By Zwokunda Tshikundamalema
Financial sustainability remains one of the greatest challenges facing South African local government. While metropolitan municipalities continue to generate their own revenue from property rates and service charges, many local and rural municipalities remain heavily dependent on national transfers.
Despite substantial annual allocations through the equitable share and conditional grants, many municipalities still experience financial distress, deteriorating infrastructure, poor audit outcomes and declining service delivery.
This article examines whether the current funding model adequately addresses the structural realities facing financially distressed municipalities.
The South African Constitution establishes local government as a distinct sphere responsible for delivering essential services such as water and sanitation, electricity, roads, waste management as well as local economic development. Municipalities
are required to meet these social expectations through a combination of own-source revenue, equitable share allocations, conditional grants and borrowing (where appropriate).
The framework assumes municipalities possess viable local economies capable of generating sufficient revenue. As frequently reported, this assumption does not hold true for many municipalities, particularly rural municipalities that experience high unemployment, poverty, low property values and shrinking economic activity. Because of this, most municipalities remain financially unsustainable despite receiving significant fiscal transfers from the National Treasury.
Understanding the current funding model
The local government funding framework is primarily governed by:
- The Constitution (Sections 214 and 227)
- The Local Government: Municipal Finance Management Act (MFMA)
- The annual Division of Revenue Act (DoRA)
- The Financial and Fiscal Commission (FFC) recommendations
Essentially the model comprises:
Equitable share. Designed to fund the provision of free basic services
to poor households and assist municipalities with limited revenue-raising capacity.
Conditional grants. These grants are ring-fenced for specific projects
and include:
- Municipal Infrastructure Grants (MIGs)
- Integrated Urban Development Grants (IUDGs)
- Water Services Infrastructure Grants
- Regional Bulk Infrastructure Grants
Own revenue. Successful municipalities generate revenue through:
- Property rates
- Electricity sales
- Water and sanitation charges
- Refuse removal
- Licensing and permits
For many rural municipalities, their own revenue contributes less than 20% to 30% of operating expenditure.
Why the struggle continues
Despite the current funding model, financial distress continues to worsen. There are several structural factors that contribute to this reality, such as:
Weak local economies. Many municipalities such as Maquassi Hills Local Municipality, Mamusa Local Municipality, Ratlou Local Municipality, to name a few, operate in areas with limited economic activity and high unemployment. Without economic growth there is little opportunity to expand the municipal revenue base.
Poor revenue collection. Many municipalities collect less than 70% of billed revenue. Contributing factors include:
- High consumer debt
- Indigent households
- Illegal connections
- Weak credit control
- Inaccurate billing systems
According to successive reports by the Auditor-General of South Africa, poor revenue management is one of the primary causes of municipal financial instability.
Infrastructure backlogs. Ageing infrastructure increases maintenance costs while simultaneously reducing service reliability. In some municipalities, water losses of up to 40% reduce billable revenue by a substantial amount of potential income. Additionally, electricity distribution losses further erode financial performance.
Governance failures. The Auditor-General consistently reports recurring findings relating to weak internal controls, poor financial management, irregular expenditure, material misstatements and supply chain management deficiencies.
These governance weaknesses erode financial sustainability regardless of the funding model.
Is the current funding model effective?
The answer is both yes and no. The model works if there is a successful equitable share that funds free basic services, reduces inequality between municipalities, supports operational expenditure and protects vulnerable communities.
Conditional grants have also funded thousands of infrastructure projects across South Africa. Without these transfers, a greater number of municipalities would effectively become insolvent.
The model falls short because the current model presupposes municipalities will eventually become financially self-sufficient. For many municipalities this is unrealistic. Municipalities with declining populations, shrinking tax bases, high poverty levels and limited commercial activity cannot realistically generate sufficient revenue of their own irrespective of management improvements. Consequently, municipalities become trapped in a cycle of:
Low revenue → infrastructure deterioration → declining service delivery → reduced payment levels → further financial decline.
International comparisons
Countries such as Australia, Canada and Germany recognise that certain local governments will never generate sufficient revenue due to structural economic conditions. Accordingly, they employ equalisation funding models that account for both fiscal capacity and the actual cost of delivering services, rather than presuming all municipalities can achieve financial self-sufficiency. South Africa could strengthen its model if it explicitly faced up to these realities.
Recommendations for reform
Rather than relying solely on annual financial transfers, South Africa should consider a more differentiated funding model. Key reform recommendations include:
Differentiate municipal funding models. Recognise that metropolitan, secondary city and rural municipalities face fundamentally different fiscal realities.
Introduce fiscal capacity-based allocations. Funding should reflect each municipality’s realistic revenue-raising potential rather than basing calculations predominantly on a region’s population.
Reward good governance. Provide additional incentives for municipalities that demonstrate improvements in audit outcomes, revenue collection and financial management.
Support local economic development. Investment in economic growth, job creation and industrial development should accompany financial transfers to expand municipal tax bases over time.
Strengthen revenue management. Municipalities need to modernise their billing systems, improve customer data, enhance debt collection and reduce non-technical losses.
Expand shared services. Smaller municipalities should collaborate in specialised functions such as internal audit, engineering, information technology and financial management to reduce administrative costs.
Conclusion
The National Treasury funding model remains indispensable to the functioning of South Africa’s local government system. Without equitable share allocations and conditional grants, many municipalities would be unable to deliver even the most basic services. However, the persistence of financial distress in municipalities such as Ditsobotla, Mamusa, Emfuleni and Lekwa demonstrate that fiscal transfers alone cannot overcome structural economic constraints, weak governance and limited revenue capacity.
Achieving long-term financial sustainability requires a shift from a uniform funding approach to a differentiated model that recognises the diverse fiscal realities of municipalities. Such a model should combine equitable funding, stronger governance incentives, enhanced revenue management, institutional capacity-building and sustained investment in local economic development. Only through this integrated approach can municipalities move beyond recurring financial crises towards resilient, accountable and service-oriented local governance.
References:
- National Treasury. Local Government Fiscal Framework and Annual Budget Review.
- Auditor-General of South Africa. Consolidated general reports on local government audit outcomes (various years).
- Financial and Fiscal Commission. Annual submission for the division of revenue (various editions).
- Constitution of the Republic of South Africa, 1996 (Sections 151, 214, 227 and 229).
- Local government: Municipal Finance Management Act, 56 of 2003.
- Annual Division of Revenue Acts.
- Local government: Municipal Systems Act, 32 of 2000.
- South African Local Government Association. Publications on municipal financial sustainability and revenue enhancement.
