Potential VAT increases have been discussed for several years, despite being politically sensitive.  The urgency for an increase in the VAT rate escalated towards the end of 2017 when Finance Minister Malusi Gigaba announced in the Medium Term Budget Policy Statement that there would be a ZAR 50.8 billion tax revenue shortfall this year.  This excludes the cost of free tertiary education for low-income households, announced late last year. Given the Davis Tax Committee’s estimate that government would require ZAR 60 billion a year to fully fund tertiary education in South Africa, it is clear that the fiscus would need to collect a substantial amount of additional revenue if it wishes to cover the current shortfall and provide free tertiary education.

Government’s need to raise funds takes place against a background of exceptionally high unemployment, and South Africans are reeling from substantial job losses throughout 2017.  Lower income households are struggling to make ends meet, and cannot afford any significant tax increases.

For this reason, many people have been very outspoken against the potential VAT increase.  A far greater VAT blow, however, is the proposal in Budget Review 2017 that the VAT zero-rating on fuel be removed in the 2018/19 period. 

Implications of removing zero-rating on fuel

If the VAT zero-rating on fuel is removed, the cost of petrol and diesel would rise by 14%.  This would also have knock-on effects on the prices of goods that must be transported.

Consumers would be hit hard, especially commuters making use of public transport and the taxi industry.  The increase in the price of fuel and diesel would require taxi drivers to increase their fees per kilometre, adding to the financial burden on the poor and the working class.  However, given that it may be practically impossible to fully pass this tax increase on to commuters, it may become increasingly difficult for taxi drivers to earn a living.

Increase in VAT rate

On its own, an increase in the VAT rate may not hit lower income consumers as hard as is feared.  If one looks at the average spend of households that Statistics SA categorises as “poor households” in the 2017 Poverty Trends publication, various categories of expenditure are not subject to VAT.  If the VAT zero-rating on fuel were to stay, the average transport cost of ZAR 3 957 per year would not be impacted by VAT rate changes, and neither would the average yearly housing costs of ZAR 6 966 (bond repayments and rent are both exempt from VAT). 

Basic foodstuffs, too, are zero-rated for VAT purposes.  Such items include, among others, brown bread, dried beans and other legumes, maize meal, milk, amasi, rice, fresh fruit and vegetables, eggs, vegetable oil and tinned pilchards.  These items make up at least 46% of the normal food purchases of the average poor household, according to Statistics SA.

Essentially, then, changes to the VAT rate would, on average, affect approximately 54% of poor households’ yearly food spend of ZAR 9 487, and spend on “Other” of ZAR 8 150.  A 1% VAT increase would equate to approximately ZAR 133 of extra costs per year for households with an average annual income of ZAR 46 624.    

Relative impact of VAT on fuel versus VAT increase

By contrast, the impact of VAT on fuel is more substantial.  Based on average transport spend of ZAR 3 957 per year for poor households, the tax impact would be ZAR 554 per year.  For poor households, then, the VAT charge on fuel would be approximately four times as severe as increasing the VAT rate by 1%. 

The situation is more severe for households that Statistics SA categorises as “non-poor households” (average annual income ZAR 199 267, so definitely still lower income earners).  On an estimated annual Vatable spend of
ZAR 45 000, the impact of a 1% VAT rate increase is ZAR 450 per year.  By contrast, 14% VAT on transport spend of ZAR 25 415 per year is ZAR 3 558 per year.  The VAT charge on fuel would be almost eight times as severe as increasing the VAT rate by 1%.

Advance warning is not enough

For lower income households, it is not enough that there is “advance warning” of proposed tax increases, through the budget processes.  Fuel levies and road accident fund levies already cost ZAR 4.78 per litre of petrol.  There needs to be a real understanding by Government of the impact of all these costs on lower income households.  VAT on fuel is simply not economically feasible when viewed in conjunction with the existing levies.

Article by Hermann Marais, associate in our Tax Practice.