For many resource-rich developing countries, mineral resources present an unparalleled economic opportunity to increase government revenue. Tax base erosion and profit shifting (BEPS) by multinational corporations and weak tax administration threaten this prospect.
Developing countries lose more than USD 200 billion a year due to tax avoidance, according to the International Monetary Fund. The loss is particularly significant when you consider that developing countries rely twice as much as developed countries on corporate income tax as a share of tax revenue.
Governments around the world are cracking down on these tax avoidance techniques. In the extractive industries, the Australian Tax Office recently recorded a victory against Chevron for avoiding its Australian tax obligations by paying huge amounts of interest expenses to an affiliate in the low-tax jurisdiction of Delaware. In Tanzania, the leadership is on a warpath against mining companies allegedly engaged in underpricing of mineral exports sold to foreign-related parties. In Uganda, the government succeeded in collecting USD 404 million in capital gains tax owed by Heritage Oil, which it had tried to avoid by restructuring its investment to take advantage of a double tax agreement.
Mining offers exceptional opportunities for corporations seeking to avoid taxes. In developing countries—which typically lack the capacity to tackle complex avoidance techniques—large-scale mining operations are carried out mainly by foreign-owned multinational companies. These corporations create subsidiaries that sell most of their mineral production to affiliate marketing centres or purchasing companies. The subsidiary may also receive financing, administrative services, equipment and machinery from their parent company. These related-party transactions present numerous opportunities for tax avoidance by underpricing mineral sales and over-invoicing goods and services.
As successive tax scandals show (Panama Papers, Lux Leaks, Swiss Leaks, Bahama Leaks to name a few), the global structures of multinational companies, which enable them to avoid taxes, are very challenging to disentangle. Consequently, developing countries need concrete proposals for legal and institutional reforms that they can enforce in order to limit BEPS in the mining sector. The finite nature of resource deposits makes these proposals particularly urgent.
That is why the IGF Secretariat is collaborating with the Organisation for Economic Co-operation and Development (OECD) to deliver the policy and administrative tools that developing country governments need to confront BEPS in mining. The program will build on the OECD BEPS project, which has sought to address significant gaps in existing national and international tax rules to tackle multinational tax avoidance. It will also address issues that are not covered in the OECD BEPS initiative but are major risks to revenue in the mining sector, such as such tax incentives, abusive hedging arrangements and metals streaming.
The IGF’s upcoming Annual General Meeting includes a day-long Technical Workshop on Tax Base Erosion and Profit Shifting (October 20, 2017 in Geneva), which will discuss these challenges:
- Transfer pricing
- Mineral product pricing
- Excessive interest deductions (use of debt)
- Tax incentives
- Investment treaties and stability agreements.
The workshop will also host the launch of a Toolkit on Transfer Pricing Risk Assessment for the African Mining Industry. The toolkit was developed by the African Tax Administration Forum (ATAF), together with Deutsche Gesellschaft für Internationale Zusammenarbeit GmbH (GIZ), on behalf of the German Federal Ministry for Economic Cooperation and Development (BMZ). The toolkit is the first of its kind addressing mining and aims to help tax authorities determine whether particular high-risk related-party transactions should be selected for transfer pricing audit. The toolkit will be available for download on the IGF website soon.
As resource-rich developing countries struggle to finance a long list of Sustainable Development Goals amid weak commodity prices, it is important that existing mining projects contribute their full share to government budgets. A critical area of reform is to counter BEPS. That is why the IGF is working to provide clear, objectively verifiable and easy-to-implement tax rules, as well as administrative tools to help government institutions protect their mining tax base against BEPS.
By Alexandra Readhead, Technical Advisor, Tax Base Erosion and Profit Shifting, IGF