Conflicting opinions on the Philippine mining sector’s tax burden complicate reforms

When making investment decisions, mining companies take a wide array of variables into account, including everything from regulatory policies and political stability, to resource size and accessibility. As geologic factors such as the grade or depth of resources are relatively constant, governments have a more limited toolbox when it comes to attracting mining operations to their territory. One of the most influential of these policy tools is a country’s taxation structure, which is often the deciding factor for whether a mining company chooses to move forward with a given project or pursue other prospects in countries with a more profitable tax structure.

In the case of the Philippines, this crucial policy direction remains in flux along with many of the other regulatory issues related to the sector (see overview). Mining taxation has become something of a hot-button issue in recent years, with politicians, agencies, companies and industry bodies weighing in publicly with their opinions on the industry’s future.

PLANNED REFORM: The federal government has announced plans to collect up to $1bn per year from the sector by imposing a new revenue-sharing system that would take in a 55% of the adjusted net mining revenues or 10% of gross revenue – whichever is higher. Approved by the Mining Industry Coordinating Council (MICC) in June 2014 but not formally approved by Congress as of February 2015, the new scheme would replace all existing national and local taxes, with the exception of the real property, value-added, capital gains, stock transaction, documentary stamp, and donor’s tax, as well as the Securities and Exchange Commission, environmental, administrative and judicial fees. It would also entitle the government to collect a supplementary tax on windfall profits.

TWO SIDES OF THE COIN: The government has justified the tax boost, contending that the mining sector has not been pulling its weight in terms of tax collection, citing the current gross tax rate of 2%, levied as a resource rent for companies extracting minerals belonging to the state, as a benchmark. Although the Philippine Mining Act of 1995 does levy a 2% gross tax on mineral companies, the effective tax rates for mining outfits are significantly higher due to numerous other taxes, levies and fees imposed through a complex regulatory structure. Some of the most significant of these include a corporate income tax of 30%; a 12% value-added tax; a 5% royalty tax on minerals in state reservations; and 1-1.5% in royalties paid to indigenous peoples – on top of the 2% excise tax.

In 2013 the government collected a total of P21.95bn ($493.9m) in taxes, fees and royalties from the mining sector, according to data from the Mining and Geosciences Bureau (MGB). This was similar to the P19.44bn ($437.4m) paid in 2012 and P22.23bn ($500.2m) in 2011. The majority of this revenue stream is derived from taxes collected by national government agencies, which accounts for some P16.51bn ($371.5m), or 75%, of the 2013 total.

Other contributions come from the excise tax collected by the Bureau of Internal Revenue (BIR), equivalent to P2.49bn ($56m) in 2013; fees, charges and royalties imposed by the Department of Environmental and Natural Resources and the MGB, for a combined P1.52bn ($34.2m); and taxes, fees and charges levied by local government units, at P1.42bn ($32m). Given these figures, the tax rate on the P157.1bn ($3.53bn) in gross mining sector revenue was roughly 14% in 2013 – well above the 2% figure cited by proponents of a tougher tax scheme.

DATED DATA: Furthermore, much of the data used as an illustration of comparably low taxation levels in the industry come from 2010 or earlier, which has the potential to create a misleading picture of sector contributions, as revenue from small-scale mining (SSM) operations – which generally pay no tax – are aggregated into national production data. This inflates the ratio of revenue to taxes and results in a figure that indicates a lower average tax burden than in reality. In 2010, for example, SSM gold operations produced P42.9bn ($965.3m) in revenues, while paying virtually no taxes. This yielded an overall tax rate on gross production of 9.2%. However, after removing SSM output from the total, revenues came to P95.9bn ($2.2bn), with a tax rate of 13.4%, according to a study by the Chamber of Mines of the Philippines (COMP).

This anomaly was largely alleviated after 2011, with reported SSM revenue plummeting from P34.1bn ($767.3m) in 2011 – equivalent to nearly one-fifth of total mineral revenue – to P1.2bn ($27m) in 2012 and P33m ($742,500) in 2013. The dramatic downturn in SSM output was the result of a previous unrelated tax reform initiative implemented in 2012 in which the BIR tasked the Philippine central bank, Bangko Sentral ng Pilipinas (BSP), with enforcing a 2% excise tax on its gold purchases. The change in regulations saw the vast majority of SSM operators, which had previously sold their gold to the BSP under tax-free, no-name transactions, shift to the informal economy overnight, with roughly one-third of annual domestic gold production vanishing from the books.

AETR ARGUMENT: Another commonly used method of comparing extractive resource tax regimes is the average effective tax rate (AETR), which has also been used by the MGB and others, projecting prohibitively high tax rates under the current form of the MICC proposal. For example, when the AETR model was applied to a mining operation with a theoretical 20-year life span and commodity prices set at $6.82 per kg of copper and $1292 per oz of gold, the state would yield an AETR of 79.3% for an internal rate of return (IRR) of 13.2%, according to the COMP study. This AETR would compare unfavourably to those in other mining intensive countries, such as Australia (58.8%), Canada (58.3%), Peru (54.7%), South Africa (52.6%), Chile (40.8%) and Papua New Guinea (34.5%).

WEIGHING IN: As stakeholders debate the sector’s real tax burden and how it should be most fairly distributed going forward, third-party research is also being conducted on the possible effects of the MICC proposal, accompanied by recommendations for an equitable solution for all parties.

A study published by the Asian Institute of Management in January 2013 concluded that under the existing regulations, mining companies operating in the Philippines have a negligible difference in average tax payments, expressed as a share of total company revenue, compared with mining firms operating in other countries. The report also noted that average tax payments in the Philippines were significantly higher than the industry-wide average cited by the government in the MICC proposal.

According to the study, the two Philippines-based mining outfits sampled paid taxes at an average of rate of 19.4% of revenue, compared to a 15.7% taxation rate for their counterparts operating in other countries. The foreign companies sampled in the survey included established industry players like Barrick Gold, ENRC, Rio Tinto, Vale Indonesia and Norilsk Nickel, in addition to two domestic operators, Philex Mining and Nickel Asia. The average level of taxation in the sector in the Philippines also measured higher than in other regions or country groupings, such as Latin America (17.4%), Africa (11.3%) and the OECD (13.7%).

A report issued by the Fiscal Affairs Department of the IMF in June 2012 was similarly critical of the proposed reforms to the mining sector, stating that, “The current FTAA [Financial or Technical Assistance Agreement] regime is not competitive internationally.” It further added that, “the low contribution of the mining sector to government revenues is not due to the Philippine fiscal regime for mining being generous to contractors by international standards.”

These opinions were supported by the Frasier Institutes’ most recent annual survey of global mining companies, compiled in 2013, which revealed that more than half of those polled view the mining tax scheme as an impediment to investment. According to the survey, some 28% of respondents indicated that the Philippines mining sector’s taxation regime – including personal, corporate, payroll, capital and other taxes, as well as the overall complexity of tax compliance – was a mild deterrent to investment. Another 17% stated that taxation was a strong deterrent, with 7% concluding that they would not pursue investments as a result of this.

IMPACT OF UNCERTAINTY: Given the variation in estimates of how much mining companies actually pay in taxes, and the potentially flawed models used to estimate effective tax rates in the future, mining companies have good reason to be apprehensive about the potential fallout from the changes proposed by the MICC. If the government fails to take into account more inclusive and broadly accepted benchmarks – such as the AETR and IRR – in its sector-level taxation projections, the country runs a real risk of making the industry even more uncompetitive relative to other mineral-rich territories with more favourable taxation schemes. While the tax structure is not solely to blame for lagging investment, it remains a significant contributor, and should be treated as such.