released the Report on 10 August 2018 for public comments with a closing date of 31 August 2018. National Treasury received 316 comments and over 30 412 petitions. It should be noted that many of the comments were directly asking for additional products to be zero-rated. National Treasury could review and provide analysis on those comments, but could not independently make any decisions relating to zero-rating. Decisions on zero-rating, and on the rate of the value-added tax, are taken by the Executive (through Cabinet) and endorsed (or not) by Parliament. National Treasury will, however, endeavour to understand and recognize the comments that are made on this important topic, so that they feed into the debate within the Executive.
 
Mr Mpho Legote, Director, National Treasury, said the main comments that arose during the public consultation process on the VAT Panel Report are that: the zero-rating list is welcomed but more items need to be included; increases in the expenditure programmes are welcome but insufficient; the current list of zero-rated items should have been reviewed. The revenue shortfall from additional zero rating could be made up by using other tax instruments such as: introduction of luxury VAT rates; expansion of the ad valorem excise duties; income taxes. The panel concluded that the current list of zero-rated items already targets the main products with the most progressive impact. There are relatively few products remaining that would improve the progressivity of the VAT.
 
A comment was received that the panel’s view to keep the current list as intact is supported. While some of the items may not, in a narrow financial sense based on the distribution of expenditure on these items, disproportionately benefit poor and low-income households, they should be retained for equity and health promotion reasons, in particular fruit, vegetables, milk products and lentils. Treasury noted the comment. The policy intention of zero-rating food items is to provide relief to poor and low-income households. Where there is clear evidence that the benefits accrue more to high-income households then the list should be reviewed, but secondary objectives (such as health promotion) will be a factor in any discussions on the zero-rated list.
 
Some stakeholders felt the current list of zero-rated items should be reviewed to take into account the changing dietary needs and consumer preferences over the last 27 years. In addition, the review would have to consider disaggregating the broad categories (e.g. fruit & vegetables, rice, etc.). Treasury agreed. The Terms of Reference for the Panel’s work provided for the review of the current list. The research conducted by the Panel uses more up to date information on the distributional impact of zero-rating from the Living Conditions Survey in 2015. The analysis shows that the current zero-rating list remains relatively well-targeted to poorer households.
 
Based on public submissions, 66 other items were considered for zero-rating. The Panel identified eight items for further consideration: baby food consisting predominantly of milk; bread flour; cake flour; disposable nappies; poultry; sanitary products; school uniforms, and white bread. However, the Panel recommended that baby food (predominantly baby formula), should not be zero-rated based on public health recommendations. They were unable to reach consensus on whether or not to recommend that individually quick frozen (IQF) poultry parts be zero-rated.
Some stakeholders believed all food items should be zero-rated. Food is not a commodity and it should not be subject to tax. It is better for all of us to be able to eat properly and to be healthy as this provides a basis for a strong society and strong robust economy. This comment was not accepted. The purpose of zero-rating as is currently provided in the VAT system is to provide some relief to the poor and low-income households. Therefore, the zero-rating of all food items will not only erode the VAT base but most of the benefits will accrue to high-income households.
 
Comments were received that Treasury should consider introducing a progressive sliding scale VAT regime for electricity and water for all households, but in particular the poor and working class. Treasury noted the comment. The National Standard is to currently provide 6,000 litres of water and 50 kilowatts of electricity free per month to poor households. In this manner, there is a degree of progressivity in the current system.
 
The Panel report recognises that expenditure programmes have a role to play in mitigating the impact of the VAT increase on poor households, and that it may be an efficient way of providing relief to the poorest of households. There were suggestions to mitigate the impact of the VAT increase on the poor by the strengthening of nutritional support programmes (such as the National School Nutrition Programme) and the roll-out of free sanitary products. The report also discusses the potential positive impact of higher child-support and old age grants, but does not go as far as calling for a significant increase. The report also states that lower VAT rates (of say 10%) could be considered for some of the items if fiscal concerns were paramount, but that it would be administratively cumbersome.
 
Passing the benefits of the zero-rating to the consumer
Stakeholders commented that government needs to respond to how it will ensure that the benefits of zero-rating further items are passed on to the consumer through price cuts. The Poultry Association, for example is prepared to self-regulate with regard to their industry. Further, government can intervene where it has some sort of control over the cost of items (e.g. transport costs, scholar transport and electricity). The input was noted. However, government does not regulate the prices of products in the market (except in a few instances such as fuel prices) and therefore cannot ensure or guarantee that the benefit will be passed on to the consumer. Items that are priced such that they are currently unaffordable to the poor are likely to remain unaffordable even if zero-rated.
 
Luxury goods and luxury foods
A comment was received that Treasury should consider introducing a 25% VAT rate on luxury goods and luxury foods which the poorer households do not consume. Increase the current list of items subject to ad valorem and excise duties. Adding additional items to the list could generate about R 9.6 billion in additional revenue. The comment was noted. Having a multiple VAT rate structure may lead to increased administration and compliances costs. Legal uncertainty opens up opportunities for lobbying and unwarranted tax planning or avoidance. Both the Katz Commission and the Davis Tax Committee have argued against having an additional luxury VAT rate. Ad valorem excise duties act as a mechanism which increases the tax on specific luxury items, and this rate was increased from 7 percent to 9 percent in the 2018 Budget. The list of products liable for ad valorem excise duties has evolved overtime to exclude products that were no longer considered luxury or the technology was out-dated and a reduction in revenue gained from the products concerned. Motor vehicles raise around 80 percent of ad valorem excise duty revenue. The proposal to add items will be considered as part of the normal budgetary process
 
Discussion
The Chairperson said the Committee was acutely aware of the dire need for additional revenue. However, the majority Members do not agree with the decision to increase VAT by 1%. Among the reasons would be the negative effect on the poor and low income earners who are stressed enough as it is. Further, not enough is being done to: reduce expenditure; stop funding of ineffective programmes and reprioritising spending. Not enough is being done to deal with corruption. It was unfair to have the poor pay for the mistakes of government and Parliament. The Committee notes the calls for the addition of items on the existing list of zero-rated items, but recognises that the VAT increase was already in effect and could not be immediately ceased. The Committee therefore believed the increase has to be reluctantly accepted from Parliament’s side provided that the 1% increase is reviewed within two years. Treasury needs to immediately increase the number of items on the zero-rated list, and adequately respond to stakeholder inputs.
 
Ms Tobias said taxation laws should not be used as a means to address service delivery concerns. She made reference to suggestions that medicine be zero-rated, whilst public health institutions are providing medication for free already. She agreed that Treasury would need to further iron out some aspects of the Bills with stakeholders. She failed to see how the Bills could be possibly finalised for tabling the following week.
 
The Chairperson said there is no compulsion for the Executive to introduce the formal version of the Bills together with the medium-term budget policy statement (MTBPS). That was more by way of tradition and norm. These were the most contentious Bills since 2014 thus there was no need to rush the introduction of their formal versions. He suggested the Committee finalise the Bills but formally introduce them in November because the Committee was not ready and bringing them the following week would slow things down. Treasury was right to present its arguments as it did but it could be more targeted. For example, taxing luxury goods as suggested by some stakeholders would be symbolic and show that it was the rich that were primarily being targeted. This would show that trade unions were being taken seriously. Everything should not be reduced to economics; there was need for broad buy-in and acknowledgement that political decisions would have to be taken ultimately. Also, the Parliamentary Budget Office (PBO) should ask itself whether it had, within its defined mandate, offered the support required by the Committee. The PBO had not performed on this VAT issue. He reiterated Treasury should not bring the Bills back next week. It would be far better if they were tabled in two weeks’ time.  
 
The meeting was adjourned.