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Businesses should future proof themselves against the coming carbon tax

Have your say about the National Treasury’s carbon tax policy paper, better prepare your business and learn more about what you can do.

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Have you read the National Treasury’s carbon tax policy paper?

Do you have any thoughts on the carbon tax proposed policy?

We have compiled an official response which will be submitted to treasury by the 30th of August. We would love your comments and input on this important piece of legislation that will affect all business in South Africa. All businesses will eventually be paying a tax on all their direct greenhouse gas emissions.

We congratulate the National Treasury (as well as the Department of Environmental Affairs for their input) on a generally well thought out policy paper. GCX agrees that putting a price to carbon is the most effective method to influence the decision-making processes across the value chain. This is vital to the well-being and sustained success of a low carbon economy. A market-based instrument, such as a carbon price is the best method to achieve success.

See all the points  of our response below:

  1. Sector classification for tax-free thresholds: “other” category (par 185, table 8)

One of the major ambiguous aspects of the policy paper is the inclusion of an ‘Other’ category in the list of liable sectors. This remains a source of confusion and uncertainty given the fact that while many companies are relatively carbon intensive they do not fit any of the listed categories and therefore it has to be assumed that they would fall in to this catch all “other category” Providing the carbon advisory service that we do  we cannot advise our clients appropriately and uncertainty seems to instil a ‘wait and see’ attitude among companies in South Africa, delaying action rendering them unprepared should they fall into this category.

2) Mobile Fuels (Par 184; 213 – 222)

Mention of mobile fuels (a direct Scope 1 source) as a taxable emission source is non-existent in the current policy paper and it remains uncertain whether this was an error or if emissions from mobile sources will actually be exempt. The only description of mobile sources is described in paragraph 32, where it states “the carbon tax will only cover Scope 1 emissions in the tax base; that is, emissions that result directly from fuel combustion and gasification, and from non-energy industrial processes”. However no direct mention of mobile fuels being taxed could be found anywhere else in the policy paper. Clearer communication would be very helpful and is needed as the potential exclusion of mobile fuels presents a large exclusion in typical emissions of companies. Exclusion of mobile fuels does not provide clear incentives for the private sector to reduce emissions. Justification for omitting mobile fuels from the tax scope should have been given and would be welcome at the earliest communication from Treasury.

3) Fugitive emissions as a taxable emissions source (Par 185, Table 8)

It is unclear as to the reason for including fugitive emissions from coal mining only. South Africa performs many other mining functions where fugitive emissions from shaft operations result in massive emissions from fugitive sources. Why are other forms of mining excluded from carbon tax liability?  As with mobile fuels it remains ambiguous as to the taxable status of emissions from fugitive gases. GCX seek further concrete clarification on this. Fugitive gases used in refrigeration and air conditioning functions should also be included in a carbon tax regime as they have very high global warming potentials. For fugitive emissions that will be included in the tax, would these include Kyoto gases only? There is no mention of non-Kyoto gases which emit high volumes of greenhouse gases into the atmosphere.

4) Impact of excluded emissions sources, mobile fuels, fugitive gases (Par180; 184; 213 – 222)

GCX is concerned that excluding GHG emissions from the combustion of mobile fuels (and to a lesser degree fugitive gases) will leave a large gap between government’s intention of shifting South Africa’s intensely carbon heavy economy onto a low carbon path and the status-quo. This suggests that the private sector will not be incentivised to reduce emissions from a large portion of direct emission sources. Paragraph 180 states “More than 80 per cent of GHG emissions in South Africa are produced by fuel combustion and the transport sector” and paragraph 214 states “transport sector emissions from road transport, civil aviation and railways are responsible for about 9 per cent of the country’s total GHG emissions, with road transport accounting for a significant portion of this amount. Emissions are mainly the result of the combustion of fossil fuels (e.g. petrol and diesel) in motor vehicles and aviation fuel in aircraft”. Exclusion of such a large portion of direct emissions does not provide enough signals for private and public sector to reduce emissions. It leaves a potentially low amount of emissions taxable and could generally enable an attitude of payment of tax rather than active reduction of emissions. Companies will have added incentive to reduce emissions and ROI of reduction projects will be reduced if all direct emissions are taxed.

5) Mandatory reporting scheme (Par 29; 173)

GCX fully supports the introduction of a mandatory reporting scheme for companies in South Africa. This will provide government with up to date emissions data with which to consider the most appropriate actions as well as enable companies to track carbon emissions and make informed reduction decisions. However, it appears that mandatory reporting and carbon tax liability will not be in sync, in that a company with taxable carbon emissions may not have Scope 1 emissions or emissions from grid connected energy above 100 000 tonnes CO2 (as published in the DEA in the 2011 white paper), the threshold for mandatory carbon measurement, reporting and verification. No lower limit has been expressed, below which a carbon tax would not be payable. This could mean that companies would be liable for a carbon tax even if their emissions are low enough to exempt them from mandatory greenhouse gas reporting. GCX would advise that the thresholds above which emissions become taxable and above which reporting becomes mandatory, be one and the same.

6) Tax-free threshold adjustment and agreed sector benchmarks (Par 190-191, Box 2 and Table 9)

Reference is made to sector specific benchmarks (Y variable in equation Z=Y/X). It is unclear as to how such sector specific benchmarks will be calculated. Will the benchmarks be based solely on organisations that will be reporting to the mandatory scheme, or will they be based on all companies within a sector? Further details on the methodology to determine the Y variable is required. The intensity benchmarks listed in table 9 do not refer to total Scope 1 emissions, nor do they address each of the tax-liable sectors listed in table 8.

7) Acceptable carbon offset standards (Par 194 and 195)

he ability of companies to reduce their tax liability by up to limits of 5 or 10% by purchasing carbon offsets is a positive step for the carbon credit industry in South Africa, with significant social and environmental benefits for South Africa on offer. It is stated that Treasury will be elaborating on the design features for the offset mechanism to be published – GCX encourage this communication sooner rather than later to provide the right signals for carbon offset projects in advance and allow time for project origination which is a lengthy process in itself.  A separate carbon offset policy paper is expected to be published by Treasury in September 2013. GCX eagerly awaits this and will be responding. The White Paper suggests that allowable offsets would be those accredited under international standards, with the only specific mentions being CDM and VCS accreditation (paragraph 38). The price of the CER has been driven artificially low due to a large and persistent influx of non-additional credits, primarily those generated by adipic acid, HFC-23, and large hydro projects. Allowing the CER to be used for partial compliance with the South African carbon tax would be unlikely to have the desired effects on net carbon emissions, even if credits sourced from the projects of concern were prohibited. As an alternative, the White Paper suggests that “an offset mechanism similar to the [CDM], administered locally and in a more streamlined way” could be implemented (paragraph 184). While more administratively complex, this would diminish the impact of illegitimacy in international schemes and dramatically enhance domestic benefits from offset investment. If a domestic (or otherwise reliable) offset mechanism was implemented, it might be advisable to use increases in the allowable offset percentage as an intermediary step between tax exemption and full tax liability.

8) Reporting framework/organisational boundaries consolidation

Unfortunately this is still one of the key unknown factors and we are still uncertain about many of the ‘nuts and bolts’ workings of the carbon tax and supporting reporting scheme. Carbon emissions may be reported under two different methodologies: the equity share and the operational/financial control framework. An entity’s direct emissions may vary drastically depending on the reporting framework used. GCX assume that a single approach will be selected. This should be communicated urgently as companies may need to make adjustments to their reporting processes to meet the carbon tax criteria. From GCX’s experience, complex organisations, can take up to 2-3 years to determine a fairly accurate carbon footprint where data quality is at an acceptable level. The time frames for carbon taxation may not allow for appropriate reporting systems to be implemented by certain companies. Any delay in understanding the required consolidation approaches will hamper the efforts of the reporting framework. An additional issue once the reporting approach is decided on is that of asset shedding. Companies may outsource previously owned activities and machinery to avoid taxable emissions. For instance if the stipulated emissions accounting approach is to be the equity share approach (meaning that all emissions from company-owned machinery are direct emissions) then companies can move Scope 1 emissions to Scope 3 by outsourcing previously owned activities and thus avoiding taxable emissions. For example a company may sell its boiler and lease one back and those stationary fuel emissions would fall into Scope 3 and not be tax liable. How does Treasury intend preventing such asset stripping activities?

9)  Reporting requirements (Par 95-96)

Clarity is still sought on a number of aspects particularly around benchmarking, accounting, reporting, auditing and appropriate emission factors. From GCX’s experience assisting companies to measure, track, report, audit and reduce emissions these currently unknowns should be communicated urgently. January 2015 does not leave much time to communicate these issues and give companies the chance to adjust their internal systems to align themselves with the carbon tax regime. The other major issue is that many companies do not even measure their carbon emissions, and for them the timeframes involved may prove unrealistic. No mention is directly made to any specifics of measurement, reporting and verification framework. GCX seek urgent communication from DEA on the reporting methodology and its prescribed emission factor database. It is expected that a consultation process will be followed once communication from DEA takes place.  The more certainty and advance notice policymakers provide in the tax design, the more cost-effectively firms can adapt to coming price changes.

10) Verification requirements (Par 95-96) 

What will be the process for verification of emissions?  Will there be accredited verification bodies for emissions inventories?  What will the audit process be? Further questions around the scope of verification and SANAS accreditation are issues that require further answers. As with emissions accounting there is a significant body of communication that needs to come out from government to provide insight into how accounting, reporting and verification will work.

11) Concern about Eskom’s disregard for the carbon tax

Eskom should not be allowed to pass on its obligations under the carbon tax to consumers but need to ensure that they invest heavily in renewable non-polluting technologies to ensure their tax exposure does not make it prohibitively expensive to produce electricity. There has been a call from Business to exempt Eskom from the tax as they know they will foot the bill and have to then pass it down to consumers. There needs to be a minimum effort from Eskom toward a cleaner greener energy future. The South African taxpayer should not foot the bill for their bad decisions and poor leadership. What is Treasury’s response to this impasse?

12) Tax shifting / Revenue Neutrality / Ring Fencing 

Are there guarantees that the money will be spent on meeting the objectives of the tax which are to internalise negative environmental costs (externalities) and create the appropriate incentives required to stimulate behavioural changes across the value chain of industry in favour of cleaner, lower-carbon technologies, uptake of energy efficiency measures as well as research, development and technology innovation? More detail is required on how taxation shifts will happen and what minimum proportion of revenue collected will be invested on the climate change mitigation and adaptation interventions. Diminishing the income tax rate to offset the regressivity of a carbon tax (as suggested in paragraph 232) might not be wholly effective with respect to the unemployed, who presumably will be purchasing goods and services at higher prices due to the carbon tax (as noted in paragraph 43). This might be counterbalanced by initiatives such as the provision of “free basic electricity,” but an actual redistribution of revenues (at least in part) might be considered for the lowest income brackets/the unemployed. For example, the carbon tax in British Columbia is used to fund the Low Income Tax Credit, through which individuals below a certain income level can claim benefits from the government.

13) Agriculture, Forestry, Land Use & Waste 

Per paragraph 36, the agriculture, forestry, land use, and waste sectors will be exempt from taxation during the first five-year period due to “administrative difficulties in measuring and verifying emissions from these sectors.” This concession is meant to be reviewed at the end of the first phase (paragraph 225) with the intent to include them in the second phase of the regime. However, no mention is made of what improvements in measurement and verification capabilities will be developed during the interim period.

14) General Design 

Uncertainty surrounding the amount of the carbon tax following the phase one review (paragraph 197) will likely have a negative impact on long-term investments by the taxed industries, as the net savings from those investments will be unknown on a timeline longer than four years. It would be helpful to increase certainty surrounding the amount of the carbon tax post-2019 before the tax is implemented to send clear price signals and maximise long-term investments.

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