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Zambian government compromises in mining royalties row

On Monday April 20, the Zambian cabinet approved proposed changes relating to the mining tax regime. The changes imply a reinstatement of the two-tiered tax system. The budget address for the 2015 fiscal year, delivered on 10 October 2014, replaced the two-tiered tax system for miners with (as a final tax) a higher mineral royalty tax regime. Under the mineral royalty tax regime, which came into effect on 1 January 2015, underground mining operations were liable to pay an 8% mineral royalty rate, while open cast mining operations faced a 20% mineral royalty tax rate.

Previously, mineral royalties were taxed at 6%, after being doubled in 2011. Several mining companies operating in Zambia, including Barrick Gold, First Quantum, Glencore and Vedanta, protested and claimed the new rates were punitive and warned that approximately 12,000 jobs could be at risk as a result of the increased cash costs.

According to the government statement dated April 20, the cabinet has approved the proposal that the mineral royalty tax rate for both open cast and underground mining operations will be pegged at a flat rate of 9%. In addition, income earned from mining operations will be liable to pay a 30% corporate income tax rate, while income earned from mineral processing will face a corporate income tax rate of 35%. The release further stated that “variable profit tax on income earned from mining operations will be 15% when taxable income exceeds 8% of gross sales.”

In turn, the deduction of tax losses carried forward will be limited to 50% of taxable profits. The government warned that the Zambia Revenue Authority (ZRA) will “introduce stringent enforcement mechanisms” to effectively monitor mining activities and transparency. The statement specifies that, once approved by Parliament, the changes will take effect on 1 July 2015. The Zambian Chamber of Mines welcomed the revision of the mining tax regime.

Barrick said on Thursday, April 23 that it will not suspend operations at its Lumwana open-pit copper mine in Zambia now that the country’s government has reduced mining royalties. “We appreciate the leadership and engagement of President Edgar Lungu and the government of Zambia on this matter,” Barrick Co-President Kelvin Dushinsky in a statement. “While Lumwana still faces challenges, in light of the government’s recent announcement we intend to continue operations at this time.”

The Ministry of Finance is expected to present a revised expenditure framework to Parliament. This should include updated assumptions with regard to the copper price; the government has revised its copper price assumption from $6,780/tonne in the initial budget to $5,665/tonne. Absence of an updated expenditure framework clouds the assessment of the full fiscal impact of the mining tax regime change prior to the presentation to Parliament.

While the revision of the mining tax regime is credit-positive with regard to the medium-term fiscal trajectory due to a projected increase in production (which broadens the potential tax revenue base), the revision holds a high risk of a larger revenue shortfall in the current financial year. Temporary pressure on the fiscal account brought about by a mining tax revision implies that the pressure on front-loaded fiscal consolidation should increase, and that the risk of spillover to the government’s balance sheet could increase as well.

Without a stronger focus on front-loaded fiscal adjustment, the government could have difficulty in creating the fiscal space needed for capital expenditure, especially when considering high recurrent costs. We are however optimistic that Zambia will welcome advice from the IMF and World Bank with regard to streamlining the fiscal account.

The tax compromise suggests that the “new” Patriotic Front (PF) government under the stewardship of President Lungu will follow a more pragmatic, rational and less emotional path in its dealings with foreign investors in the critical mining sector without compromising the rights and obligations it has to its people. The mining deal as envisaged now is significantly less punitive than the Sata Administration legislation and it will help Zambia’s foreign investment platforms.

In addition, it shows too that, while he has one eye on fresh presidential elections next year, President Lungu is not going to follow the populist route to power at the expense of economic and financial prudence. These developments strengthen our assessment of a stable and improved political environment post-Sata and a relatively low political risk profile with these indicators likely to improve further.

 Irmgard Erasmus (Fixed Income Analyst) & Gary van Staden (Senior Political Analyst)

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