Legislate, don’t negotiate - Mineral resources: Zambia’s capital wealth?

By Mtwalo Msoni - PWYP Zambia on September 28, 2021

Photo by mm-J available under a Creative Commons license

As in many other countries, taxes represent Zambia’s largest source of domestic revenue, making taxation issues vital for our country’s governance and development. The importance of taxation cannot be over-emphasized as governments are ushered into office based on their promises to revise tax regimes for the greater benefit of its citizens, only to lose power when they fail to do so. Balancing the different interests of government, taxpayers, employees, investors and other stakeholders is far from straight forward, and remains one of the major challenges of global tax justice.

With over a century of mining activities in Zambia, mineral royalty should be one of the largest sources of domestic income for Zambia and was expected to contribute 12.7% to the total national budget of 2015. But the reality is that there is little to show for exploiting our resources. Zambia is one of the poorest countries in Africa with around 63% of the population living in poverty, and 7 out of 10 Zambians living on less than two dollars per day. Good policy and sound tax administration governing mineral exploitation should have created a steady income, as has happened in Botswana which relies heavily on natural resource production and has made strong economic progress. Instead, resistance from the mining companies to the proposed mineral royalty tax of 20% for open-pit operators and 9% for underground mines, pushed the Zambian government to resort to pegging royalties at 9% for both open pit and underground mining, and corporate income tax at 30% of government earning, leaving the government with a sizeable budget deficit.

Minerals are non-renewable and once extracted, can never be replaced. Once Zambia’s copper, cobalt, coal, manganese, gold, uranium, emeralds will have been fully extracted, refined and exported, Zambia’s capital wealth will ultimately decline. This is why it is critical that the true value of extracted resources is recovered and that the revenue from mining is invested in a sustainable yet productive sector, otherwise the extraction of resources will end up making the country poorer. If not well handled, mineral extraction will lead to two forms of capital wealth depletion; depletion of mineral reserve deposits, and of above ground environmental assets. This, together with the fact that mining inevitably causes environmental and public health risks, raises the question; do the supposed benefits from the extraction of minerals out-weigh its hazardous costs?

Mining companies are most often taxed based on the operation costs of the mining activities rather than on the actual value of the mineral. But determining what that operation cost should be is challenging and often swayed by the companies’ own reports and figures. In a country like Zambia, which is dominated by multinational companies, the taxing is made even more problematic because of the different schemes that the companies employ to reduce the taxes that they have to pay. Rather than paying taxes on their global income, many companies will pay it on their separate activities in different tax jurisdictions.

With many goods and services being traded between different operating units within multinational organizations in their operation makes it easy for them to report losses and high production costs while the company remains profitable. By selling goods and services from an operating unit in a low tax jurisdiction to one in a higher tax jurisdiction at a relatively high transfer price, companies are able to reduce their overall tax payments, adding to the already difficult task of tax administrations.

Another form of transfer pricing abuse can also happen when mines report a lower value of their production than its actual market value. They might under-report the actual volume of production or the grade of the mineral, or they may fail to report other products contained in the ore. For example, minerals such as gold and silver are sometimes found within Zambia’s copper ore. Checking the quality and content of all production not just in mines, but also in smelters poses significant problems for governments. Without proper processes in place and competent staff to operate them, under-reporting of production can cost government considerable tax revenue.

To address this, the Zambian Government launched the Mineral Value Chain Monitoring Project in 2014, which aims to monitor, the country’s mineral resources throughout the value chain. Hosted by the Zambia Revenue Authority (ZRA), the objective is to provide accurate and reliable data and information on the mining sector helping to create effective policymaking and improve tax administration and mining sector oversight. If this proves efficient it will be a milestone for transparency in the extractive sector not only in Zambia but across the continent. Complimenting this, an EU backed Mineral Production Monitoring Support Project is being carried out under the supervision of the Ministry of Mines, Energy and Water Development (MMEWD) to effectively monitor mining activities and mineral production in Zambia, and to share this information with other relevant Government agencies, in order to facilitate the mobilization of the appropriate levels of domestic revenue.

However, it is worrying though that there is no clear method for tax authorities to monitor goods and services that are traded between different operating units within multinationals. This still poses a challenge in determining the true operational costs of mining operations. Zambian transfer pricing provisions are assured by the Income Tax Act (ITA) of Zambia. However, there are no detailed rules on transfer pricing in Zambia, nor any clear cut penalties, a gap some companies have exploited. For instance, there are companies registered in Switzerland that have copper producing subsidiaries in Zambia. One such Zambian based subsidiary reportedly sells copper to its Swiss-based counterpart at below-market price. The Swiss-based company then sells the same copper at global prices as if it originated from Switzerland, netting the price difference as profit whilst consistently reporting losses in Zambia. Ironically, Switzerland has effectively become a “major copper exporter” despite the copper actually originating from Zambia.

Zambia will only benefit from its mining activities when the true operational costs of mining and the “fair tax charge” are defined. This can only happen in Zambia when efficient measures are in place and accurate data is recorded. The time to maximize benefits is now, and our, PWYP Zambia coalitions’ urgent call is “Legislate, don’t Negotiate”.