Download mining tax avoidance schemes - International Association of

MINING TAX AVOIDANCE
SCHEMES
Presentation to the International Association of
Prosecutors’ Africa Regional Conference
Prosecutors
Livingstone, Zambia ,
2nd to 5th March 2014
Joseph Nonde
Assistant Director - LTO Mining Audits
1
Outline of Presentation
•
•
•
•
•
•
Background & Introduction
Mining Tax Administration & Reforms
Regulatory Framework
Taxes Administered
Challenges
C
a e ges Facing
ac g Miningg Taxation
a at o
Rigorous Tax Avoidance Schemes
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Background
• Z
Zambia
bi is
i Africa’s
Af i ’ largest
l
t producer
d
off copper andd the
th secondd largest
l
t
producer of cobalt, generating about 4.5% and 3.3% of the western
world’s supply
pp y respectively.
p
y Significant
g
qquantities of selenium,, silver
together with minor gold and platinum group elements also produced as
important by-products of copper mining and processing operations.
• Contribution
C
ib i off the
h mining
i i sector to GDP
G
after
f privatisation
i i i has
h grown
significantly from 6.4% in the year 2000 to 11% in 2011.
• Production has increased from about 257,000
257 000 tonnes per annum in the
year 2000 to approximately 785,000 tonnes in 2012.
• Production is expected
p
to increase to 1.5 million tonnes by
y yyear 2015.
Contribution to GDP is expected to increase to 20% by year 2016.
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Extractive Industries
• Z
Zambia
bi is
i dependent
d
d on its
i naturall resources which
hi h mainly
i l
includes minerals, of which copper is the mainstay:
•
•
•
Zambia s large scale mining done mostly by Multinational Enterprises
Zambia’s
(MNEs) through subsidiary operations
Media coverage and the work of some Civil Society Organisations
(CSOs) in the recent past have helped spread perception that
Multinational Enterprises (MNEs) not paying fair share of taxes in
Zambia
Debate on BEPS (Base Erosion and Profit Shifting) has added even more
political pressure on the issue of MNEs and their operations in the country
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Mining Tax Administration
Reforms
f
 In 2008 Government cancelled all Development
Agreements.
 With
Wi h change
h
off Government
G
in
i 2011 more reforms
f
undertaken by new government on Mining Tax legislation.
• Most
M tax iincentives
i
have
h
been
b
reviewed.
i
d
• Establishment of Large Taxpayer Office – Jan 2009
• Establishment of the specialized mining tax unit
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Mining Tax Unit
• 2006 IMF study to modernise tax administration
• Proposed reforms resulted in merger of VAT & Direct Taxes
Divisions into Domestic Taxes Division (LTO,
(LTO SMTO & D & M
Directorates)
• Mining Tax Unit created in July 2008 under LTO
• Unit deals with companies involved in Mining, Mining Services
((large
g enterprises),
p
), Mineral Tradingg ((both small & Large),
g ),
Prospecting and Explorations
• The Mining Tax Unit falls under Domestic Taxes in the Large
Taxpayer Office
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Regulatory
g
y Frame Work
• There are Transfer Pricing Legislation and provisions for Anti
Avoidance in the Income Tax Act
– Zambia has TP legislation based on the arm’s length principle
• Legislation provides for Tax Information Exchange Agreements
(TIEA) and Mutual Assistance in Tax Matters
– DTA’s
DTA s are available,
available with 22 already in force (with one just coming into
force in April 2013) while 5 are ratified but not yet signed to be in force
– TIEA’s negotiated
g
but not ratified with about two countries
– Agreement in Mutual Assistance in Tax Matters, AMATM
– Multilateral under ATAF and SADC,
SADC not yet ratified
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Regulatory Frame Work for
C i i l Offences
Criminal
Off
• Liable on conviction to a fine not exceeding 10,000
10 000 penalty units
or to imprisonment for a term not exceeding 12 months or to
both for –
– Failure to comply with any of the provisions of the Act or of any
regulations, or failure to comply with any requirements of the
Commissioner General under the Act
– Others are; failure to furnish a full and true return
– Failure to furnish return or documents within required time without
just cause
– Failure to keep and produce for examination records, books,
accounts, or documents that he is required to keep,
– Failure to supply
pp y or furnish
f
anyy information
f
lawfully
f y required
q
from
him.
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Regulatory Frame Work for
C i i l Offences
Criminal
Off
Cont’d
C t’d
• A fine not exceeding 30000 penalty units or to imprisonment for
a term not exceeding 3 years or to both to any person who
wilfully with intent evades or for assisting another person to
evade tax by –
– Omitting any income from a return ;
– Making any false statement or entry in any return;
– Giving
Gi i any false
f l answer, whether
h th verbally
b ll or in
i writing,
iti to
t any question
ti
or request for information asked or made;
– Preparing or maintaining or authorising the preparation or maintenance of
any false books of account or other records including the falsifying or
authorising the falsification of any books of account or records;
– Making use of any fraud, art or contrivance whatsoever including
u o s g use o
of any
y suc
such fraud,
ud, art oor co
contrivance;
v ce;
authorising
– Making any fraudulent claim for the refund of any tax
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Regulatory Frame Work for
C i i l Offences
Criminal
Off
Cont’d
C t’d
• Can the Corporate Veil be Pierced?
– s.99(2) ITA Cap 323 of the Laws of Zambia –
• “Whenever in any proceedings under this section it is proved that any
false statement or entry is made in any return furnished under this Act
by or on behalf of any person or partnership or in any books of account
or other records maintained by or on behalf of any person or
partnership, that person or the partners shall be presumed, until the
contrary is proved,
d to hhave made
d that
h false
f l statement or entry withh
intent to evade tax”
– s.103 ITA provides • Where
Wh any offence
ff
iis committed
i d by
b a body
b d corporate, every person
who, at the time of the commission of the offence was a Director,
General Manager, Secretary or other similar officer of such body
corporate or who was acting or purporting to act in any such capacity
capacity,
shall also be guilty of that offence, unless he proves that the offence
was committed without his knowledge, and that he exercised all such
diligence to prevent the commission of the offence
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Taxes Administered
• The major taxes administered under the Domestic Taxes
Division are;
• Corporate Income Tax (Variable Profit Tax &
Windfall Tax)
• Value Added Tax
• Property Transfer Tax ( on Mining Right Transfer)
• Mineral Royalty
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Corporation Income Tax
• Mining Expenditure restricted - (Ring
(Ring–Fenced)
Fenced) to respective mines – Where separate and distinct mining operations are carried on by a
mining company in mines which are not contiguous
– Exception when mine qualifies to be an “existing mine” (even
when mining operations are separate, distinct and not contiguous)
• Interest Restriction (Thin capitalisation rule) –
– Restriction exist on the amount of interest that can be deducted in
computing the gains and profits from mining income.
income Interest on
Debt in excess of Debt/Equity ratio of 3:1 disallowed in the tax
computation
• Tax Losses carried forward of losses (Prospecting expenditure
deemed as loss and carried forward for 5 years)
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Mineral Royalty Computation
•
•
•
•
Basedd on Quantities
B
Q
i i off sold
ld minerals
i
l
Gross value or Norm value
Norm value
l for
f base
b
& precious
i
metals
l
Gross value for Industrial minerals, Energy minerals &
G
Gemstones
t
• Norm value ( Av. Monthly LME & Metal Bulletin cash prices)
• Gross
G
value
l (Realizable
(R li bl price
i for
f sale
l FOB att the
th point
i t off exportt
or point of delivery within Zambia)
• Average monthly exchange rates from Central Bank
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Challenges Facing Mining
Taxation
• Inadequate capacity to monitor production and quality of minerals
produced (Threat to Mineral Royalty)
• Valuation of minerals that are not internationallyy traded such as
gemstones. Possible underunder-declaration of mineral content in mineral
ores
• Transfer
T
f Pricing
P i i – setting
tti prices,
i
conditions
diti
andd terms
t
on transactions
t
ti
with related parties on cross border transactions in such a way that
profits arise in a country determined by the multinational companies
determines
• Hedging Transactions – Structuring complex commodity hedging
transactions in such way that losses are reported in a country
determined by the multinational enterprises
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Challenges Cont’d
Cont d
• Possible nonnon-disclosure of recoverable precious metals from
mineral ores and concentrates.
• Mining versus contract mining – An increase in contract mining
leading to companies trying to use the favourable tax regime
applicable to mining companies.
• Thin Capitalisation – Exploiting tax deductible interest flows.
• Intragroup services - Pricing of management fees and technical
services
i
among others
h at non arms length
l
h basis
b i andd also
l whether
h h
these services have in fact been provided.
provided.
• Transfer of used machinery at NBV to subsidiary with valuation
determined by Parent Company
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Rigorous Tax Avoidance
Schemes
• There are a lot a of tax avoidance activities that these mining
companies have engaged in.
• In their quest to maximize the profits from their operations some
have in many instances stretched their tax avoidance schemes to
the limit.
• The question is could these schemes be looked at as tax evasion
which is criminal?
• Is it tax avoidance or could it as well be tax evasion?
• Specific schemes identified will now be discussed
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Realisation Charges
• This involves a situation where a parent company charges the
subsidiary for transportation of the copper,
copper, insurance and sea
freight
g from the mine site to the final customer at a pprice which is
higher than the industry average.
average.
• E.g
E.g.. where the amount charged for transport, insurance, and sea
freight charge (known as realization charge) is USD330 for a
subsidiary but what is charged for an independent customer is
USD125.
USD125
• The question is why charge a sister company higher than an
independent customer?
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Interest On Advance Payments
• Situation where a parent company buys all the copper mined by a
subsidiary on credit with a “contract clause” that payment for the
copper will only be made to the subsidiary mine after the parent
company sells
ll the
h copper to the
h final
fi l customer.
• When the sale is done though, it is agreed that as a way of
improving the cash flow for the operations of the subsidiary the
parent company should advance money to the subsidiary before
the due date based on the commercial invoices.
• Based on the contract and as a practice adopted, the parent pays
the mine here in Zambia an advance within seven days of
receiving a commercial invoice and accompanying shipping
documents.
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Interest On Advance Payments
Cont’d
• For all these advance payments the parent company charges the
subsidiary interest from the time an advance is disbursed to the
time when the copper is sold to the final consumer.
• The issues are that
– No records in form of requests or application for advance
payments
t are available
il bl
– The Cash flow budgets for the mine indicate that adequate
resources are available to fund their operating expenses
– The said advance payments are not even taken into account
when preparing these cash flow forecasts
• So does the subsidiary need the advance payment or it is just
forced to contract?
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Copper and Cobalt Pricing
• This involves a subsidiary Copper Mine selling all its copper and
cobalt to its parent company.
• The sales pprice is ggenerated byy usingg an internal arrangement
g
taking into account hedging arrangements undertaken by the
parent company.
• Key
K employees
l
in
i the
th sales
l department
d
t
t off the
th subsidiary
b idi
suchh as
the Commercial Director are seconded by the parent company.
• The Commercial Director is key in formulating the pricing policy
of the subsidiary including the management of the hedging
arrangements undertaken by the parent company at the subsidiary.
• What dealings would the piercing of the corporate veil reveal?
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Copper and Cobalt Pricing
Cont’d
• Additionally while the Law under the Income Tax Act section
97A(13),(14) and (15) requires that any sale of base or precious
metals by a company to a connected person will be at the
reference
f
price,
i the
h company disregards
di
d the
h reference
f
price
i
repeatedly even after several adjustments are made.
• Should the tax authority continue adjusting the prices upwards to
the reference price and charge civil penalties or should the
repeated disregard be viewed as intent to disregard the law?
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Management Fees
• A subsidiary mine entered into a management agreement with its
parent and an investment Holding Co.
• In the agreement the mine appointed the parent as its manager to
perform on its behalf the management of the company in
accordance with its business plan subject to agreed terms and
conditions.
• Investment Holding Co. which owns about 10% of the Mine as
party agreed that the parent shall manage the business, prepare on
an annual basis a business plan which shall conform to the
approved program of mining operations.
operations
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Management Fees
Cont’d
• These activities are largely shareholder functions so while ZCCM
is paid 10% of the appropriated fees for just being a shareholder,
90% of the fees are taken by the parent company.
• Since these are called management fees they are claimed against
the profits before any taxes are paid. Were the fees to be treated as
dividends they would not have been deducted from profits.
profits
• Is the misclassification of appropriations to shareholders as
g
fees as a wayy of accessingg tax relief intended to
management
circumvent the law?
• Does the involvement of ZCCM IH change the outlook?
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Management Fees
Cont’d
• The second scenario under management fees involves charging
the fees by a parent company for services rendered by employees
of the Mine who are drawing a salary for the same services.
• The parent company only helps in recruiting and seconding the
same recruited experts to the subsidiary mine.
• The
Th charge
h
iis in
i certain
t i instances
i t
above
b
125% off the
th applicable
li bl
salary rate.
• Generally no services are rendered by the employees over and
above that which is in the employment contracts.
• Are the fees an intentional over claim of the deductions leading to
an under declaration of the taxable income?
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Interest on
Intercompany Loans
• A parent company models the financing of its Zambian subsidiary
through the use of debt finance as opposed to equity contribution.
– On take over from previous owners the Copper mine and its parent
entered into an agreement back dated to March 2009 where it was
agreed that its parent would provide ongoing financial support by way
off loans,
l
purchase
h
off certain
i assets andd payment off certain
i expenses
on behalf of the subsidiary.
– The agreement empowered the parent to charge interest at the average
rate of the borrowings of lenders.
– It was also agreed that the parent had the discretion to change the
interest rate taking into consideration financial performance and
solvency of subsidiary as well as adverse market conditions.
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Interest on
Intercompany Loans Cont’d
C
• However the audit reveals that the CEO of the local mine is one of
the signatories of the parent company and also sits on the board of
directors of the pparent company.
p y
• The parent company is registered in Switzerland a country which
has double taxation agreement with Zambia, therefore the Interest is
received gross without withholding tax (WHT) because the
resultant tax rate is at 0%.
0%.
• Are the intercompany loan dealings at arm’s length? Who is really
transacting?
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Purchase of Fixed Assets from
Related Companies
C
• Since mining industry is highly mechanized,
mechanized the purchasing
function is centralized, meaning that all purchase of equipment and
machineryy is done byy the pparent company
p y at head office situated in
a foreign country.
• The parent procures all machinery and equipment for all their
subsidiaries throughout Africa though planning and budgeting of all
machineries to be utilized is done by the subsidiaries. The parent
company also
l buys
b
underutilized
d tili d machinery
hi
from
f
the
th subsidiaries
b idi i
which they later sale to other subsidiaries.
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Purchase of Fixed Assets from
Related Companies
C
C
Cont’d
• The subsidiary also buys second hand equipment from its parent
company through a loan financing system.
system.
• The parent company buys equipment from other subsidiaries which
they later sell to the copper mine.
• The machineries are sold at their net book values. The NBV is
determined by the parent company by reference to the remaining
useful life of the machinery at the time of purchase from their
subsidiary companies.
• The remaining useful life and the initial cost of equipment are only
k
known
b the
by
h P
Parent company.
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Purchase of Fixed Assets from
Related Companies
C
C
Cont’d
• What is the value of the Loan?
– The value of the loan is largely dependent on the value attached to the assets
loaned to the subsidiary. However the value is determined by the parent
p y
company.
• The resultant interest on loans advanced on the purchase of all
second hand eq
equipment
ipment is paid to the parent.
parent Interest calc
calculations
lations
are done by the parent.
• The interest ppaid byy the subsidiaryy is allowable under the Income
Tax Act as a business expense and no WHT is paid as the parent
company is resident in a country which has a double taxation
agreement
g
with Zambia. Is the value of the asset inflated?
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Incentives under Development
Agreements
• A mining company signed a development agreement with the
Government at takeover of the company which allowed the
company to defer the payment of VAT and Customs duties paid at
importation of machinery and equipment.
• No tax was paid on the purchase values of this equipment. Where
VAT is paid, the Company was allowed to claim back the VAT as
input tax in their tax return.
• Due
D tto th
the other
th incentives
i
ti
under
d the
th development
d l
t agreementt
signed with the Government the company procured high value
state of the art equipment knowing that no duties are payable on
values.
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Incentives under Development
Agreements Cont’d
• Furthermore huge capital allowances are claimed under the
Income Tax Act thereby reducing the tax payable.
• The company
p y has several mining
g pprojects
j
here in Zambia. Instead
of procuring new equipment for its new projects which do not
have development agreements, the company decides to transfer
these assets obtained duty free to these new projects.
• Is the procuring of incentives to the new projects a criminal
activity
ti it or just
j t a way off tax
t planning?
l i ?
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THANK YOU
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