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Taxation
Monday, March 1, 1999
Steady as you go

Finance Minister Trevor Manuel’s latest budget, presented 17th February 1999, might best be described as one of ‘gentle persuasion’. He laid down nothing radical: assuaged the lower paid by reducing their income tax rates; embraced the free market spirit further by reducing the corporate tax rate; and avoided upsetting the savers by leaving retirement annuity taxes alone. He also avoided conflict with the unions by leaving VAT at its present rate, and committed a higher increase to wages in the public sector than he did for funding to health or education. In other words, virtually every potential voter had something to be thankful about, and was gently persuaded to remain in support of the present government.
But in this ‘steady as you go’ budget, there was a sense that his ‘only so far, but no further’ approach was simply too soft on the pressing issues that face our country. Placating the electorate is at a heavy cost. Personnel costs for government will now swallow 40% of its total spending. Add in the interest rate burden and that leaves only R0,38 cents in the rand available to fund services.
In particular, the law and order departments remain heavily underfunded, despite increases for the police and justice departments (prisons took a cut). Of all the challenges and difficulties facing South Africa, crime is certainly the most debilitating.
Comments André Jacobs of Information Logic, “The high crime rate itself is also a real dis-saver and one would have liked government to focus its creative energy in saving on the Health and other budgets and, instead, substantially increasing the Law and Order budget. This would prove to the international community that we are serious about reducing levels of crime, and creating an investor-friendly society.”
Bolder steps
Had this budget occurred after the elections perhaps the government might have taken bolder steps — it is in the right direction, but in some ways frustratingly slow.
Mr Jacobs notes that privatisation is expected to raise R4 billion. “Together with the cut in the corporate tax rate, a strong commitment to deficit reduction over the next three years, the absence of a further increase in taxes on retirement funds, and the promise of further exchange control relaxations, there are real positive indications that the Government wants to create a more investment-friendly environment.
“Reference made to the international rating agencies as well as to the need for South Africa to be internationally competitive to attract foreign investment, show that the government is only too aware of the implications of globalisation for South African economic policy.”
Yet, again, things are moving too slowly.
Further exchange control reform was put to one side, although since the budget the Reserve Bank has announced an increase to R500 000 in the individual foreign investment allowance. However, until potential foreign investors see real freedom of movement of capital and a better international harmonisation of tax and monetary practice, the sort of budget as presented this year will have little influence on world market perceptions of South Africa.
Asset swaps
Asset swaps are still in place. In- deed, shares held in South African companies listed on overseas stock exchanges may not be used in asset swaps. And the little understood Secondary Tax on Companies remains in place at 12,5%. Indeed, despite the cut on the basic Company tax rate the overall burden is higher than 80% of world economies. Such divergence from perceived normal international practice do little good for a country.
Standard & Poor’s review of world economies still places South Africa at one below ‘investment grade’, noting that our budget policy remains relatively inflexible. And we still have the highest real interest rates in the world: good for holders of cash, but detrimental to capital formation and job creation. Matters are worse because of our relative ‘work force rigidities’. It is not surprising perhaps that our recently introduced labour laws are being reviewed.
Abri Meiring, market development manager of Old Mutual, points out that South Africa simply cannot ignore global trends in tax harmonisation. “We have to take cognisance of world developments as we cannot afford to be out of synch. We must quickly develop a much wider tax base, while our direct and indirect taxes need to be in balance, which they are clearly not.”
Legal services division manager of Old Mutual Peter Stephan recently commented on the budget, noting that, “In 1981 the government collected R16 from individuals for every R30 raked in from companies. The ratio in the 1998/99 tax year had been reversed to R41 from individuals and just R15 from businesses.”
Income taxes
Mr Jacobs acknowledges that the reduction in the company tax rate is to be welcomed as a measure that should promote growth, investments and employment in the longer term since South Africa’s international competitiveness should be enhanced.
“The tax relief announced for individuals is also to be welcomed although efforts being made in reducing the overall tax burden should ide- ally be sped up.”
Mr Meiring points out that income taxes for all but the poor remain exceptionally high, and way out of kilter with corporate tax rates.
Indeed, the rates within the direct tax brackets are extremely unbalanced, with 9,6% of the total number of taxpayers paying 45% of the total tax bill. “Ultimately this is going to crack at the seams,” he warns. “It is simply too much to ask of a narrow tax base of people.”
Going alone
An increasing proportion of government services is being turned over to the private sector without a concomitant reduction in taxes. Take policing, for example, where more and more people are spending money on private security firms, and on increasingly expensive protection measures such as electric fencing and flamethrowers.
And even if a husband and wife were both working and earning in the upper tax brackets the combined reduced income tax of R2 950 probably wouldn’t be enough to pay for the in- creases in school fees this year. Since government collects taxes for funding basic services (including education, law and order, and health care) it is clear that middle to upper income earners are increasingly being nudged out of the formal government system. The perception of ‘paying more taxes for less services’ is a dangerous one if it leads to reduced work motivation and/or higher tax evasion.
As was quoted by Mr Meiring, those earning R60 000 taxable income receive 90 cents in services for every rand they pay in tax. Someone in the R300 000 bracket receives just 9c for every R1 and should this family emigrate they take with them a tax base that would otherwise support 12 South African families. This continued over-reliance on a narrow tax base is extremely short-sighted and will simply worsen as more citizens seek ways to avoid paying tax, or opt out altogether by leaving the country. Eventually — to use President Nelson Mandela’s phrase — the ‘Masses of the people’ will have to start contributing to the funding of the country’s infrastructure. If they don’t services will continue to deteriorate and facilities devalue as departments cut back on maintenance.
VAT
As far as VAT is concerned, it is a surprise in one sense that this indirect tax was not increased, say to 15%. In many countries, it is around 17% and above. It is a worldwide trend, acknowledged by Finance Minister Manuel, that there is a move away from direct taxes toward indirect taxes. This is because it leads to a fairer, more productive tax structure. Lower taxes on the income side mean higher savings and a stronger consumer market, creating jobs and higher economic activity. Higher taxes on the expenditure side spread the fiscal burden more equitably on those that both have the money to spend and indeed spend it. Savings are also encouraged by this system. Interestingly, the United States is quite far down the track in its considerations of abolishing direct taxes altogether.
Although job creation has avowedly been a government priority, employment in the formal sector has plunged, down 13% (or 800 000), notes Rian le Roux, head of economic research at Old Mutual Asset Managers. However, official job figures may not be revealing the true picture because, as he points out, gross domestic product rose 11%, while new company registrations have rocketed.
Constraints
But one must not be over critical. After all this was a pre-election budget, and the constraints on government finances are excruciating to say the least. Its historical debt burden now sucks 22,1 % of total government spending, whilst the sheer enormity of the task of uplifting the people of South Africa — the so-called ‘social backlog’ — towards even a basic living standard is almost over-whelming.
Fiscal discipline
The other important feature of the budget is the overhaul of financial management and the budget process. Comments Mr Jacobs, “The National Expenditure Survey published by government is a first for South Africa. The importance of this cannot be over- estimated. It will now become easier to identify spending which does not effectively address previously set goals, and weed out wasteful expenditure in general.”
Comments Le Roux, the Budget was broadly in line with expectations, it nevertheless reflected a firm commitment to fiscal discipline and market friendly policies. The Minister kept to the 3,5% of GDP deficit target for the 1999/2000 fiscal year, as set out in last year’s Medium Term Budget Policy Statement. Estimates for the present fiscal year were revised down from 3,9% to 3,7%.
“Apart from fiscal discipline, the planned further relaxation of exchange controls later in the year, further privatisation progress, the cut in the corporate tax rate and comments by the Minister in a pre-Budget briefing about intentions to set an official inflation target, clearly suggest that government remains firmly commit- ted to market friendly economic policies. By Nigel Benetton

Copyright © Insurance Times and Investments® Vol:12.2 1st March, 1999
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