The transfer of the petroleum sector’s tax model to the minerals sector could provide advantages to the mining industry, but without adaptation it would risk future investment.
THE adoption of a Resources Rent Tax for the mining sector would be ground breaking, but would require careful implementation so it doesn’t price Australia out of the international mining market.
The imposition of a cash-flow tax, such as the petroleum RRT, on the minerals sector would be unprecedented almost anywhere in the world, and does provide some advantages to the sector.
However, the energy and mining industries have very different economic decision models. The operating and capital requirements are very different, as is each industry’s risk and return profile.
Any proposal that taxes mining at the same rate as oil and gas would represent a significant tax increase, making Australian mining projects among the most highly taxed in the world, to the detriment of their global competitiveness.
The federal government must take this into account when deciding on its response to the Henry tax review.
The imposition of a federal RRT on the mining sector to replace the existing state-based royalty scheme has been widely reported as one of the recommendations of the Henry review, with most reports indicating that it would be almost identical to the petroleum RRT with a 40 per cent tax on profits on a project basis, after all exploration and development costs have been recouped.
The federal government is considering its response to the review.
The petroleum RRT contains some attractive features for the mining sector, largely through a variety of transferability rules, the immediate deductibility of eligible costs, carry forward provisions and the taxing unit being assessed on a project basis.
The petroleum RRT has the basic design features of an economic tax rather than an accounting tax or simple excise and royalty systems.
This has potential benefits for miners. It would allow mining companies to write-off spending on new projects against profits from existing projects, and would also give royalty relief to new miners as they start up operations. An RRT is a cash-flow-based tax on profits that are derived when exploration and development costs are met.
The mining RRT is being pitched as a replacement for the current state-based mineral royalty system, which is not perfect either. Royalty rates and calculation methodologies differ across the states, creating inconsistencies, distorting investment decisions and providing unnecessary and unwanted bureaucratic and accounting imposts.
State-based royalty charges are also based on production, not profit, and can be readily changed, as evidenced by the current debate of whether the WA government should increase royalty rates on some minerals.
The resources industry needs a stable and predictable royalty charge that encourages ongoing investment into the sector.
A well-designed tax should never distort investment decisions. If a project is economically feasible pre-tax, then it should remain so.
It remains unclear whether the RRT calculation would be based on the primary resource value or a value-added amount.
The rate of tax and the resource value to be used in the calculation will be the deal breakers for the mining industry, which wants any changes to apply only to future investments.
How the government handles these transition issues that come with a new RRT could materially impact investment decisions within the mine sector.
The mining industry is understandably concerned that the RRT will make Australian projects the highest taxed in the world. It understands the need for tax reform but it won’t accept a tax grab from government.
It is likely that, when releasing its Henry review response, the federal government will immediately accept some recommendations, rule out others and defer a number for further review.
It is likely that the implementation of the RRT would be fast tracked, particularly if the government wanted to cut the 30 per cent company tax rate.
Every 1 per cent cut from the company tax rate costs $2.3 billion.
Therefore, reducing the company tax rate from 30 per cent to 25 per cent would cost the Treasury $11.5 billion a year, which must be funded from alternative taxation.
It is not a question of if we will have a new federal RRT, it is just question of when and how.
The rate at which the RRT is struck is important to achieving a reasonable balance between the community getting a fair return, versus making sure that Australia retains a viable and profitable mining industry.
It is essential for government to consider the adverse impacts that any changes will have on producer returns, project certainty, future investment decisions and the perceptions of sovereign risk.
Another tax model that would assist small Australian resident exploration companies is the flow-through share scheme, which would allow shareholders in such companies to derive a tax credit for exploration expenditure incurred by junior explorers that struggle to gain any tax benefit from tax deductions due to low or nil income.
However, there has been little said about the flow-share scheme model by the federal government since the Labor Party included it in its 2007 policy paper.
n Russell Garvey is BDO’s director for corporate and international tax. He specialises in mining taxation and worked for 13 years with the Australian Taxation Office in Perth and Canberra.