THE government recently introduced a new mining tax regime in the 2015 national budget and the reverberations of this decision are still being felt as various stakeholders express their reactions.
For instance, the Chamber of Mines has warned that the new regime is likely to hit investment. One of the major mining companies, Barrick Gold, has also warned of the possibility of suspending operations if Parliament approves the new tax measures.
Barrick claims that the US$45 million tax they currently pay annually will increase to approximately US$150 million. In general, it has been claimed that there has been a lack of consultations regarding this issue before the budget was unveiled.
The tax changes announced by the Ministry of Finance have two main elements. Firstly, corporate income tax for mining companies has been abolished replacing it with a mineral royalty as a final tax.
Mineral royalty is levied on the gross value of copper mined irrespective of whether this is profitable or not.
Secondly, the government has increased royalty rates from six percent to eight percent for underground mines and six percent to 20 percent for the open pit operations.
The broader context here is the long running debate about balancing demands from the Zambian public on one hand with those from mining companies on the other.
The political pressure from the public and civil society is to collect more revenue from the mines. The companies, however, argue that they are already contributing a fair share. There are no easy answers or a one size fits all to designing a mining tax system.
This is evidenced by many different approaches to taxing mining firms around the world. But has the Zambian government, with these decisions, struck the right balance?
There are some good arguments for considering this move on royalties. Taxes on the value of production, rather than profits, are cheaper and easier to administer. They are charged on the gross value of copper extracted measured using London Metal Exchange prices. It is relatively straightforward to monitor how much copper is taken out of the ground.
In contrast, declared profits are relatively easily manipulated. Some mining firms operating in Zambia have long been suspected of engaging in tax avoidance vis-à-vis corporate income tax. This could be through overstating their expenses, understating revenues or declaring some expenditure as capital allowance.
Mining companies being largely multinational companies can also avoid tax using transfer pricing – shifting profits made in one country to another with lower tax rates. Where successful, this robs Zambia of much needed revenue for social and economic development projects.
What happened with last year’s budget points to the difficulties with raising money through taxes on profits.
In 2013, the Government expected to raise K2.7 billion from corporate income tax, but only collected under half this amount – K1.1 billion. In contrast the Ministry of Finance raised 90 percent of what it had projected from royalties – K1.8 billion compared with a projected K1.9 billion.
Taken together with reports of boasts about profits made in Zambia by certain quarters of the mining sector makes Government’s thinking understandable.
However, the government’s plan to rely entirely on royalties runs significant risks. Companies may still be able to avoid tax. A mining firm that operates both deep and open pit mines, but uses one smelter, could manipulate production figures to reduce tax.
While it will be much harder for companies to hide mineral production, the government must still have the capacity and expertise to effectively monitor mining companies.
There are two more significant risks. The first is that removing all taxation of profits will mean Zambia could lose out from progressive benefits that could arise from supernormal profits as a result of high copper prices.
We could witness a return to the debate about windfall taxes which appear to have not died at all in certain quarters of the stakeholders. Secondly, and most importantly, taxing mines irrespective of whether the production is profitable or not will disincentivise investment. Mining firms are likely to cut down on greenfield investments, and close down low grade mines resulting in a loss of jobs as well as revenue for Government. Relying totally on royalties could have short-term benefits in terms of revenue collection but at the same time yield long-term negative outcomes in driving away investments.
The right way forward is to adopt a balance between taxes on profits and royalties. Both have advantages. It is probably no accident that no other country with copper mining industries relies only on taxing the value of copper extracted.
All have some mix of the two with royalties at low rates and corporate rates higher, at three percent and 30 percent on average respectively.
While the increased rate for deep mines, from six percent to eight percent seems reasonable, the hike from six percent to 20 percent for open pit mines is an untested and risky move. It will have to be seen how this pans out.
Whatever the decision, the level of taxation on mines and the balance between different forms of taxation should be a matter of serious debate. The government should make a more modest shift to royalties and assess the impact. The government should also engage all key stakeholders in the mining sector.