Malawi moves to safeguard mineral sector revenue
…World Bank, EU finance review of fiscal regime
…EITI process on course to monitor revenue management
By Chiku Jere
Malawi has registered tremendous strides in its quest to safeguard mineral revenue by reviewing the mining fiscal regime to achieve a balance between maximizing the national benefit and attracting investment into the sector.
The country has also made significant progress in joining the Extractive Industry Transparency Initiative (EITI), an international Standard that promotes prudent management of revenues from natural resources.
These developments are the fruits of the Revenue Policy Division of the Ministry of Finance, Economic Planning and Development which has been working with the Malawi Revenue Authority (MRA), with financial support from World Bank /European Union co-funded Mining Growth and Governance support Project (MGGSP).
The move is part of the process of addressing the fears by different stakeholders about loss of revenue in mineral sector as well as encouraging investors into the sector who had raised concerns about the unfavourable and overly distortional fiscal regime,
said Ministry of Finance’s Extractive Industry and Energy Economist, Fredrick Chanza.
MGGSP, whose development objective is to improve the efficiency, transparency and sustainability of mining sector management, financed the review of the mining fiscal regime which led to the development a new fiscal regime, which was tabled and passed by Parliament during the 2016/2017 budget sitting in June 2016.
A consultant, Adam Smith International (ASI) was engaged to assist in the review process, which included the drafting of mining related fiscal provisions for inclusion in the Taxation Act, the development of royalty and tax audit manual, development of revenue forecasting models and training of user officers in revenue forecasting modelling.
The scope of the review conducted between 2014 and 2015, was to assess the headline rates of all fiscal instruments (such as the Royalty rates, Corporate Tax rates and Resource Rent Tax rates), strengthen the integrity measures of the fiscal regime as well as address perceived investment impediments, amongst others.
In his presentation made at the 2016 Alternative Mining Indaba at Bingu International Convention Centre (BICC) in Lilongwe, Chanza, said as a result of the process, Malawi now has a coherent and standardized fiscal regime that is regionally competitive.
We wanted to come up with a tax regime that will set the country in a position where it will achieve a balance between maximizing the national benefit, whilst at the same time attracting considerable investment into the mining sector, taking into account the country’s geology and other industry factors.
This search for balance is believed to have addressed the fears raised by different stakeholders.
The review process saw the introduction of legal provisions that transferred the administration for mineral royalty from Department of Mines (DoM) to the Taxation Act implemented by the Malawi Revenue Authority (MRA).
Government’s belief is that the shift in royalty provisions and administration to the Taxation Act will not only help simplify the system but also utilize MRA’s robust experience in tax assessment, audits and compliance enforcement to improve mineral royalty revenues collection, which has been a challenge for the DoM due to inadequate resources for enforcement measures.
Through the review, improvements were also made on the royalty calculation formula from the previously gross sales less transport and handling related costs, to a ‘commercial value’ basis, despite maintaining the royalty rates at 5 % and 10% for rough gemstones, and 30% corporate tax.
A commercial value of a mineral is equal to the reference price for that mineral or other similar minerals obtainable in a competitive market times the mineral content.
This means that where there is no reference price for a mineral in the state at which it is disposed of, its commercial value will be arrived at using ‘netback value’ and ‘cost plus value’ methods.
This approach is intended to maximize the mineral value, which forms the base for royalty rate application, and in turn, the royalty revenues collected by the government,
Government has also improved the Resource Rent Tax structure by introducing a calculation method of the resource rent based on after-tax cash flows.
Resource Rent is an economic term defined as the difference between the value of a mineral and the cost of extracting it from the ground and bringing it to the market plus a reasonable return to reward the risk taking behaviour of an investor.
Further, the revised law now allows mineral exploration companies to register for VAT as an investment incentive, since they will be able to claim VAT before they begin to make taxable supplies as the VAT law demands. Previously, exploration companies were incurring input VAT, but because they were not yet making a taxable supply, they could not claim back their input VAT.
The implication of this is that the VAT ends up increasing the investment costs, and in turn, it makes the country uncompetitive in terms of attracting investors,
In addition, the new regime has ushered in improvements to the depreciation package in order to address a challenge that arose out of having an immediate expensing provision and a loss carry forward limit of six years.
In previous scenario, when a mining company invests capital during the construction phase, which requires huge investment amounts, it was allowed to deduct the whole capital expenditure from its taxable income.
This drove the company into losses due to huge capital expenditure and low income due to low production volumes in the early years of mining, a scenario which allowed the company to carry forward the losses to offset against future taxable income.
With the nature of the mining industry, it is unlikely that by six years, the mining company can be able to recover all its capital costs, which means that it could have lost the remaining unrecovered losses if the previous tax laws were concerned. Thus, the previous depreciation package used to impose an impediment on investment because there was a high chance that mining companies will lose out their legitimate costs.
The revised depreciation package addresses this challenge by treating capital expenditure in different categories and subjecting them to different depreciation provisions that both allow the investor to recover their costs eventually and relatively quickly, whilst at the same time hedging against revenue losses.
To ensure that the integrity of the system is strengthened, the revised tax regime allows mining projects to be ring fenced – meaning that each mining project will be treated separately as a taxable entity regardless of whether or not the owner has other mining projects.
According to Chanza, this will prevent the transfer of losses from one project to another that is profitable, which in the end will reduce taxable income.
There is now a thin capitalization rule (a debt-equity ratio) aimed at limiting the amount of debt a mining company may hold for tax purposes,
The new law has also made improvements of transfer pricing provision, sealing the loopholes that existed. This measure is across all sectors and not just the mining industry. Improving legislation in this regard will help to reduce the illicit financial flows that reduce the potential revenue the Government could collect.
MGGSP also aided in designing policies for the Management of Mineral Revenues and Allocations through consultants, Dr. Gary Mc Mahon and Sridar Kannan.
In as far as EITI is concerned, MGGSP has managed to support the government achieve its goal of enhancing proper management and generation of mineral revenue through support to the Malawi Extractive Industry Transparency Initiative (MWEITI).
Malawi is now EITI Member following the formation of a Multi Stakeholder Group (MSG) and the MWEITI Secretariat which successfully developed and produced Malawi’s maiden EITI annual report in April 2017 where a list of revenues and income from mining companies covering the period between July 1, 2014 and June 30, 2015 were recorded.
President Peter Mutharika made a public declaration of intent to join the initiative during his first State of the Nation Address as a Head of State of the Republic of Malawi in 2014 and Malawi was eventually admitted as EITI candidate country in October 2015 following the establishment of a MSG, a committee entrusted to manage the EITI process, comprising government officials, civil society members and representatives from the extractives sector.
The aim of EITI report which was officially launched on July 25, 2017 at Bingu International Convention Centre (BICC) in Lilongwe is to strengthen the understanding of the level of contributions of the extractive sector to the economic and social development of Malawi in order to improve transparency and good governance in all components of the extractive industry value chain.
In his remarks at the event Minister of Natural Resources, Energy and Mining, Aggrey Masi – MP, commended President Mutharika for demonstrating ‘great’ political commitment towards transparency and accountability by spearheading Malawi’s participation in the initiative.
The minister said Government’s adherence to EITI, complemented with the enactment of the Access to Information Legislation, is a clear demonstration that Malawi is committed to ensuring transparency and accountability in the extractive industry.
He also applauded those entrusted to manage the MWEITI process, MSG, for developing an effective work plan that led to milestone achievements, among them, the successful lodging of an application for EITI candidature status for Malawi and setting up of a functional Secretariat.
Further he praised the grouping for the establishment of a clear roadmap for facilitating beneficial ownership disclosure, a very important facet of the EITI process crafted to reveal real beneficiaries of natural resources proceeds from a particular resource-rich country.
This new principle introduced into the EITI Standard in 2016 is aimed at curbing the issue of loss of extractive industries government revenue through transfer pricing, money laundering and other financial crimes, such as financing terrorist activities, which may jeopardize the security of a country, let alone the world.
Masi said another milestone achieved through the MWEITI process is the promulgation of the Open Data Policy which obliges information holders in the extractive Industry to make information accessible.
Equally excited with Malawi’s progress on EITI are other stakeholders in the extractive industry; among them members of civil society and private sector representatives.
President of Malawi Chamber of Mines and Energy Eng. Dean Lungu commended Government for providing political will, leadership and financial resources through various donors for the success of EITI implementation.
He said the Chamber fully embraces the initiative, as one of the Chamber’s objectives is to ensure good governance in the sector.
Chairperson for Natural Resources Justice Networ (NRJN) Board Chair Kossam Munthali, who also sits on the MSG, described both EITI report and implementation launch as historic moment to democratisation process of the country.
He said by successfully implementing the EITI process and submitting its first-ever report, Malawi has taken a giant step towards breaking a vicious cycle of a suspicious, mistrust, cat and rat relationship that has existed amongst stakeholders and citizenry at large regarding extraction and utilisation of natural resources.
We believe adherence to EITI principles will help rid the secrecy the extractive sector has been synonymous with, which has bred corruption and mismanagement in the Extractives Industries,
the activist said.
Munthali also said the EITI reports will provide recommendations for further Policy Reforms.
He explained that as a country moving forward, Malawi is on the right track because through such reports, communities will have access to information that will empower them to question how revenues from the minerals extracted in their respective areas are being utilised.
EITI is a global coalition of governments, companies and civil society working together to improve transparency and accountability in the management of revenues from natural resources based on the belief that prudent use of natural resources contributes to economic growth, sustainable development and reduction of poverty in resource-rich countries.
Take a look at Malawi’s fiscal regime, here: Taxation Amendment Act (mining fiscal regime), (2016)
This piece was initially published in Malawi’s Mining & Trade Review Issue Number 56 (December 2017).