Ghanas Fiscal Regime For Mining

Published Date: 02 Nov 2017

STATEMENT OF ORIGINALITY

STUDENT I.D. NUMBER: 120000983

PROGRAMME: MSc Energy Studies with specialisation in oil and gas economics

MODULE CODE: CP52009

MODULE NAME: Mineral and Petroleum Taxation

TITLE OF THE PAPER: will it be in Ghana’s interest to modify the mining fiscal tax regime?

ABSTRACT: For several years now, there has been a debate regarding the possibility of modifying Ghana’s fiscal regime in order to increase state revenues from the mining sector. In its 2012 budget, the government introduced a 10% Windfall Tax, and increased the corporate tax rate for mining firms from 25% to 35%. This paper seeks to determine whether or not it would be in the interest of the country to reform the fiscal regime in a bit to increase the tax revenues from mining activities. Upon analysis of the background of Ghana’s mining sector and its fiscal regime in addition to drawing on recent tax policy literature on taxation of the mining industry, this paper suggests that the proposed tax increments have really been long overdue and the re-introduction of the windfall tax will be in the state’s interest.

WORD COUNT: 3,308

LECTURER’S NAME: Ariel Bergmann

CONTRACT OF PLAGIARISM:

I, the undersigned, have read the code of practice regarding plagiarism contained in the students’ introductory handbook. I realise that this code governs the way in which the centre for Energy, Petroleum and Mineral Law and Policy regards and treats the issue of plagiarism. I have understood the code and in particular I am aware of the consequences which may follow if I breach that code. I also authorise the centre to scan the e-copy of my research paper through the plagiarism detection software to detect plagiarism,

SIGNED: …………………………

DATE: 07/05/2013

Table of Contents

1. Introduction.............................................................................................................................1

2. Ghana’s Mining Sector Background.......................................................................................3

2.1 The sector just before the reforms….........................................................................3

2.2 Mining sector Reform................................................................................................4

2.3 Benefits from Mining.................................................................................................5

3. Ghana’s fiscal regime for mining.............................................................................................7

3.1 Royalty.......................................................................................................................7

3.2 Income Tax.................................................................................................................7

3.3 Stabilization agreements.............................................................................................8

3.4 Equity participation for government...........................................................................8

3.5 0ther financial provisions............................................................................................8

4. Analysis of current tax revenue and government’s proposed changes to the tax regime….....9

4.1 Why tax revenue from mining is low.........................................................................9

4.2 proposed changes to the tax regime…………………………………………………10

4.2.1 10% Windfall Tax........................................................................................10

4.2.2 Increase in corporate tax rate.......................................................................11

5. Conclusion ...............................................................................................................................13

6. References

Abbreviations

ERP Economic Recovery Programme

FDI Foreign Direct Investment

GDP Gross Domestic Product

IMF International Monetary Fund

LDC Less Developed Countries

PNDC Provisional National Defence Council

SAP Structural Adjustment Programme

TABLES

1. Statistics of gold mining before the reform………..…………………………………4

2. Statistics of gold mining after the reform……………….……………………………5

FIGURES

1 Mining sector contribution to government revenue…………………..……………… 6

1. INTRODUCTION

Ghana is endowed with mineral resources particularly gold that is why it was once called the ‘Gold Coast’. Ghana is Africa’s second highest producer of gold and also produces a significant amount of manganese, aluminum, bauxite and diamonds (Coakley, 1999).

According to the World Bank (1992), Ghana’s mining industry was very productive before the country gained independence in 1957. Ghana accounted for about 36% of the world’ gold produced between 1493 and 1600. The post-independence period till 1987 which was marked by state ownership of all natural resources had a devastating effect on the mining sector due to investor uncertainty about their investment under Ghanaian independence.

The situation started to change when Ghana enacted the mining-specific legislation, PNDC Law 153 in 1986. The effects of these reforms in increasing investment in the country’s mining sector is clear since output has increased significantly since 1987 (Akabzaa and Darimani, 2001). However, the increase in mining output does not necessarily mean better outcomes for Ghana. There have been discussions and unease in regards to the benefits the country is reaping, considering the very generous incentives given to the private mining companies under the reforms. Especially when the additional profits tax in was removed in 2006 (Rutherford and Ofori-Mensah, 2011)

The political pressures on the government to increase revenue from mining have led to the proposal of an increase in the corporate tax rate for mining companies from 25% to 35% and a windfall tax of 10% (Ministry of Finance and Economic Planning, 2012).

Will it be in Ghana’s interest to reform the fiscal regime in order to increase the tax revenues from mining activities? The answer to this question is important because a change in the rules of the sector would likely have implications for the level of investments in the sector. In order to understand the issue currently under discussion in Ghana and its possible effects on the mining sector, it is first necessary to take a look at the background of Ghana’s mining sector. Bearing this in mind, the discussion will then turn to the mining fiscal regime of Ghana. Finally, this work will analyse the proposed increase in the corporate tax rate and the 10% windfall. The concluding section of this paper will then address the question as to whether or not it would be a wise decision to make.

2. GHANA’S MINING SECTOR BACKGROUND

Ghana has sizable deposits of several minerals, but gold accounts for over 94% of earnings from its mining sector. The mining sector contributes about 40% of the country’ foreign exchange and generates about 5.7% of GDP (Aryee, 2000). Gold mining in Ghana consists of eight large mines owned by five international producers, a number of smaller producers and registered semi-formal, small- scale producers. There are also unregistered and illegal small-scale miners known locally as "Galamsey operators", whose activities employ about 200,000 people (Hilson, 2004).

In 1986, the sector underwent significant reforms as part of the country’s ERP launched in 1983 (Akabzaa and Darimani, 2001). This section will look at the dynamics and performance of mining in Ghana till date.

2.1 The Sector just Before the Reforms

No new mine had been opened in Ghana for four decades up to the 1980s after the country’s independence. This was mainly as a result of Government renegotiated all exiting arrangements making the country unattractive to investors (Addy, 1999). The state owned mines were subject to several government interventions for reasons not related to economic efficiency. It didn’t take much time for the Lack of investments and maintenance to leave these state mines uncompetitive (Akabzaa and Darimani, 2001) and this lead to steady decline in production levels as shown in table 1 below.

Table 1: Statistics of gold mining before the reform

Fiscal year

Gold output (ounces)

1975

583,103

1976

515,654

1977

531,084

1978

465,651

1979

387,730

1980

439,669

1981

349,871

1982

335,724

1983

301,707

1984

282,641

1985

283,819

Source: mineral commission

The mining industry remained uncompetitive till 1986 when the government decided to privatize the state owned mines through the launch of the prescribed IMF’ SAP and the ERP as a remedy to ailing LDC’s (Akabzaa and Darimani, 2001).

2.2 Mining Sector Reform

The World Bank recommendations to Ghana for restructuring its mining sector under the SAP included the need to rehabilitate the state owned mines and to gradually sell them to private investors in order to increase production (Akabzaa and Darimani, 2001). An important component of the SAP was the promulgation of the Mining and Mineral Law of 1986, PNDC Law 153. The Ghana Minerals Commission was also established to regulate the mining sector (Twerefou, Ernest and, Osei, 2007).

A major feature of the new mining Law was the scaling down of corporate income tax and the provision of allowances which reduced the tax burden of the sector operators. Corporate income tax, which was about 50-55% before the reform was reduced to 45% in 1986 and reduced again to 35% in 1994 and the 6% royalty rate was reduced to 3%. The initial capital allowance was increased from 20% in the first production year and 15% for subsequent annual allowances to 75% in the first year and 50% for subsequent annual allowances (Songsore, Yankson and Tsikata, 1994).

The introduction of the mining law resulted in was a massive direct participation in the sector by private investors which were mainly foreign and this resulted in an increase in the output of gold. Records indicate that gold production outputs increased from 283,819 ounces in 1985 progressively to 2,608,102 ounces in 1999 as seen in table 2 below (Ghana Mineral Commission).

Table 2: Statistics of gold mining after the reform

Fiscal year

Gold output (ounces)

1986

287,124

1987

323,926

1988

373,937

1989

429,476

1990

541,147

1991

847,559

1992

1,004,625

1993

1,261,890

1994

1,438,483

1995

1,715,867

1996

1,583,830

1997

1,752,452

1998

2,371,108

1999

2,608,102

2000

2,457,152

2001

2,381,345

2002

2,235,535

Source: Minerals Commission

2.3 Benefits from Mining

The mining sector’s share of revenue is about 7% of GDP. Industrial mining employs around 20,000 people in Ghana, and an additional 500,000 people work in small-scale mines (World Bank 2008). The mining sector also supports companies such as equipment leasing and sales agencies, security and catering agencies to also contribute to the employment in the country (Akabzaa and Darimani, 2001).

In 2008, chamber members spent in excess of US$12 million on voluntary social responsibility projects (Eijgendaal 2009). At the local level, mining companies have launched corporate social responsibility initiatives to enhance capacity for sustainable livelihoods. The mining sector has been the highest recipient of foreign investment capital. The sector received about US$3 billion of foreign direct investment from the period of the reform till 1997, which is more than 60% of all such investments in the country (Akabzaa and Darimani, 2001). An amount of US$290 million representing about 23% of total mining revenue was contributed to other sectors of the economy between 1996 and 1998. US$79 million was also paid to government as total corporate contributions (Aryee, 2000).

These benefits are limited when compared with citizens expectations about the benefits that the country should get from the mining sector (Ayee, Soreide, Shukla and Minh 2011). The United Nations Conference on Trade and Development 2005 report, "Rethinking the Role of FDI", noted that Ghana received only about 5% the total value of exports from the mining sector as is evident in figure 1 below.

Fig 1: mining sector contribution to government revenue

Source: Revenue data obtained from the Minerals Commission (2009) and export data computed from the Bank of Ghana Statistical Bulletin Series

3. GHANA’S FISCAL REGIME FOR MINING

This section takes a look at the mineral tax regimes of Ghana after the 1986 reform. The fiscal regime for the sector was influenced to a great extent by what other resource-rich countries in Africa was doing, which led Ghana into a sought of tax competition with these other countries. Two main instruments are employed for revenue collection from the mining sector: royalty and income tax (Ayee et al., 2011).

3.1 Royalty

According to Ayee et al. (2011), royalty is meant to compensate communities affected by the mining operations. The Minerals and Mining Act (2006), made provision for the royalty scale to be amended to between 3% and 6% of total revenues with the exact amount to be determined by the profitability. If the operating ratio was less than 30%, then the rate was 3%. The royalties rarely went above the minimum percentage. The amendment of the Mining Act, the Minerals and Mining (Amendment) Act, 2010 (Act 794) specified a flat rate of 5% royalty across board (Ayee et al., 2011). The change aimed to help the government realize its fair share of the resource rent giving the fact that the royalty rarely went above the minimum 3%. At the same time, a moderate rate of 5% reduces the inefficiency effects of a royalty regime, including the possibility of high-grading (Ayee et al., 2011).

3.2 Income Tax

In Ghana, the mining sector is subject to a corporate income tax rate of 25 % (PWC, 2012). The Additional Profits Tax Law, 1985 (PNDCL 122) which applied an additional 25% tax on profits over a certain level (windfall profits) was removed by the Minerals and Mining Act, 2006 (Act 703) (Rutherford and Ofori-Mensah, 2011). However, some special concessions are applied to when calculating the taxable income and they include:

Accelerated depreciation allowed at the rate of 75 percent of assets in the first year then 50% of the balance of the remaining cost in the subsequent years.

An uplift of 5% of the cost base is added to the value of assets in the second year before depreciation allowance is granted in that year. (Ayee et al., 2011).

3.3 Stabilization Agreements

The lease contracts also include a 15-year stabilization clause protecting the companies from an increase in taxes and royalty payments (Ayee et al., 2011).

3.4 Equity Participation by the Government

The Minerals and Mining Act also grants the government 10% free equity in each mine. This gives the government a free carried interest in the rights of the mining operations without making any monetary contribution. The government also has the right to appoint a representatives to the company’s board of directors (Ayee et al., 2011).

3.5 Other Financial Provisions

As noted by Ayee et al. (2011), some other financial provisions in the fiscal regime include:

Workers do not pay income tax on furnished accommodation at the mine sites.

Remittances sent home by expatriate workers are free from taxes normally imposed on money transferred abroad.

Overtime payment to workers is taxed at concessionary rates.

Exemption from payment of customs duty in respect of machinery and equipment imported for the mining operations. (Campbell, 2003)

4. ANALYSIS OF CURRENT TAX REVENUE AND GOVERNMENT’S PROPOSED CHANGES TO THE TAX REGIME

According to Akpalu and Parks (2007) Ghana has experienced disappointing results in translating its mineral wealth into economic development. The Minerals and Mining Law 1986 lead to the removal of a lot of levies and taxes while reducing the rates of other taxes. The government’s objective was to make the sector competitive in order to attractive to investors. The sector has therefore been successful in attracting investors. About US$4 billion of private capital was injected into the mining sector between 1983 and 1998 (Aryee, 2000).

Notwithstanding the huge investments made, the sector’ contribution to GDP in 2002 was a only 5.25%. This shows that the sector does not contribute as much to GDP when compared to other sectors of the economy, yet it receives much attention unrelated to its GDP status. Tax revenues from mining activities have not been as high as expected (Akpalu and Parks, 2007). This chapter will identify the reasons for the low tax revenue from mining. In addition, it will analyse the last proposals by the Ghana government in a bid to increase the State earnings from private mining activities.

4.1. Why tax revenue from mining is low

The Unimpressive and falling corporate tax amounts suggests that either earnings from mining activities are poor or there are huge deductible allowances before arriving at taxable income as is evident in the numerous capital allowances conferred by Ghana’ mining legislation. By the year 2000, the price of most minerals (especially that of gold) had declined to the extent that they reached their lowest in about 20 years (Aryee 2000). Metal market prices are cyclical, so if the period of depreciation and amortization coincide with the period of low prices, companies carry forward their losses. That has been the case of some of the mines that have faced periods of low prices in some years, 1998 and part of 2003 (Tadros and Svenson, 2010).

The Ghana Mineral Commission indicates that the removal of some tax revenue sources such as import duties on mining inputs – could arguably be a laudable incentive to attract investors, but it has the adverse effect of contributing significantly in reducing the government tax revenue. Duties on the imports of plants, machinery and equipment for mining operations would have also accrued revenue to the state yet they have been removed.

The removal of the additional profits tax in 2006 has also contributed significantly in depriving the government access to improved tax revenue. The purpose of the tax was to ensure that Ghana benefits from any windfall profits obtained from higher mineral prices. Its removal raises an issue as to whether Ghana has the right fiscal regime to ensure that it derives full benefits from recent and future increases in commodity prices.

Some foreign investors also deliberately sell off their investment at some stage and new foreign investors taking over ‘from scratch’. They sometimes do this in a bit to avoid tax (Akabzaa and Darimani, 2001).

4.2 Proposed changes to the tax regime

IMF's Ghana country assessment team led by Christina Daseking, which visited Ghana in 2011, advised the government to raise more revenue from mining as was done in other countries. The government of Ghana has since driven a political and economic discussion about the necessity to reform the ruling tax regime in order to increase the revenue from the mines (Rutherford and Ofori-Mensah, 2011). The proposals to do so are an increase in the corporate tax rate for mining companies from 25 to 35 per cent and a windfall tax of 10 per cent to be collected from all mining companies. (Ministry of Finance and Economic Planning, 2012)

4.2.1 10% Windfall Tax

According to Tadros and Svenson (2010), when mineral prices are high and mining firms are making a lot of profits, governments are tempted to try to capture a larger share of the profits by raising taxes, imposing royalties, or both. This involves tying a windfall tax to the price of the mineral.

Ghana’s budget statement for 2012 proposed the application of a 10% windfall tax likely to be applied after the supporting law is approved by Parliament (Ministry of Finance and Economic Planning, 2012). This is designed to capture additional revenue for the country during commodity price booms. The introduction of the windfall tax means the government is becoming wiser (Tadros and Svenson, 2010).

Since the tax does not change the level of productivity of the workers, there should be no economic reason for their wages to fall as a result of the tax. Much of the effective of the windfall tax should fall on the shareholders rather than on employees or customers. (Chennells, 1997). The risk of windfall tax is the fact that capital and production costs often rise with the price of the mineral, negating part or the entire windfall for the investor. As the price of the mineral increases, the resulting growth of the sector often leads to increasing equipment, engineering, and logistics costs (Tadros and Svenson, 2010).

Rutherford and Ofori-Mensah (2011) argues that the removal of the additional profits tax in 2006 from the statute book is not in the interest of the country. And for that matter serious consideration should be given to reintroducing such a tax into the country’s mining legislation. The introduction of the mining windfall tax proved beneficial for public coffers in Peru by escalating total mining related revenue from 5% to almost 20% of total revenues. While Corporate income taxes for mining companies also climbed from 0.3% of GDP in 2003 to 1.3% of GDP in 2010 (Adriana and Alexandra, 2012).

4.2.2 Increase in corporate tax rate

Setting up an income based tax involves setting the tax rate in addition to setting the rules for determining the taxable income base that will be subject to the rate (Otto, 2001). In addition to other factors, the tax paid will generally depend on the profitability of the investment. A high tax rate does not always imply high tax payments, since payments will also depend on the tax base. Yet, the tax rate is very important in its own right, since it is the marginal rate of tax applied to the additional income, given a level of allowances (Devereux, 2002). The government of Ghana is proposing an increase in the corporate tax rate for mining firms from 25% to 35% (Ministry of Finance and Economic Planning, 2012).

Clearly the tax rate is important in determining incentives for investors when making decisions on which type of investment to undertake (or where to undertake it), and the scale of investment conditional on that choice (Devereux, 2002).

One possibility is that income shifting such as the manipulation of transfer prices on goods traded between members of the same group, or lending from low tax countries to subsidiaries in high tax rate countries can take place. There is empirical evidence of income shifting behaviour by firms (Hines, 1999). Government can make an attempt to impose greater constraints on such activities to respond to income shifting.

5. CONCLUSIONS: Will it be in Ghana’s interest to modify the mining fiscal tax regime?

The government may have used generous depreciation laws and other incentives to attract investment in the sector during the period of tax competition with other resource rich countries, however, it seems to have promised too much and not considered the implications of higher commodity prices at a later stage (Ayee et al., 2011). It is no doubt that Ghana’s fiscal tax regime for the sector benefits the private investors since the profits tax rate of 25% is lower on the spectrum of tax rates applied in other countries in the world. As a result, only a modest amount of profits taxes has been collected from the sector. Even in 2008, when mineral prices were very high, the tax of gold mines did not increase proportionally. Ghana has clearly not benefited from the rising prices of minerals, especially gold over the years, yet, revisiting the mineral fiscal regime seems likely reduce the prospects of future foreign investments (Ayee et al. 2011).

The mining Industry has expressed alarm. Toni Aubynn, the Chief Executive of Chamber of Mines is of the view that the stance of government is likely to discourage investments in the country (Reuters, 2011). But according to the IMF, tax revenue as a proportion of GDP is lower in Ghana than in other countries in Sub-Saharan Africa. The proposed changes to the tax regime changes is only an attempt to bring the Ghana in line with tax rates in the region and to enable the country benefit from recent rises in gold price (africanarguments.org, 2012). Moreover, the windfall tax is targeted at only the extra income made by the mining firms beyond their estimated income (Adriana and Alexandra, 2012). It is not an additional tax, but rather a tax on extra profit so if you don’t make extra profit, you do not pay. This tax regime modification means Ghana is becoming wiser and it has really been long overdue (Manteaw, 2012).