REVENUE GROWTH

How to counter tax avoidance in Sub-Saharan Africa’s mining sector

Targeted policy actions to reduce tax avoidance could help governments recover some of this badly needed tax revenue

In Summary
  • Despite the high level of private investment in this critical sector, new analysis by the IMF finds that many mining companies are avoiding paying their taxes.
  • The IMF research shows that governments in sub-Saharan Africa are losing between $450 and $730 million per year in corporate income tax revenues.
A gold mine
A gold mine
Image: FILE

Sub-Saharan Africa is estimated to possess 30 per cent of global mineral reserves, representing a major opportunity for the region.

Despite the high level of private investment in the critical sector, new analysis by the International Monetary Fund(IMF) finds that many multinational mining companies are avoiding paying their taxes.

The IMF research shows that governments in sub-Saharan Africa are losing between $450 and $730 million(more than Sh50billion) per year in corporate income tax revenues.

This is a result of profit shifting by multinational companies in the mining sector.

The research noted that targeted policy actions to reduce tax avoidance could help governments recover some of this badly needed tax revenue to aid with the recovery and meet Sustainable Development Goals.

This IMF analysis comes amid a global effort to address tax competition and profit shifting by multinational companies, which has put unprecedented stress on the international corporate tax system.

To address this, 136 countries, including 20 countries in sub-Saharan Africa, agreed last month to a minimum effective corporate tax rate of 15 per cent starting in 2023.

The mining sector contributes about 10 per cent to GDP across 15 resource intensive sub-Saharan African countries.

In most of these countries, mining exports represent 50 per cent of total exports on average and is the main source of foreign direct investment.

However, for the 15 resource-intensive economies in the region, revenue from mining accounts for just 2 percent of GDP on average.

For instance in Kenya , the Ministry of Mining notes that the sector contributes less than 1 per cent of the country's GDP but has potential capacity to contribute 4 to 10 per cent.

FISCAL REGIME

Most countries in Africa collect revenues from the mining industry through a combination of royalties, corporate income tax, and sometimes the state taking a non-controlling ownership stake in projects where they receive dividends from corporate profits.

The structure of mining fiscal regimes in the region directly affects the pattern and magnitude of revenue from mining.

Furthermore, governments have reduced corporate income tax rates in many sectors, including mining, amid competition to attract investment and efforts to boost economic development.

The IMF research highlights that out of the 15 resource-intensive economies in sub-Saharan Africa, only three had lower corporate income tax rates for mining in their tax law, and six had higher tax rates for the sector.

EFFECT ON REVENUES

The IMF research shows that international profit shifting is having a dramatic effect on collected revenues.

This is whereby multinational companies use their global reach to reduce tax liabilities in high-tax jurisdictions by shifting profits to lower-tax countries.

One example is the use of an interest-bearing loan arranged between the different entities within a multinational company.

The interest expenses are claimed as a deduction in the higher tax country (Africa) while interest income is allocated to a lower-tax country offshore.

Other examples include underpricing minerals or using subcontractors to move profits offshore.

An analysis of payments data, reports from the Extractive Industries Transparency Initiative, reveals that an increase in the corporate income tax rate differential between the (higher) producing country and the average (lower) offshore countries by 1 percentage point results in a decrease of reported profits in the mining sector by 3.5 per cent.

Building on this research, African countries are estimated to be losing about $450–730 million in corporate income tax revenue a year on average from tax avoidance by multinational mining companies.

According to IMF, targeted policy actions can help countries reduce tax avoidance in the mining sector and foster revenue mobilization.

Recommended actions include strengthening and simplifying transfer pricing protection, limiting interest deductions, improving tax treaty practices, limiting tax incentives, and strengthening investment negotiation practices.

Even so, IMF noted that imposing interest limitation rules halved the responsiveness of profit allocation by multinational companies as a response to international tax rate differentials.

Some countries are already making progress in addressing profit shifting in the mining sector.

Sierra Leone’s new fiscal regime moved the country away from negotiating fiscal terms mine by mine; Guinea, Liberia, and Mali have strengthened their transfer pricing protection.

South Africa and Nigeria have set limits on interest deductions; while nine of the 15 resource intensive economies have alternative minimum taxes that can ensure at least some corporate taxes are paid each year.

Finally, Kenya introduced an anti-treaty shopping provision into its tax treaty policy.

This approach strengthens the country' domestic legislation which also provides for limitations in access to treaty benefits. 

These actions hold the promise of stronger revenue mobilization from mining in sub-Saharan Africa.

And the global minimum tax will likely mitigate profit shifting and reduce pressures from tax competition.