Zambia is taxing its way out of short-term pain and into long term injury
The Zambia Chamber of Mines, after an emergency meeting of mining companies on Wednesday 3rd October, declared that Zambia was now “uninvestable”. Given that the mining industry is in constant need of investment, and Zambia’s economy depends upon a thriving mining industry, this should be a major concern for policy makers and citizens alike.
Implications for the mining industry of a blanket increase in mineral royalty taxes
At the moment, the minerals royalty tax (MRT) operates on a sliding scale according to the copper price. This system came into force in 2016 and has been stable until now, a welcome reprieve in a tumultuous mining policy environment that saw nine changes to the MRT regime in 15 years. When the copper price is below $4,500/tonne, the MRT is four percent. Between $4,500 and $6,000/tonne, the rate slides up to five percent. Above $6,000 – a current threshold – the rate moves to six percent.
The government has now also proposed a fourth tier at a rate of 10 percent when copper prices move above $7,500/tonne. Prices will move towards that range in the next five to ten years as global markets encounter increasing deficits between available supply and growing demand.
An increase of 1.5 percentage points on a 6 percent tax rate is effectively a 25 percent increase in the rate. Not only is this substantial in its own right, the government has further proposed that MRT be ‘non-deductible for income tax purposes.’ In other words, mining companies will no longer pay income tax after MRT deductions; it will pay MRT according to production, and corporate income tax (CIT) on gross revenue regardless of how much it contributes in MRT.
No other competent mining jurisdiction in the world excludes MRT from being tax-deductible. To the contrary, leading tax experts like Deloitte have strongly promoted tax incentives in light of the increasing mobility of mining investments.
We recognise that there will be plenty of support in Zambia for these extreme measures. The government is indeed wielding a big stick. So, why is this not a good outcome for Zambia?
The vast majority of Zambia’s mines operate at the upper end of the global cost curve. For instance, Mopani’s operations are presently loss-making, and that’s before the present changes are implemented. It’s difficult to see how or why, in the current operational and legislative environment, parent company Glencore would continue to invest hundreds of millions of dollars to continue the turnaround, when they have so many options elsewhere.
Over in North Western Province, Kanshansi is presently in a more fortunate position. It produces a sizable portion of total output and its production costs are still relatively low, although mining does become more expensive over time. However, Kansanshi’ s owners, First Quantum Minerals (FQM), have as a result of the Budget announcement announced that the next phase of investment – which would have extended Kansanshi’ s life span by another 15 years – will not now take place. The effect of this will be that even Kansanshi is likely to be become a marginal operation within the next 3-5 years. A marginal operation with declining production pays less royalties, and no profit taxes. This is plainly a disastrous outcome for both FQM and Zambia.
With increasingly higher cost burdens, and huge effective tax rate hikes on the horizon, the mining industry in Zambia will be forced to scale back production. Investment in exploration – already a minute fraction of what it was 10 years ago – and new production capacity, that would otherwise have widened the tax base, will now be foregone.
The next phase of investment – which would have extended Kansanshi’ s life span by another 15 years – will not now take place.
In summary, the new proposals will have the direct effect of shrinking the only significant economic sector with its attendant multiplier effects. The repercussions will undermine Zambia’s ability to raise investment finance more generally to tackle its growing debt problem.
Broader implications
Mining is a potential flywheel for diversifying the Zambian economy, in addition to having significant multiplier effects (spinning off job opportunities in other connected sectors). Not only did the budget speech propose unviable measures against the industry, it also proposed an import duty of five percent on copper and cobalt concentrates. Instead of incentivising those imports to expand manufacturing that would grow the economy beyond the life of finite mining, the proposal simply kills investment potential in manufacturing opportunities connected to mining.
Beyond these concerns, the government has proposed a reversion to a non-refundable sales tax and an abolition of VAT (currently refundable on certain items). No specific rates were offered, but this only generates further policy uncertainty in a country that can do without it. As it is, businesses are facing serious cash flow problems because the revenue authority has been withholding VAT rebates.
The wide road leads to destruction
While the budget speech began on the right note, acknowledging private sector dynamism as the answer to poverty alleviation, the proposals on the table to raise revenue and tackle debt will shrink the tax base and exacerbate the debt spiral.’
Robert Frost famously wrote in ‘ The Road Not Taken’: ‘ Two roads diverged in a wood, and I – I took the one less travelled by, And that has made all the difference.’
It’s an easy road to tax one’s way out of short-term fiscal pain, but it is a well-travelled road that will lead to permanent injury.