NEW LOCAL GOVERNMENT EQUITABLE SHARE FORMULA AND FREE BASIC ENERGY

1. NEW LOCAL GOVERNMENT EQUITABLE SHARE FORMULA AND FREE BASIC ENERGY Presenter: Wendy Fanoe | Intergovernmental Relations, National Treasury | 18 June 2013

2. Outline • Increasing access to electricity • Funding Free Basic Energy • Structure of the local government fiscal framework • Electricity as a revenue source for municipalities • The new local government equitable share formula • Access to Free Basic Electricity and Free Basic Alternative Energy • Conclusion

3. . Access to Electricity

4. Increasing access to Electricity – 2011 Census Percentage of all households WITHOUT access to electricity Number of households with and without access to electricity (000s) • Significant improvement across the board with the fastest backlog reduction coming in rural areas (where backlogs are biggest) • Increases in HHs with access (blue bar in chart above) was largest in metros • R2.6 billion has been added to the Integrated National Electrification Programme (INEP) Grants over the 2013 MTEF to further accelerate rollout

5. . Funding Free Basic Energy

6. General principles for funding services in local government • The local government fiscal framework is made up of own revenues (including property rates and service charges) and transfers • Municipalities should charge cost-reflective tariffs for the supply of electricity for all users that can afford to pay • High levels of poverty mean that funds from national revenues are needed to fund the delivery of services to poor households Structure of the Local Government Fiscal Framework National Transfers 25% Local Government Own Revenue 75% FBS Charges Rates and charges Employed HH in RDP house with improvements HH in informal settlement Poor HH in RDP house Middle to upper income HH

7. Electricity sales as a source of municipal revenue (1 of 2) Electricity net surplus by category of municipality Note: figures are calculated from consolidated 2010 municipal budgets. Municipalities may have adjusted their budgets in subsequent years • Historically, municipalities have generated surpluses form the sale of electricity that have been used to fund other services • The rapid rise in bulk costs and a desire by municipalities and NERSA to keep electricity affordable to consumers has resulted in reducing the size of surpluses • In some cases municipalities are now generating losses from electricity sales

8. Electricity sales as a source of municipal revenue (2 of 2) • Reductions in surpluses limit the ability of municipalities to cross-subsidise • However, low use consumers (including most poor households) are protected by Inclining Block Tariff (IBT) structures that ensure some cross-subsidisation in tariff structures • National Treasury is working with municipalities to improve tariff setting practices to ensure that tariffs are cost reflective so that municipalities do not loose money on services to non-poor households. Progress to date includes: • Pilot study at uMhlathuze on costing; • Compilation of costing guidelines; • Assisted various municipalities with costing and tariff setting; • Various training sessions to CFO forums & Provincial Treasuries; and • Inclusion of an additional segment (Management Accounting) in SCOA

9. The role of the equitable share Section 227 of the Constitution says, “Local government and each province is entitled to an equitable share of revenue raised nationally to enable it to provide basic services and perform the functions allocated to it.” The equitable share is unconditional, but it is intended to fund the delivery of basic services The equitable share funds the operating and maintenance costs municipalities need to provide basic services to poor households (infrastructure is funded through conditional grants) Most of the funding in the LGES is intended to fund free basic services (sanitation, water, energy and refuse removal) for poor households (non-poor HHs can pay for their own services For municipalities with little own revenue, funding is also provided towards the costs of administration and other services Infrastructure for poor households is funded through conditional grants

10. . New Local Government Equitable Share Formula

11. Review Process – emphasis on consultation • Local government is entitled to an equitable share of nationally raised revenue in terms of Section 227 of the Constitution • Formula used to allocate these funds was reviewed in 2012 in a process that emphasised consultation Stage 1: Principles and objectives agreed • May/June 2012 • Discussion papers circulated for comments • Workshops held with municipalities • September 2012 • Discussion paper circulated for comments • Workshop held with over 100 municipalities • Endorsed By Budget Forum • December 2012 - January 2013 • Endorsed by: • Budget Forum (7 February 2013) • Cabinet (13 February 2013) Stage 2: New formula structure agreed Review was undertaken by: Stage 3: New allocations determined In partnership with:

12. The new LG equitable share formula structure The new LGES formula : LGES = BS + (I + CS)xRA ± C Where: • LGES is the local government equitable share • BS is the basic services component • I is the institutional component • CS is the community services component • RA is the revenue adjustment factor • C is the correction and stabilisation factor Schematic of how the formula works

13. Detail on the basic services component • Formula funds free basic services for every household below an affordability threshold of R2300 household income per month in 2011 • Based on value of 2 state Old Age Pensions (as proposed by municipalities) during the consultation process • 59% of all households in SA fall below this threshold • Cost of services and number of households will be updated annually • Cost of energy updated based on NERSA approved tariff increases FBS funding allocated for each HH through the formula: Subsidy of R275.17 per month for a package of free basic services Includes 10% provision for maintenance

14. Summary of Local Government Equitable Share allocations for energy • Total of R5.7 billion allocated for energy through the LGES • This amount includes an allocation of R56.29 per household per month for free basic energy (includes 10% allocation for maintenance) • Per household subsidy for electricity is costed to be higher than the cost of 50kWh of electricity at NERSA approved block 2 municipal tariffs • Funds could be used for electricity or alternative energy

15. Other components in the formula Institutional component • Provides funds for administration costs necessary to run a municipality • Allocation includes a base amount and an amount based on the size of a municipality Community services component • New component that funds services outside the basic services • allocated based on number of households in the municipality Revenue adjustment factor • Some municipalities are able to fund the costs of their administration and the provision of community services from own revenues (e.g. property rates) • The LGES therefore applies a revenue adjustment factor to ensure funds from the Institutional and Community Services components only go to municipalities with limited own revenue

16. Impact of the new formula (1 of 3) • The old formula produced allocations per poor household that were lowest for municipalities with the least ability to raise their own revenue • The new formula corrects this with a much more redistributive structure (figures presented here exclude the impact of the phase-in) Old formula - Allocation per poor household New formula - Allocation per poor household

17. Impact of the new formula (2 of 3) • Many individual municipalities experience large changes in allocations:

18. Phasing-in the new allocations (3 of 3) • Large changes in allocations of some individual municipalities (due to new formula AND updated data) • Five year phase-in proposed to cushion this impact • ‘losing’ municipalities only see their allocations reduced by 20% of the difference between old and new formulas each year • Funds to pay for this come from gaining municipalities, giving them time to adjust to higher allocations

19. LGES DELIVERY CHAIN: From formula to services Advantages of the new formula Formula divides LGES allocation among 278 municipalities (like slicing a R34bn cake) • Simpler formula structure is more transparent • Higher affordability threshold (includes 59% of households) • More realistic cost estimates for basic services • Capability to update data • Can reflect different cost pressures for each service (e.g. electricity) • Incorporates estimates of population growth • More realistic level of institutional funding for those municipalities that need transfers to sustain their administration • Includes funding for community services • More redistributive formula structure Challenge is to ensure that once funds reach municipalities they are used to deliver services that benefit poor households Formula determines size of each ‘slice’ Municipalities determine how funds are used to deliver services to their residents

20. Select Committee on Appropriations recommendations with potential impacts for the LGES and/or FBS Recommendations on the 2013 Division of Revenue Bill: • National Treasury should look into some alternatives that will minimise the impact of increased costs due to the uniqueness of some areas (such as the vastness and topography of the area); • National Treasury, in collaboration with appropriate national departments, should improve the monitoring of the provision of free basic services to poor households; • National Treasury should monitor whether the municipalities provide proper service delivery and budget implementation plans that channel the increased allocations to poor households; • National Treasury and the Department of Cooperative Governance and Traditional Affairs should intensify measures towards realizing Operation Clean Audit so that there is value for the money spent. The Department of Cooperative Governance and Traditional Affairs should further report on a quarterly basis to Parliament on progress made in this regard; These will be taken forward by National Treasury and relevant stakeholders

21. . Access to Free Basic Energy

22. Measuring Access to FBE • Municipalities report on their provision of FBE in the Non-Financial Census of Municipalities collected by StatsSA • Municipalities also report on the number of households provided with FBS in the parts of the service delivery budgeting tables when compiling their annual budgets. Currently not all municipalities fill these sheets in credibly, but national and provincial treasuries are working to improve the quality of budgeting and reporting in this area.

23. Increase in access provided by municipalities - Non-Financial Census of Municipalities • In the data reported by municipalities (to StatsSA) access to electricity shows continuous improvement • The number of households receiving FBE declines, but this is mainly due to better targeting as municipalities reduce the number of non-poor households receiving FBE

24. Comparing access to services in 2005 and 2011 - Non-Financial Census of Municipalities Growth in access to electricity across the country Increasing access to FBE in rural areas • Most of the change in FBE targeting is in the metros • More rural municipalities are expanding access to FBE

25. Levels of access to Free Basic Electricity by province – Non-Financial Census of Municipalities

26. Low provision of Free Basic Alternative Energy - Non-Financial Census of Municipalities Number of households receiving FBAE from different sources • Households without connections should receive Free Basic Alternative Energy (FBAE) • LGES funds can be used to fund these (LGES subsidy provided for all households below R2300, not only those with access to the grid) • Number of HHs receiving FBAE is small, but increased by 36 000 in 2011

27. Conclusion The effectiveness of FBE rests on three pillars: • Providing access through building infrastructure to connect households to services • Census 2011 shows good progress in extending access, and additions to INEP will further accelerate this • Maintaining access by ensuring infrastructure is properly maintained to prevent breaks in supply • R320 million was added to INEP to pilot an Approach to distribution Asset Management in 2013/14 and additional requirements to budget for maintenance have been built into municipal budgeting regulations. But this remains an area of concern • Subsidising consumption through municipalities’ free basic services policies • The new equitable share formula ensures sufficient funds are available, but municipalities need to ensure they provide the services • Municipalities should improve targeting of free basic services and FBE