The South African government announced that it will publish draft carbon tax legislation in 2015 for public consultation with a view to it becoming law in 2016. The Minister of Finance made the announcement during his annual budget speech on 25 February 2015.
The time from now until 2016 is a very important period within which businesses have the opportunity to come to terms with, and devise a strategy for, the impact that a carbon tax may have on their operations. South African companies of all types and sizes and across all industry sectors will need to act decisively to manage the broad commercial implications of the carbon tax. Direct application of the tax will be on a defined set of industry sectors (see discussion below). However, while many businesses will not face direct carbon tax liabilities, they will need to factor in the effect of the carbon tax that will be embedded in their supply chain - including the extent of their consumption of Eskom-generated electricity which will be subject to the carbon tax but subject to a cost pass-through to the consumer by Eskom - in order to manage changes to their cost base.
Basic facts: the carbon tax’s key design features
The carbon tax will be imposed at a statutory rate of R120 per tonne of CO2e (carbon dioxide equivalent), rising 10% a year (R132 in year two; R145.20 in year three; etc). The tax relief measures (discussed further below) means that the effective carbon tax rate will range from R12 to R48 per tonne of CO2e; significantly lower than the statutory carbon tax rate.
The carbon tax will cover all direct greenhouse gas emissions from sources that are owned or controlled by the relevant entity. These emissions relate to energy use (fuel combustion and gasification) and non-energy industrial processes. For all stationary sources of emissions the carbon tax will be calculated on the fossil fuel inputs using approved emissions factors or an approved transparent and verified monitoring procedure. For all non-stationary greenhouse emissions (for example, liquid / transport fuels), the carbon tax will be incorporated into the current fuel tax regime.
Administration of the carbon tax
The carbon tax will be included in the Customs and Excise Act. Entities that engage in activities that emit greenhouse gases will be liable for the carbon tax and will need to submit their tax returns based on their own assessment of their emissions.
On 2 April 2015 the Department of Environmental Affairs published the mandatory reporting requirements of emissions in South Africa for economic sectors through the National Atmospheric Emissions Inventory System which will begin in January 2016. The National Atmospheric Emissions Inventory System / Department of Environmental Affairs will assist with the verification of the self-reported greenhouse gas emissions for the purpose of calculating the carbon tax.
Step 1: Determine whether your business is directly liable for the carbon tax
The carbon tax will be applied to industry on a sectoral basis. Business operating in these covered sectors will be directly subject to the carbon tax which will be calculated on the fossil fuel inputs that result in Scope 1 greenhouse gas emissions. The meaning of the information columns to the right of the column headed “Sector” is explained below.
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Step 2: Determine whether your business’s direct carbon tax liability may be reduced or eliminated
Businesses operating in the covered sectors may reduce or eliminate their direct carbon tax exposure in the following ways:
Direct exposure to the carbon tax
Basic tax free threshold
The 60% basic tax free threshold may be adjusted upward or downward by 5 percentage points depending on carbon intensity. It will be necessary for companies to perform carbon footprint exercises so that they can determine the carbon intensity of their operations.
Trade exposure allowance
The carbon tax design includes a trade exposure allowance of 10% for qualifying entities. This concession will be structured as a graduated relief. Firms will have the option to use either exports only or exports plus imports as a percentage of outputs or sales to determine their trade exposure. This measure is limited as it does examine their emissions intensity. Further analysis might be needed to ensure an optimal provision for international competitiveness relief for trade exposed emissions intensive sectors.
Process emission allowance
Tax relief for emissions-intensive businesses which have structural or technical difficulties in reducing their emissions intensity will be included in the carbon tax design.
Carbon tax liable entities will be able to reduce their carbon tax liabilities by purchasing carbon credits from non-carbon tax liable entities. Carbon tax liable entities will have to compare the benefits of purchasing the carbon credits or simply paying the carbon tax. If the carbon credit purchase route is selected then a certain amount of due diligence will be required to ensure that the purchased carbon credits meet the eligibility requirements. The JSE recently conducted a demonstration trade in which it showed how carbon credits housed in carbon registries outside of South Africa could be traded through the JSE’s trading platform.
Indirect exposure to the carbon tax
Step 3: Act on opportunities to pass through costs: long term agreements
In certain long term agreements, prices may be locked-in for the period of the agreement and will likely continue to apply well after the introduction of the carbon tax. This has potentially disadvantageous results, e.g., a manufacturer of goods subject to carbon taxation (from say 1 July 2016) on the emissions associated with the manufacturing process might be constrained from passing-on this cost increase to clients as a result of a long-term sales agreement which locks-in the price of the goods. Those who will be adversely impacted may wish to seek legal advice as to whether their current long term contracts do or do not provide for variation to prices on account of the carbon tax. Future long term contracts should have clauses that properly deal with adjustments to price on account of the carbon tax.
Step 4: Consider the impact of the carbon tax on acquisition strategies
Ensuring compliance with the carbon tax should become part of standard due diligence practices when acquiring carbon tax liable corporate entities. In this regard, a full suite of warranties ensuring that the target entity is compliant with its carbon tax obligations, similar to tax warranties, should be considered.
Companies not directly subject to the carbon tax
Even if a business is not directly subject to the new carbon tax, it may increase input costs. For example, electricity prices or other inputs may increase in price due to a supplier being subject to the carbon tax. Businesses may respond to this challenge in several ways: retrofit their operations to reduce their energy consumption thereby qualifying for the energy efficiency savings tax allowance in section 12L of the Income Tax Act, or adjust their prices to deal with the impact of the carbon tax. Section 12L which contains a deduction of 45c per kilowatt hour on proven energy efficiency savings will be amended by increasing the deduction to 95c per kilowatt hour.
Every business will need to have a strategy to factor in the costs (direct or indirect) of the carbon tax. In addition, attention should be given to managing financial impacts such as a changing cost base, acting on opportunities to pass through costs and identifying and responding to tax implications.