Deciding what to charge your customers can be a struggle for many water suppliers. You’ll want to ensure that your customers are charged a fair rate, but also that there is enough revenue so your system doesn’t go into debt, or is unable to maintain and upgrade infrastructure. To create sustainable rates and charges, a water supplier must account for all current and future costs of supplying water to their customers. This includes the cost of new projects and the renewal of existing assets. If you don’t recover all the costs of supplying water, you may not be able to operate safely and effectively either in the present or in the future as your infrastructure (pipes, pumps, etc.) deteriorate.
If you’ve already created an Annual Operating Budget and Asset Management Plan, you’ll have the information you need already at hand. You can work out the full costs of providing safe drinking water in sufficient supply to your customers, and set water rates that reflect those costs by working through the steps below, or checking out the resources section and using one of the worksheets provided. In addition to creating your Annual Operating Budget, we recommend that you also Create a Five-Year Plan as there is additional information about reserve funds in this section.
The first step in setting rates and charges that reflect the true cost of delivering safe drinking water is to work out how much it costs to operate your system every year. You should divide your costs into two broad categories:
- Administration and Operations, which includes things such as treatment costs, utilities, wages and maintenance
- Contributions to Reserves, which covers the contributions you make each year to one or more of your reserve accounts
Knowing what your costs are and understanding how they have changed in the past and can change in the future is the key to knowing how much money to collect from customers every year.
There are four reserve accounts you might wish to create. The amounts that you need to contribute to the reserve accounts must be included in the calculation of water rates; they are part of the overall cost of providing service to your customers.
Operating Reserve: this is for unexpected operational costs, such as a large increase in pumping costs. You should make annual contributions to this fund until you have the amount you need set aside in the reserve.
Emergency Reserve: this is for emergency events, such as flood or storm damage. You should make annual contributions to this fund until you have the amount you need set aside in the reserve.
Replacement Reserve: this is for replacement and renewal of infrastructure, such as replacing or upgrading pipes and reservoirs. The amount you need can be found in your Asset Management Plan.
Construction Reserve: This is for major upgrading of the system such as the installation of filtration. The amount you will need to set aside in this reserve can be calculated through reference to your Five-Year Plan.
A straightforward way to work out charges to your customers is to calculate total annual costs and divide this equally among your customers to get the charge per connection. If you do not have water meters, this may be your only practical option.
If you have water meters, then you can consider charging each customer based on the water they actually use. In this case, the simplest approach to working out the rate to charge is to take the total annual cost and divide by the annual amount of water supplied, which gives you the cost per cubic metre supplied.
Total costs are a combination of administration and operating costs (e.g. staff costs, treatment costs, maintenance, administration) and contributions to reserve funds. It’s important to note that historically, many water systems have not contributed sufficient funds to the reserve accounts.
In order to forecast future amounts that you will need in your reserve accounts to maintain a positive balance, you can use the Sustainable Rates & Chargers Forecast Worksheet, or create your own. With this information, you can set your rates and charges accordingly.
For larger water systems, setting water rates can be complex and there are various rate structures that can be used. For example, if you want to discourage high water use for summer irrigation you might use an “inclined block rate”. Your water system may supply users in several categories such as: domestic, institutional, commercial, industrial and agricultural. Each of these categories may require different water rates. Using the concept of Single Family Residential Equivalents is one way you can charge for different water needs.
Setting rates and charges for sustainable operation involves not only your annual administration and operations costs but also the contributions to reserves. You may find that as you calculate the reserve contributions needed, particularly those for asset renewal and capital reserves, large increases in water rates are required in order to operate sustainably.
You may plan to recover the full costs of operating your water system but you need to consider those customers who may suffer hardship from increased charges. For example, in the United Kingdom, a household spending more than 3% of income on water is considered to be suffering hardship. In British Columbia, the water charges are typically lower than many other areas of Canada, and Canada has some of the lowest rates among industrialized nations.
To avoid “rate shock”, the name given to the reaction customers have when they are faced with sudden large hikes in water charges, you may have to introduce rate increases over time. This approach is used by many water systems when they need a large increase in revenue, which in turn implies a large increase in rates. Most importantly, keep your customers informed and have a systematic plan for moving towards sustainable operations.
When you have found out more about water rates, you may want to revisit the rates and charges you calculated for your water system. We’ve provided worksheets at the bottom of this page to help you figure out sustainable rates and charges. You should plan to revisit your calculations of sustainable rates and charges at least annually to update information. This review and update will take less time than the initial planning process and is important for good financial decision-making.