The Mining Locomotive at full speed, but does it pay what it should?
The reality is not what the government had hoped: the mining engine, has gained momentum and continues at full speed, but it is not paying the taxes that it owes and that are necessary to rationalize the State's finances. The data are conclusive; through tax evasion and circumvention, mining companies are avoiding more of their tax liability that what they are paying to exploit the subsoil resources that are the property of all.
A Close Look at the Mining Sector
Upon taking office, Santos confronted an institutional crisis in the mining sector, the most powerful and most promising of his five economic engines. Thus, over a year ago, then Minister Rodado Noriega announced deep institutional reforms to ensure compliance with standards and obligations in mining, strengthening the precarious capacity of the State to tax.
The Minister emphasized deficiencies in human, technical and financial resources that impede mining authorities from fulfilling their regulatory function over the use of subsoil resources. This led the government to take urgent measures, one of the most significant of which is the suspension of the process to grant mining rights, a prerequisite to initiating exploration and subsequent exploitation.
A year later Minister Mauricio Cardenas announced that, before the fifth of May, a new Agencia Nacional de Mineria(ANM) [National Mining Agency] would begin to operate. With close to 300 employees dedicated to reviewing mining rights petitions and charged with "revoking titles that were granted in the past under which obligations, for example failure to pay the mining fee, were not fulfilled."
The Minister also specifies that in a few days, bidding will open to contract, for a period of 30 months, auditing firms that will examine with a fine-tooth comb the more that 9000 mining rights titles currently granted. There is a budget of 337 billion pesos available for the project.
This means that 11,200,000 pesos will be allocated monthly to the project. This is equal to a little more than three fourths of the value designated by the royalty law for this purpose (two percent of total royalties that climbed to 8.79 billion pesos in 2011).
These are, without a doubt, important announcements, especially since they attempt to strengthen the State's ability to control and monitor mining operations throughout the country. There will have to be an evaluation period to see if this is an effective way of dealing with the institutional problems of the mining sector.
Nevertheless, there is another issue of equal, if not greater, importance that will not wait. Can the mining engine meet the goals of the Plan Nacional de Desarrollo [National Development Plan] for economic growth and, simultaneously, for the management of the fiscal deficit?
Engine Full Speed Ahead
The Plan de Desarrollo proposes five [economic] engines in which to promote economic growth, increasing from an expected rate of 4.5 percent, without the plan, to 6.2 percent with it.
A crucial role is assigned to the mining-energy engine, estimating that it would contribute an additional 0.3 of a point to the growth rate, an input similar to that of infrastructure (0.3 point), above the estimated contribution from agriculture (0.1 point) and surpassed only by that estimated for housing (0.4 point) and innovation (0.6 point). This calculation is based on favorable circumstances, given the increasing price of mining-energy resources over the last three years, in the middle of a crisis in the major economies of the world.
Expectations such as these are beginning to be reflected in the estimates of growth in direct foreign investment, particularly in the mining sector, which could significantly raise its participation in the GDP. In accord with DANE [Deprtamento Administrativo Nacional de Estadistica – National Administrative Department of Statistics] calculations, the sector has been growing steadily, from 5.7 percent of GDP, since the third trimester of 2007, to 7.8 percent in the same trimester of 2011.
This growth trend is mainly explained by the rapid increase in petroleum production. According to the Agencia Nacional de Hidrocarburos [the National Hydrocarbon Agency], average daily production expanded from 531 thousand barrels of crude per day in 2007 to 914 thousand in 2011.
Fiscal Deficit and the Growth Engine
Despite this, there is concern as to whether this dynamic will be suitably channeled with respect to the other objective: putting public finances on a sound footing.
En effect, central government authorities set, as a macro-economic goal, deficit reduction from 4.2 to 2.4 percent of GDP between 2010 and 2014. In order to meet this goal, the primary balance (the fiscal balance minus interest payments on the debt) must decrease from a 1.4 percent deficit to a surplus of 0.8 percent of GDP.
This objective is consistent with the view of expert consultants to the government, who recommended the establishment of a fiscal rule based on control of the primary deficit, saving in times of high revenues and financing the deficit with these savings during times of low revenues.
This opinion emphasizes the need to take advantage of the predicted expansion in mining-energy activities, countering the undesirable effects that could result from the exchange-rate appreciation caused by that expansion.
How Much Should Mining Companies Pay? How Much Are They Paying?
Hydrocarbon and mining companies should make two very important types of tax payments: income tax and royalties, as well as taxes such as value added (VAT), a gasoline surcharge and [tax] on industry and commerce as well as a mining fee paid to the mining authority during the exploitation phase.
The attached table shows, in addition to the performance of paid royalties, the performance of payments on income tax liability from 2002 to 2010, according to two sources:
· DANE data that include the value of output and that of gross operating surplus (profits);
· On the other hand sales income (output value), ordinary net income before fixed assets investment deductions (corresponding to profits) and the declared value of income tax payable (real tax).
Based on the data in these two sources and the application of nominal tax rates on profits, one can calculate potential payable taxes before deductions or exemptions. These calculations send alarm signals:
· In the first place, while nominal income tax rates fluctuated between 33 and 38.5 percent on profits during this period, in effect corporations applied deductions and exemptions in their tax returns to DIAN [Direccion de Impuestos y Aduanas Nacionales de Colombia-Colombia National Tax and Customs Office] which allowed them to obtain an average tax equal to only 27.6 percent for the sector as a whole.
And the tax is lower still for coal and precious metals. These subsectors pay less that 25 percent on declared profits (particularly as a result of applying deductions, authorized by the tax law, on fixed asset investments.)
Nevertheless, keeping in mind that the profits reported by DANE (the producer's gross surplus) are substantially greater that those declared for tax purposes by the corporations, the effective income tax rate on these profits is still much lower, less that 15 percent for the whole sector during the period under consideration. They are particularly low in the case of coal (8.1 percent) and of precious metals (2.9 percent.)
· On the other hand, considering these two ways to pay a reduced income tax – exemption (according to the DIAN data) and evasion (according to the marked difference in profits between the data in DIAN and those in DANE) –one can deduce that corporations, in this way – take off their taxes a value not only comparable to, but in fact greater than that which they pay to the State in royalties. This means that they exploit the Nation's subsoil resources at a cost that is less than free.
Let's see. Comparing the taxes that result from applying nominal rates to sector profits (reported by DANE), with taxes declared by the corporations (in their returns to DIAN), the total differs by an amount equivalent to 137 percent of the total of royalties received by the State for the use of these resources.
Worse yet, in the case of coal these unpaid taxes are double the value of the royalties contributed by the subsector. And in the case of gold they reach a value around three times the royalties paid for this activity.
In summary, in the period 2002 to 2010 the sector failed to pay, through income tax exemptions and evasions alone, a value much higher than what it paid in royalties.
· Royalty performance poses other questions as well. While the royalties paid for the extraction of petroleum should be between 8 and 25 percent of output value (according to the size of each field), during the period analyzed, they only reach 15 percent of the output value reported in the national accounts of DANE.
In the case of coal, these royalties represented 8.2 percent of output value, when they should have represented more than 9.8 percent of the stated value.
In the case of gold, they should be between 4 percent (seam or vein) and 6 percent (alluvium) of output value. However they showed only 3.8 percent of that value during the period under consideration.
In the case of minerals other than hydrocarbons, these rates are not only quite low but they represent values lower than those legally established. Neither do they have an adjustment factor to capture a greater proportion of resources in times of higher prices.
Can the Government Get the Mining Sector under Control?
Faced with this situation, and if it is still hoped that the mining sector may contribute to rationalizing public finances, part of the measures that Minister Cardenas has announced should be to tighten supervision and control over the fulfillment of tax obligations by the corporations.
But equally important, a well-informed national debate should begin on the status of the "tax haven" in Colombia. The mining sector has enjoyed these conditions inherited from the recent past and the policy of "investor security" which seems to be maintained even at the cost of the macroeconomic interests of the nation.
If the current tax environment is maintained, mining contributions to the country will continue to be a vain illusion, especially if one compares it to the high social and environmental risk that this activity implies.
Title: The Mining Economic Engine at Full Speed, But Is It Paying Off?
Author: Guillermo Rudas Lleras
Location: none provided
Date Published: January 29, 2012
Source: Razon Publica
Translated by: Emily Schmitz, CSN Volunteer Translator
Edited by: Susan Tritten, CSN Volunteer Editor