National Budgeting amidst COVID 19:Why 2020/21 National budgets should be revised and steps government could take

COVID 19 has been known for many reasons but for Tanzania and East African governments in general, the pandemic arrived at a very wrong time. Coming in the middle of national economic planning and budgeting for the 2020/21 financial year, the pandemic has totally ripped apart as much as it can all the basic economic fundamentals that governments had banked on in projecting their 2020/21 revenue and economic growth forecasts.

By Moses Kulaba, Governance and economic analysis center

Developed close to five years ago as Five Year National Development Plans, as they are known, the plans were modelled based on a myriad of positive assumptions and designed to achieve stellar economic growth targets.

According to the Ministry of Finance and Economic Planning, Tanzania’s economy was projected to grow at 6.9%. Kenya projected to grow by 6.2% while Uganda expected an outstanding growth of 6.3% during the 2020/21. But going by the havoc currently wrecked by the COVID 19 pandemic and the global statistics so far it is highly likely that these plans will be significantly affected.

According to the World Bank, the global economy will shrink by 3% in 2020 sending millions deeper into poverty. Sub Saharan Africa’s economic growth is expected to contract from 2.4% in 2019 to between -2.1 and -5.1% in 2020, sparking the region’s first recession in 25 years.

McKinsey & Company forecast that East African economy will shrink by 3% and 1.9% during this financial year. In East Africa, Kenya, under a contained-outbreak scenario, GDP growth could decline from an already reduced 5.2 per cent accounting for the locust invasion earlier this year, to 1.9 per cent.

Under a best-case scenario, Kenya is looking at a reduction in GDP of $3billion while South Africa could be whipped to a GDP growth fall from 0.8 per cent to 2.1 per cent, representing a reduction in GDP of roughly $10 billion, the reports indicate. Other sources such as have even made higher projections that East African economies may shrink by 5.4% in 2019. It is clear now that the economic impacts of the pandemic could be more catastrophic than their health dimension.

Why Tanzania should revise its Budget Estimates

In the 2020/21 budget speech delivered to parliament in March 2020 by Tanzania’s Minister of Finance and Economic Planning the government projected to spend Tsh 34.879.8 billion for the implementation of its final year of the Five-Years National Development Plan (FYDP II) 2016/17-2020/21

The Minister highlighted that the Growth Domestic Product (GDP) had shown a positive trend, increasing at an average of 6.9% per annum for the period between 2016-2019 and government revenue collection had increased. The FYDP II indicates the government targeted to raise annual tax revenue collection from TZS 15,105,100 million during the FY 2016/17 to TZS 25,592,631 million during FY 2020/21, which translates into an increase in tax revenue to GDP ratio of 15.9 per cent by 2020.

Although the period between July 2019 and January 2020 witnessed revenue collection targets hitting high levels with TZS 10.62 trillion, which is about 97% of the target for that period which was TZS 10.96 trillion, It is sufficient to anticipate that revenue collection starting the fourth quarter of 2019/20 will experience significant decrease as a result of COVID-19 impact in the economy.

The budget ceilings for the financial year 2020/21 indicate a 5% increase of the national budget from TZS 33,105.4 billion in 2019/20 to TZS 34,879.8 billion in 2020/21. The budget proposals presented in March 2020 by the Minister of Finance and Planning for 2020/21 projected raising domestic revenue collection from TZS 23.05 trillion in 2019/20 to TZS 24.07 trillion in 2020/21 which will be equivalent to 69% of the total budget estimates.

This is despite the clear indications that the 2020/21 budget will experience serious shortfalls never experienced before.  The evidence from the economic shocks encountered so far with the closure of business, transport restrictions and exports such as horticulture, suggest tell that the current government’s economic plans and revenue projections for 2020/21 could be quite zealous and perhaps needed review.

According to the African Development Bank’s (East Africa Economic outlook report for 2019) economic growth in Tanzania and East Africa, in general, has been driven by tourism, services, agriculture and consumption sectors.  Tourism and services sector in Kenya and Tanzania grew and maintained an upward trend for the past five years.

All these vital sectors have been significantly affected and will centris pari bus record negative growth in their last and first quarters of 2020. Both the formal and the informal sector have been massively hit by this global pandemic. The economy will undoubtedly shrink substantially and therefore this should be reflected in the 2020/21 national budgets.

Global projections show that travel, hospitality and services sector will significantly be affected. Kenya, the regional economic powerhouse has so far downgraded key sectors such as the tourism sector to projected growth of about 2% in 2019 and this could even worse.

According to the World Tourism Council, the direct and indirect contribution of tourism was 14% of Tanzania’s GDP in 2014 with USD 6.7bn. This was expected to rise by 6.6% annually in the next 10 years, according to the World Travel and Tourism Council (WTTC).

According to the Bank of Tanzania Monthly Economic Review report, the tourism industry was the main source of foreign exchange receipts by Tanzania in 2018. In the MER report for the year ending December 2018, travel earnings (dominated by tourism) increased due to a rise in the number of tourist arrivals. The earnings reached US$2.44 billion from US$2.25 billion tabled in the same period the previous year.

The total receipts from services recorded a positive trend due to also the increase in the transport sector, which rose from $1.14 billion in 2017 to $1.22 billion in 2018.  MER reported that following an increase in travel and transport foreign receipts, the total foreign exchange receipt from services was $4.01 billion in the year to December 2018, an increase of $182.8 million from the amount registered in the corresponding period in 2017

“Transport receipt increased due to growth in the volume of transit goods to and from neighbouring countries particularly Zambia, DRC, Rwanda and Burundi partly contributed by improved competitiveness at the DSM port, including removal of Value Added Tax on auxiliary services of transit cargo, the bank reported.

The current lockdowns and travel restrictions in the neighbouring countries clearly indicate that these gains will be thrown out of the equation.

Zanzibar as a major tourist destination will be significantly affected and this will pull down the overall national economic growth of the sector and its impacts on the country.

Production and consumption will equally be affected by the economic lockdowns, staff layoffs and economic distress as disposable incomes shrink and consumer’s marginal propensities to spend drastically reduce.

Agriculture which has always been taunted as the backbone of the economy will also be affected by the menacing locusts, floods and disruptions in agricultural chains for inputs and domestic and export markets. Lending towards the sector will likely be affected and large scale production curtailed. The net effect in the wake of this will be potentially increased food insecurity, high prices (food inflation) and famine in large parts of the country.

Government costs of health care and treatment will significantly increase, drawing away resources from investment in other social and development sectors. According to public health experts, COVID 19 is one of the most expensive diseases to treat. It draws a lot of resources as it requires specialized facilities, expertise and treatment to deal per capita patient.

The financial sector will be distressed. Non-performing loans have increased and will increase significantly in defaults, distressed assets and foreclosure. The government could be a net loser too as banks, entities and individuals experience financial squeeze, fall back in tax payments and doing with on matters financial such as the purchase of government fiduciary instruments, such as treasury bills.

The industrialization agenda mooted by the government five years ago will significantly be affected as foreign capital to investment becomes difficult to mobilise. The major source countries of FDI inflows into Tanzania such as China, Europe and the United States and South Africa have been the epicentres of the pandemic and struggled to cope.

The turbulence in the global stock markets in the key financial centres such as New York, Tokyo, Frankfurt and London has worsened the situation further as major companies saw their net value and investments wiped within a short span of two months. The balance sheets and bottom lines of major companies shrunk significantly and remain extremely stressed. During and immediately after the COVID 19, investors and companies will be conservative to invest en masse and choosy in which markets and type of business they invest.

It is based on these realities that the Governance and Economic Policy Center and other Civil Society Organisations (under the umbrella of Tanzania Tax Justice Coalition) caution that the government needs to be precautionary in its projections and conservative in its estimates. As stated above that chances for the economy to shrink and domestic revenue mobilisation will adversely be impacted. It is likely that investment and revenues from key sectors such as tourism, construction and the extractive sector will likely be affected.

What governments should do

  1. Revise the previous and current budget projections to take care of the negative effects that COVID 19 will have on the economy and revenue mobilisation. (The World Bank and IMF both project that the African economy will shrink between 1.9% -3%). The new budget projections should factor this into their models to avoid a serious shortfall.
  1. Reduce VAT from the current 18% to 16% for the year 2020/21 to encourage production, tax rebates for manufacturers producing products for fighting Covid19, such as sanitisers, soap, masks and a well-reduced price for products hence increasing the purchasing power by consumers.
  1. The government should suspend all debt payments and re-negotiate future debt servicing in the context of COVID-19.
  1. Businesses and self-employed individuals in sectors hard-hit by the crisis or with serious repayment difficulties related to it should be allowed to reschedule their loan repayments or defer payments for a limited period (3 months). This will enable businesses and self-employed individuals in sectors hard-hit by the COVID-19 crisis or with serious repayment difficulties to remain in control.
  1. Halt or pause or stagger large expenditure on some large ongoing and proposed strategic projects such as infrastructure projects this year and reschedule the respective fund to short-term productive sectors for the economy and saving people’s lives.
  1. Set up an emergency fund or reserve fund at the Central bank capable of shielding the economy from the longer effects of COVID- 19 and the CB increase more liquidity into the banks to facilitate cheap lending.
  1. Businesses adversely affected by the COVID-19 should be given temporary tax payment relief in this regard. This should, however, be closely to avoid misuse.
  1. The governments need to earmark existing or additional funds to reinforce all mechanisms to fight COVID-19.
  2. Protect the public and consumers from hoarding, price hikes and disruptions in the supply chain of vital goods and services, which could gradually drift the country into structural inflation, affecting further the poor and extremely economically vulnerable.
  1. Consider pay cuts for highly paid public servants transfer some of these savings towards the national fund to finance COVID 19 response mechanisms
  1. Take measures that shield the private sector from collapse, protect jobs and hence protecting the government’s vital tax base.
  1. External borrowing at this stage to fight COVID-19 could be extremely dangerous as it is not exactly known when the situation will return to normalcy and the economy could be badly beaten after COVID-19 and not able to meet the ability for the government to pay its debt without default.

East African governments have been victims of ambitious budgeting appetites, whose targets are never achieved. According to a review of budget trends by GEPC in 2018/19 showed there were perpetual shortfalls between what was projected and what was collected. The trend showed that budgets estimates had been increasing over the years with every year’s budgets touted as the highest since independence. However, the actual budget out turns had fallen short of projections.

Kenya, which is the biggest economy in the region had missed targets for the past seven years while Uganda was a perpetual budget crusher with key ministry asking for supplementary budgets midway.

In 2018/19 Tanzania recorded a shortfall in budget outturn only achieving 88% of its targeted revenue collection. This was attributed to a number of factors, decline in domestic revenue, tighter global conditions, decline and delayed disbursement in government.

Generally, governments were net beggars, relying heavily on domestic and external borrowing to fill their budget deficits. Very little was saved. For this year, the signs are all over that the economies are glaring into the abyss. Cautionary budgeting could save the economies from further meltdown.

 

How to curb transfer pricing , tax dodging and illicit financial flows in extractive sector

Tackling tax dodging and illicit capital flight in the extractive sector can be a challenge for tax officials and policymakers in new extractive resource-rich Countries such as Tanzania, Uganda and Kenya, whose tax and extractive governance regime is just in its formative stages and local expertise in its pupilage stage

Tax and development:  How to curb transfer pricing and illicit financial flows in the extractive sector

By Moses Kulaba, Governance and economic analysis centre, Dar es Salaam-Tanzania 

This brief highlights some of the basic strategies that can be used by tax authorities and governments to tackle aggressive tax planning and dodging in the extractive sector.  It touches on basics such as understanding corporate and financing structures synonymous with extractive MNE’s and how these are used as conduits for base erosion, tax-avoiding and illicit financial outflow. We conclude with a case scenario to facilitate discussion. The brief is in response to feedback from our readers reacting to our previous posted online article and in which we touched on the basics of understanding illicit capital flight in the extractive sector. After highlighting the problem, our readers have challenged us to also share some solutions.  The brief targets sector practitioners, policymakers and leaders, professionals, students and other stakeholders.

In recent years there have been legislative and policy reforms in Countries to ensure that governments have a firm grip and maximize their take from their extractive wealth. However, as governments celebrate these attempts, experience and practice suggest lacunas still exits and the current reforms maybe not enough in curbing the tax avoidance and illicit capital flight menace.

According to Global Financial Integrity (GFI) and the Mbeki High-Level Panel Report on IFFs latest reports, shows that IFF’s from the African continent have been increasing with losses estimated between USD50 Million and USD 80 Million over the past years. Corruption and the extractive sector has constantly provided a major conduit for tax avoidance and illicit resource outflow from Africa. Alarming evidence from leaked documents such as the Panama papers now shows, Multinational companies, have taken advantage of their titular counterparts in government to structure complex aggressive tax planning arrangements used to evade, avoid and ship out potentially taxable income, denying government and local billions of dollars in revenue and development. The arrangements can be so complex and entwined, making it a nightmare for tax authorities and governments to crack.

Even with the new negotiations and deals signed between governments and extractive MNEs, governments have to constantly up their game and mantra to ensure that the old normal does not evolve into just the new normal as the old saying goes “monkeys do not change. They only change their forests’.

So what are some of the basic measures which can be taken

The debunking of Corporate Structures

Governments can tackle tax dodging and illicit flight by debunking and constantly monitoring the corporate structure of the extractive MNE’s.  The corporate structure can determine whether an entity is a resident or non-resident entity for tax purposes. The rules applied for taxing resident and non-resident entities are different and the status of the MNE may be favourable depending on its resident status and the corporate vehicle and form that it chooses to take.

Extractive MNEs have corporate structures with their parent companies located in one Country as Headquarters and subsidiaries located in more than one country or tax jurisdictions, depending on the interests of the company and its shareholders.

The MNE’s headquarters or major subsidiary may be located in low or non-tax jurisdictions, such as Jersey, Guernsey, Isle of Man, Mauritius and in recent years Middle East Countries and Cities such as Bahrain, Dubai have been added on the infamous list of tax havens.  As these Middle East countries compete to economically diverse from Oil and develop themselves as a global investment and financial centres, they have created low or non-tax regimes as incentives for attracting foreign investment.

MNE’s whose corporate structures have footprints in these Countries need to be subjected to extra scrutiny and background checks to determine whether they are not used for aggressive tax planning measures.

Corporate restructuring, takeovers through mergers or acquisitions or buying shares or stakes in other companies (also known in the petroleum industry as farming in or farming out). Quite often this may be used to ensure that the company diversifies its investment portfolio and minimizes its risks by spreads its operations and ownership in other profit-making business. However, this presence in multiple companies creates a spaghetti of ownership structures which may be difficult for the tax authorities to trace and effectively control for tax purposes. Imagine, a nonresident entity operating in your country but with stakes in more than 20 companies and over 300 projects.

Debunking Management structures

Extractive MNE’s also structure the management in a manner which can likely reduce their tax and labour related obligations.

Governments, therefore, need to examine and understand, where the extractive MNE’s key decision is taken and how staff are recruited.  An extractive MNE with operations in Tanzania but whose majority board members are nonresident and board meetings take place outside Tanzania, would easily pass for a non-resident entity.  The income tax rules treatment and obligations for such a company would obviously be different from a fully registered resident entity.

As a channel for reducing employment tax and labour law obligations, extractive MNEs can outsource Human Resource and Employment related services to management companies. The outsourced Management companies handled staff contracts on behalf of the extractive company in return for a management fee.

Here two things can happen.

The Management Services can be handled by the company’s subsidiary located outside the Country, either at the Company’s headquarters located in low or non-tax jurisdiction or another subsidiary, whose majority shareholders could be domiciled in a low or non-tax jurisdiction.  The fees charged by the subsidiary or parent company can be overinflated to reduce the profit and tax burden in the country of operation and channelled out of the country to low tax jurisdiction.

Secondly, the Management Company can be a local entity paid to handle all Management and Human Resource services on behalf of the MNE.

The Management Company reduces the MNE’s employment tax obligations by directly recruiting and providing short term contracts or jobs to staff which are paid below the labour market in the extractive sector.  The MNE pays the Management Company a fee for this service and has no overall tax obligations thereafter on the staff it receives supplied by the Management Company.  The staff are literary employees of the management company and not the extractive MNE. Therefore, any tax obligations such as employment taxes or income taxes on services including labour rights issues such as negotiations, compensations for damage or loss are handled by the Management company. The MNE, therefore, reduces its employment tax obligation by minimizing the amount it pays to the staff through the management company.

A debunking of Financing Arrangements

Multinational Extractive Companies finance their operations through arrangements structured across multiple financial institutions.  These financing arrangements can be structured in a manner which ensures that payment of interests on the loan is too high and leaves the company with a very little taxable income. In most countries, interest payments on loans are nontaxable.  Although governments have been tightening their tax laws on thin capitalization rules by ensuring that the debt to equity ratios are within the limits, companies may also restructure the financing through a complex web of financing institutions that make ultimate taxable income in the extractive resource-rich countries is left low. Debts may be sold and restructured to take longer than earlier conceived and therefore prolong the period for the company starting to pay taxes.

Remedy for adjusted tax assessments

An adjusted assessment basically refers to a notice to reduce or increase the amount of tax imposed on an entity by the tax body. The government has the power to conduct an adjusted assessment based on new or additional information which may come in the public knowledge or purview of the tax authority, even after the Company’s accounts have been implemented. The adjustments, however, need to be fair, transparent and based on solid evidence of aggressive tax planning and evasion.

Use advance tax rulings

The tax authority can issue advance tax ruling specifying how specific extractive transactions will be treated for tax purposes. Current income tax statutes and practice notes provide for this. However, the existing rulings have been too general and subject to abuse. These ruling should clear and time-bound, to ensure that the extractive MNE does not abuse them.  The government also needs to increase surveillance during this period to ensure that the MNE is not using this period to circumvent the law by either over importation or exportation, dumping overstocking or mis-invoicing aimed to reduce either current or future tax liabilities or achieving a predetermined tax benefit.

For example, if a Company receives an advance tax ruling on the importation of certain capital goods such as heavy-duty Caterpillar tires or heavy-duty mining machinery, surveillance should be put in place to ensure that the company imports and pays an amount which commensurately matches its required operation. 

Implementation of legislative reform to curb potential lacunas

There is a need for an evaluation of the legislative and fiscal reforms so far passed to seal lacunas in the Country’s fiscal and policy regimes governing the extractive sector. 

Despite being passed over the years, have remained largely unimplemented.  The Resource Governance Index released by the Natural Resources Governance Institute (NRGI) shows that Tanzania lagged behind by 26 points in the implementation of its extractive policies and legislation. Transparency and potentially tax avoidance curbing measures such as   Contract disclosure and Beneficial ownership has remained unimplemented. Smooth exchange of information for tax purposes between less developed countries where mining operations take place and the OECD countries where the Companies are headquartered has remained poor and curtailed by ridiculous international law and treaty restrictions.

Tax incentives need to be properly awarded and managed. The government has to ensure that jobs will be created and revenue will be collected from these jobs. Fiscal, legislative and policy reforms have to be predictable and applied in a non-arbitrary way to avoid uncertainty and shocks in the extractive sector. Companies have to know in advance the consequences of flouting the rules and the burden for actions such as tax avoidance, evasion and illicit outflow.

Review of Double Taxation Agreements (DTAs)

Double Tax Agreements are treaties signed between two contracting states ensuring that nationals and residents of the two states are not taxed twice. They are primarily supposed to facilitate the international flow of capital, technology, services by eliminating taxation of income and other taxes through a bilateral arrangement and occasional resolution of income. DTAs prescribe whether the income will have taxed at the source where the income is made or where the taxable entity resides (resident principle) or a combination of both. They also provide for exchange of information for tax purposes

Despite their underlying intentions, DTAs are used as conduits for tax evasion as they facilitate income to flows from less developed countries where MNEs derive it to developed countries where MNEs are resident. Since less developed countries are resource-rich and not capital-rich, essentially, income flows substantively from one directions from developing countries as a source to the developed countries as a residency country.

DTAs allows aggressive tax planning schemes such as ‘treaty shopping’ where a Company registers a subsidiary in a country with a wide treaty network and invests through it to enjoy treaty benefits. Round tripping where investments, capital, income and profits obtained in one Country are re-routed back into the Country through low tax havens as investment from abroad to enjoy tax treaty protection.

A study by the Tanzania Tax Justice Coalition in 2016[1] revealed that the current DTAs are old and contain taxation regimes that surrender Tanzania’s treaty powers in favour of economically developed partners. DTAs have capped withholding tax rates that can be levied on interests, dividends and royalties Although the current DTAs have rated higher than 10% set in Tanzania’s income tax statutes, there are potential risks for tax loss in the future.

Establish transfer pricing methods to be used in determining the arm’s length price of transactions between related extractive MNEs and training tax officials to master them.

Tax avoidance and illicit financial outflows in the extractive sector largely take place through transfer mispricing arrangements. In principle, transfer pricing is not bad in business, however, when it is used as an aggressive tax planning measure by manipulating the transfer price (mis-pricing) to achieve a tax benefit, it becomes problematic.

Transfer pricing is an accounting practice that represents the price that one division in a company charges another division for goods and services provided. Transfer pricing allows for the establishment of prices for the goods and services exchanged between a subsidiary, an affiliate, or commonly controlled companies that are part of the same larger enterprise. Transfer pricing can lead to tax savings for corporations. A transfer price is based on market prices in charging another division, subsidiary, or holding company for services rendered.

However, companies have used inter-company transfer pricing to reduce the tax burden of the parent company. Companies charge a higher price to divisions in high-tax countries (reducing profit) while charging a lower price (increasing profits) for divisions in low-tax countries.

Transfer prices that differ from market value will be advantageous for one entity while lowering the profits of the other entity. Multinational companies can manipulate transfer prices in order to shift profits to low tax regions.

To remedy this, regulations enforce an arm’s length transaction rule that requires pricing to be based on similar transactions done between unrelated parties. Several methods can be used by MNEs and tax authorities to determine the accurate arm’s length pricing for transactions between related MNEs.  The OECD has outlined five major methods which can be used these include; The Comparable uncontrolled price method (CUP), the resale price method, the Cost plus method, Transactional net margin method (TNMM) and the transactional profit split method. According to the OECD, the option that an organization chooses to use depends on the particular situation. It should take into account the amount of relevant comparable data that is available, the level of comparability of the uncontrolled and controlled transactions in question, and whether a method is appropriate for the nature of a particular transaction (determined through a functional analysis). We will discuss this subject in detail in another tax and development bulletin which will be released soon.

In recent years there have been legislative and policy reforms in Countries to ensure that governments have a firm grip and maximize their take from their extractive wealth. However, as governments celebrate these attempts, experience and practice suggest lacunas still exits and the current reforms maybe not enough in curbing the tax avoidance and illicit capital flight menace.

According to Global Financial Integrity (GFI) and the Mbeki High-Level Panel Report on IFFs latest reports, shows that IFF’s from the African continent have been increasing with losses estimated between USD50 Million and USD 80 Million over the past years. Corruption and the extractive sector has constantly provided a major conduit for tax avoidance and illicit resource outflow from Africa.

Even with the new negotiations and deals signed between governments and extractive MNEs, governments have to constantly up their game and mantra to ensure that the old normal does not evolve into just the new normal as the old saying goes “monkeys do not change. They only change their forests’.

We conclude with a fictitious case scenario which can be read for further discussion and reflection on the subject.

Extractive Company Corporate Structure and Tax Case Scenario

 

Indemen Resources Plc is a large mining company with interests in Mining and Petroleum.  The Company was registered with its Headquarters in Jugoland but has subsidiaries in Temboland, Caconia, Alsania and Mende Islands. One of these, Mende Islands is renowned for its secret laws to protect the identity of investors, it provides a litany of investment facilitation incentives, including o% tax on corporate income. In Mende Islands, an investor does not have to be physically present to establish a company.

In 2017, Indemen Resources acquired Mining Interests in Temboland where it started operations. It established   Shamudulio Energy Plc as a subsidiary in this country to take care of the Mining and Oil & Gas fields which been operational for the past 5 years. The Company’s subsidiary, Matecash Intl located in Mende Islands manages its accounts, banking and legal affairs on behalf of the other subsidiaries.

Most of its operations have declared losses for the past ten years.  However, the books of accounts of its subsidiary, Matecash in Mende Islands have continuously improved with large volumes of transaction emanating from engaging in business with its other related subsidiaries.

In the Year 2018 the company Shamudulilo Energy Plc in Temboland farmed into Calabash resources located in Alsania where it acquired 30% of its shares and therefore becoming the second-biggest shareholder.  Comodore Oil is a majority shareholder in Calabash resources and its Headquartered in Conundrum Iand which is also a renowned tax haven.  Comodore Oil owns 20 per cent in Conglomerate LLC which is located in Caconia.  Shamudulilo also owns 10% of Conglomerate LLC. Metcash, Idemen’s subsidiary in Mende Island owns 70% of Commodore Oil.

The board of Indemen Resources only sits and makes decisions in Jugoland and has only 1 of its directors from each of its subsidiaries sitting on the board as a non-executive board director.

Recently, it outsourced Labour Management to contract to Luguburious Consulting. Luguburious Consulting is registered and located in Conudrum Islands and has shares in Metcash Intl and Commodore Oil.

Luguburious Consulting is responsible for the recruitment and placement of staff in all Indemene’s subsidiaries. The staff are recruited on a 6 months’ contract, only renewable upon satisfactory assessment and passing of a regular test. Luguburious also provides copyrighted hi-tech technology to Indemene’s subsidiaries, including Shumudulilo Energy Plc in return for a fee. It also sells water purification equipment to conglomerate LLC.

Jugoland, where Indemene Resources comes from, has a Double Taxation Agreement with Temboland and under which Income taxation on dividends, interests, royalties are capped. Management or expert director fees from these Countries are exempt. Also, 100% of income repatriation from these Countries is allowed and exempt from Taxation.

In 2011, Jugoland, as a sign of reassurance of the bilateral cooperation between the two countries and has committed 100 bln dollars to support the Country’s fiscal reforms for the next five years.

Indemene Resources has been declaring losses in your Country, Temboland and in Jugoland. But recently, you have heard that Conglomerate LLC has intentions to buy Indemene Resources through either a Merger or Acquisition which will make it the biggest Company in the region. The deal valued at 890 billion dollars is the largest ever recorded in recent history.

As a Tax justice campaigner, a Tax Administration Officer or Policymaker, you have been asked to examine and brief the President on this entire scenario

What are the key issues would you bring to the attention of the President? What are the potential legal and taxation issues do you see?  What would be the appropriate transfer pricing methods you could apply in determining the arm’s length price of transactions between these companies. What policy, legislative and actions would you recommend for the government to take without necessarily being exposed to litigation and sparking of accusations of the government as being against foreign investors?

 

 

[1] Moses Kulaba:  Double Taxation Agreements: Gain or Loss to Tanzania? A study by Tanzania Tax Justice Coalition, May 2016

 

SADC in Economic Meltdown; Can Tanzania be German of the Region?

On Saturday 17th August, Tanzania assumed the chair of the South African Development Cooperation (SADC), amidst disturbing economic figures indicating that the region was facing a serious economic meltdown. Can Tanzania be the ‘German’ of the region, playing the economic big daddy role by calling the other states into political order and bailing out the struggling member states?

By Moses Kulaba, Governance and Economic Analysis Center, Dar es Salaam, Tanzania

The SADC is a 16-member state regional economic block established with among others promoting sustained economic growth and sustainable development amongst its objectives. However, the recent economic data indicates that region is witnessing an economic meltdown with most of its member states, except perhaps Tanzania, positing negative or stunted economic growth over the past years.

According to the economic and social indicators data compiled and released by its secretariat the the SADC region posted an estimated average growth rate of 1.4% in 2016 compared to 2.3% in 2015. At country level Tanzania registered the highest growth of 7% among the member states followed by Botswana with a far below rate of 4.3%[i].  

In 2017 Tanzania recorded an economic growth of 7.1% followed by Seychelles (6.3%) whilst Angola registered negative growth for the second consecutive year in order of 2.5%[ii] The region’s growth was increasing at a decreasing rate since the post global period in 2009.

The region’s economic giant South Africa has witnessed rapid economic slowdown, bring along its small neighbors and trading partners under its weight.  Countries such as Zimbabwe were collapsing under the weight of economic sanctions, Namibia and Angola recorded negative annual real GDP (at market price) of 10.8% and -2.5% respectively in 2017 due to the slump in commodity prices and other related risks. Botswana at 2.4% did not perform well either. The region posted an overall trade deficit with rest of the world of USD6.7bln. 

The AfDB report for 2018 warned that the economic outlook for Southern Africa region was cautious[iii]. Broad based economic activity was expected to recover at slow pace, but the outlook remained modest given the diverging growth patterns for the region’s economies. Upper middle income countries turned in low and declining rates of growth meanwhile lower income transitioning economies recorded moderate and improved growth, albeit at reduced rates.

Despite the improvement, economic performance remained subdued as the region’s economic outlook continued to face major headwinds. High unemployment, weak commodity prices, fiscal strain, increasing debt and high inflation.

Real GDP was estimated to have grown at an average of 1.6% in 2017 before increasing to a projected 2.0% in 2018 and 2.4% in 2019.

The future regional growth was expected to be bolstered with primary expectations of increased investment in non-oil sectors such as electricity, construction and technology in large infrastructure projects, mining as well as continued recovery in commodity prices.

However, the latest figures show that the region was not well on that front either.  The decline in commodity prices in recent years reaching the lowest point in 2015 translated into significant income loses for the economies, implying a negative impact on public and private sector spending and therefore growth in employment.

Before the 2008-2009 global recession, the region experienced moderate growth, though individual countries contributed differently. For example, Angola, Mozambique and Namibia exhibited robust growth that collectively outpaced the regional group.

Thereafter, Angola, the region’s foremost oil producer and former raising economic star received the worst bashing with its economy experiencing adverse economic growth effects due to weak oil prices.

Overall the region experienced negative GDP growth with Swaziland (-10.08%), Zimbabwe (-8.38%),  and Angola (-6.31%)  being among the worst hit[iv]  Other Countries such as Zambia, Namibia , Mozambique and Malawi were not performing better either. South Africa reported the highest public debt soaring in billions dollars followed by Angola.

South African Institute of International Affairs observed that intra-regional investment and trade levels had declined markedly since the commodity slump in 2013. Moreover, the trade and economic growth in the region remained imbalanced, exacerbating political strains among member states. Non-tariff barriers and other factors had adversely affected intra-regional trade and investment in recent years.

Assuming the mantle, at the end of its 39th Summit held in Dar es Salaam, Tanzania’ President John Pombe Magufuli was furious with against the Secretariat for having not provided adequate and alert to the political leadership that the region was experiencing an economic meltdown with reduced or stunted growth and an expanding trade deficit.

Speaking at the SADC People’s forum on the sidelines of the main summit in Dar es Salaam, the South African Professor, Patrick Bond, described the situation as alarming, catastrophic and turbulent and yet no one was bold enough to speak about it.

He was perhaps communist in view and radical in approach, blaming what he described as the capitalistic enterprise and its puppeteers for under mining economic justice, risking lives of by putting profit before the people and causing climate change whose effects were ravaging SADC but remained quite revolutionary in suggesting that the ordinary people perhaps needed to send a clear signal to its political leadership that all was not okay. The economic fundamentals were tattered and the regional leaders needed to wake, Prof. Bond lectured.

Can Tanzania emerge and become the ‘German’ of the region?

With this state of the Union, the question therefore arose can Tanzania emerge and become the ‘German’ of the region, playing the economic messiah role by providing both political leadership and economic bail out to its neighbors. 

In 2013 up to 2015 when the European Union experienced economic turbulence, Brussels turned to German to liberate it from the gigantic economic Dracula which was tearing down its economic block and leaving some of its small states indebted and facing bankruptcy. German wrote cheques in financial bailouts, provided guarantees and political prop up for economically struggling states such as Greece, Portugal and Italy.

German relied on its economic prowess and its political might as the industrial central pillar of the European Union. The charismatic leadership of its Chancellor, Ms Angela Merkel, was a distinct asset. Even at the risk of her own political career and constant onslaught from the German far right, Merkel could not tolerate any nonsense and was not ready to allow Europe to fall back.

In the face of the similar economic doldrums which seems now to face SADC, can Tanzania afford such muscle or a German equivalent?

Tanzania has done it before. In the 1960’s until 1990’s when the region was facing serious political, Tanzania pulled up its resources and committed it to the liberation struggle. It hosted training camps and provided pupilage to thousands of liberation fighters. Dar es Salaam became to the political headquarters of Frontline States where the idea of SADC in its current form was initiated and a spring for independence for many of the current South African states.  For some, therefore SADC at 39 years, just came back home.

In assuming the SADC Chairmanship, President Magufuli warned the Secretariat that it will not be business as usual as of now and for the next one year his interest would be to see that resources placed at the disposal of the Secretariat were not spent on conferences but on meaningful tangible projects which benefited the people. Could this be the kind of approach that region needs to take in order to deal with its increasing economic challenges.

An agile kind of leadership which places the people at the heart of politics and fights with cunning shrewdness against corruption, public waste, nepotism and personal drive to accumulate wealth by those in power.

Over the years these have been some of the vices which have dogged the region and bringing the much needed progress to stagnation and ultimate halt in some member states. Comparatively, perhaps the SADC is the largest economic group in Sub-Saharan Africa. With over an estimated population of 337.1 million people in 2017, is larger than its western equivalent, the Economic Community of West African States (ECOWAS) and obviously bigger than the European Union has a just a fraction of the SADC population yet somehow progress has been considerably steady in the other regions.

According to experts the region was faced by multiple non trade barriers and low intra region trade which still at around 20%.  Technically, speaking, the members are happy to do business with other countries outside the region rather than their economic neighbors partners in SADC. The member states are living alongside each other but not fully economically and trade integrated.

Political uncertainties which has dogged the former economic giants of the region such as South Africa, Zimbabwe, Mozambique and Angola created fertile conditions negative to investment and economic growth.  The governments lost grip on the economic mantle and directed attention towards managing internal politics and mechanics for political survival.  

Xenophobic attacks in South Africa could have also created a sense of fear and caused disarray in a fragile informal sector which was quietly the driving factor or fulcrum on which the South African economy relied. Crushing cost of electricity, turmoil in the extractive sector and stalemate in the platinum industry in 2016 perhaps were also a contributory factor to South Africa’s political woes. 

Overall, according, to Professor bond, the region was just poorly governed and a new leadership impetus led by the people was necessary to bring back the declining glories

For many years SADC was so much preoccupied on political stability. With good success, it has managed to tackle conflicts and bring peace amongst its member states. Overall, political conflict in the form of civil wars in the region has been declining with all except the DRC reporting any semblance of a conventional Civil war in recent years. 

Even, this has significantly been downgraded in recent years. Currently, there is no severe risk of any threat from any member state to destabilize any other through an arms insurrection. The ongoing conflict in the Eastern DRC is largely a war of survival for the remaining tribal and ethnic elements rather than a fully-fledged military configuration to overall and capture power in the DRC. If it can be dealt with, then perhaps the war in the DRC will be over or significantly reduced to minimal levels in many decades.

The future wars of the SADC will therefore be largely economic and perhaps resource based on key issues such as land, water and control of the real means of production and profit. Acute poverty could be the other driver of the masses towards insurrection. For Tanzania therefore, to take up the German challenge will be a touch endeavor.

Tanzania’s economic benefit or contribution to the region is too minimal. According to trade statistics, Tanzania is among the least exporters to SADC and its overall trade balance with its SADC neighbors was still low. It therefore lacks the economic might of German stature.

Over the past three years Tanzania’s political leadership has commitment itself to building its economy first before looking outside. Cutting back on public waste and flogging its population into line to start paying up taxes to finance its public service and infrastructure ambitions, Tanzania is building its economy from within.

Throughout the 1960s to the 1990s Tanzania sacrificed a lot in order to politically liberate virtually all the SADC member states and yet gained very minimal in return.  Political historians have even have even argued with some level of confidence that Tanzania under developed itself in sacrifice for others to develop. Tanzania would be therefore quite cautious in economic diplomatic terms and perhaps uncomfortable at this moment in giving out too much of what it has acquired over the years to salvage its economic neighbors.

The conditions in the region appear to have turned so bad in the past few years with persistent drought raving across the region only to be replaced by wrecking floods leaving behind famine and death in communities along its way.  Approximately over 1000 people dies in the last floods in Mozambique and Malawi caused by cyclone Idai and Keneth. Millions at a risk of starvation.  Essential infrastructure such as road and bridges connecting rural areas to urban centers and across countries such as the port of Beira are badly battered and incapable of supporting economic productivity.

The region has not been able to attract in Foreign Investment into its natural resource wealth and flagship infrastructure projects such as the Mighty Inga dam electro power project in the DRC which would have brought life into the SADC power master plan have remained incomplete for many years now. The region is badly in need of both reconstruction and reconfiguration to sustain itself and its ambitions.

At the end of the summit Tanzania’s former President Benjamin Mkapa advised that SADC member states should stop relying heavily on foreign donors for aid to support or finance their development agenda. Building internal capacity through a reliable market for products from the block, investment in education, technology, domestic revenue collection and unlocking the potential amongst its budging population to drive the economies forward would be a better option. Perhaps the SADC leadership should fine tune an ear to the wisdom of its elders.

The meeting concluded with signing off of three development cooperation programs worth 47 Million Euro deal with the European Union under its European Development Fund (EDF) 11 financing round. According to official statement, the funds will be used over the next five-year period to support improvement in the Investment and Business Environment (SIBE), Trade Facilitation Program (TFP) and Support to Industrial Productive Sectors (SIPS) three programs to be implemented by the SADC over the next five-year period

The SIBE program aims at achieving sustainable and inclusive growth and job creation by transforming the region into an investment zone, promoting intra-regional investments, foreign Direct Investment and a focus on Small and Medium Enterprises. The TFP will contribute to enhance inclusive economic development in the region through deepened economic integration while the SIPs aimed at contributing to the SADC industrialization agenda, improving performance and growth of selected value chains. How this EU injection translates into lifting the region from its economic downward spiral will yet to be found out at the next summit when SADC turns 40. What is clear is that something has to be done.

[i] SADC: Selected economic and social indicators, 2016

[ii] SADC: Selected economic and social indicators, 2017

[iii] AfDB: Southern Africa Economic Outlook, 2018

[iv] https://countryeconomy.com/countries/groups/southern-african-development-community

Elation as Kenya exports Oil; what does it mean for Oil rush in East African region

On 1st of August 2019, President Uhuru Kenyatta announced that Kenya had joined the list of world oil exporting Countries by selling its first crude oil at a cost of 12 Million United States dollars.

While the news reverberated across the Country and the region with elation, it is also possible that Kenya’s announcement could trigger a contagious rush to the bottom with East African Countries jostling to outcompete each other by signing off deals and agreements locking off future markets with potential buyers. Some of these deals may not be necessarily good.

By Moses Kulaba; Governance and Economic Analysis Center

Addressing the cabinet and media in Nairobi, President Kenyatta said Kenya had sold its barrels of crude oil to a buyer whose identity still remained a secret.

“We are now an Oil exporter. Our first deal was concluded this afternoon with 200,000 barrels at a price of USD 12 Million.  So I think we have started the journey and it is up to us to ensure that those resources are put to the best use to make our Country and to ensure we eliminate poverty, said Kenyatta.

The news reverberated in the region and globally with a new player on the market. Obviously there was more excitement and elation in the Lokichar Oil fields where Tullow Oil and its joint partners continue to explore more blocks with more vigour and determination.

Kenya discovered its first Oil in 2012 and since then, explorations have continued in the Lake Turkana basin region with deposits being reported and more projections made to increase. In its previous reports Tullow estimated some 560 Mln Barrels in possible reserves and these are now projected to increase as prospects for more discoveries are higher than before.

This would translate into 60,000 to 10,000 barrels per day of gross production, which is said to be insufficient to warrant the construction of a refinery locally hence the export plans

The sold consignment was delivered by truckers at the Kenya Petroleum Refineries facilities in Changamwe, Mombasa since July last year, under what the government described under the early oil project

What does this mean for Kenya and the East African region?

The deal concludes that Kenya once ruled off as an oil novice in the region, with the lowest volumes of discovered oil is running a head of its East African neighbors in reaching exporting oil country status many months before any of its East African neighbors can sell a drop of oil.

For Kenya, this is game changer in regional geopolitics as not only does the oil revenue bring a new line of foreign exchange earnings into its economy and thus consolidating its position as the regional economic superpower.

Galvanizing on its early market entry status, Kenya could tap the available markets and seal off any available contracts beating off any potential competition from its neighboring countries.

The oil revenues could also breathe some life into its Lamu Port South Sudan Ethiopia Transport (LAPSSET) Corridor development plan which has stalled for among others lack of partners. With oil revenues flowing, Kenya can go alone developing the ambitious infrastructure projects along the corridor all the way to the Ethiopian boarder.

Contrary to nay Sayers, the oil export could be a window to emboldened security in the Turkana area as the government seeks to protect vital oil installations and export routes to the coast.  For many years, Lake Turkana basin has been one of the most volatile and insecure areas in Kenya as marauding armed warriors move from one village to another raiding for cattle. Civilians and military installations have been attacked and people killed.

In June, 2018 Turkana residents stopped five trucks from ferrying crude oil to Mombasa over rising insecurity along the border with Baringo. The resident complained of insecurity in the area but also complained of what they call consider unresolved issues on oil sharing benefits between the National governments, County governments and local communities over the 5% share which they wanted channeled to their bank accounts rather than for development as rallied by a section of leaders.

There is no way we can be a security threat to the oil we have protected and guarded for years. So the specialized and additional security personnel (protecting oil) should head to Kapedo and secure people.

Kenya’s oil export announcement could trigger a contagious rush for oil in the East African region, with each country racing to drill to bottom in search for oil. In an effort to outcompete each other, those already with oil discoveries such as Uganda and South Sudan could race to the market sealing off deals and contracts with potential buyers and agreements for future markets. Some of these deals maybe bad.

 Uganda was the first to strike oil around its Albertine graben in 2005. According to Uganda’s Ministry of energy the petroleum deposit discovered so far were estimated at 6.5barrels of which 1.5bln are considered as recoverable.

The Ugandan oil is supposed to be exported to the global market through a 1,443 electric heated East African Oil Pipeline (EACOP) via Tanzania. The East African Crude oil pipeline is expected to unlock East Africa Oil potential by attracting invest and companies to explore the potential in the region.

According to the project schedule available on the EACOP website the detailed engineering and procurement and early works were supposed to have been made in 2018 and construction started in 2019. The first oil exports were expected in 2020. But it appears all these are behind schedule.

According to Ministry of Uganda expected to conclude its financial deal for its joint pipeline with Tanzania by June, 2019, opening for the way for its construction. According to the information provided by then, Stanbic Bank Uganda, was supposed to be the lead arranger for USD2.5billion funding for the 1,455 km (EACOP) project. The deal was expected to have been concluded in June, 2019.

Kampala was also expecting that the Final Investment Decisions (FID) between the government and the oil partners to determine when funds for the project will be made available, the terms of the financing and when the project execution will commence with a projected timeline between 20 and 36 months

The pipeline was expected to jointly develop the USD 3.5 billion pipeline, described as the longest electrically heated crude oil pipeline in the world. The balance of USD 1billion is expected to come from shareholders in equity

However, by the time Kenya announced its export deal in July, the earth breaking ceremony commencing the start of the EACOP pipeline construction had not started. Negotiations were reported as ongoing. In June 2017, the Daily Business Newspaper carried an article with a headline ‘Uganda’s Oil may not flow by 2020’ as the required infrastructure may not be complete  by then[i]

What this means for Uganda is that time is of essence and the sooner the EACOP project construction takes off the better for its potential oil market.

Figure 3: The Government of Tanzania and Uganda sign the Inter-Governmental Agreement (IGA) for the East African Crude Oil Pipeline (EACOP)  in May, 2017

 

So why do some oil projects like take long to materialize?

Lack of astute leadership, effective institutions and canning ambition to drive the projects to fruition. In some countries the political leadership and responsible institutions can be weak, whereby the essential operational process surrounding the oil projects can be clogged in political rhetoric and undertones which make decision making quite cumbersome, inefficiently slow and less assuring to the investors

Technical aspects such as Quality of crude oil discovered

High Sulphur crude oil can such as the Ugandan and Kenyan crude oil can be waxy and costly to transport via pipeline as it requires constant heating along the route.  This explains why the 1,433 km EACOP is described as the longest electric heated pipeline in the world. This adds to complexity in technology and costs on heating required to operationalize the project. Investors may

Oil reservoir behaviors and recoverable volumes – The discovered oil reserves are not always the same as the recoverable volumes. In some projects the reserves can be large yet due to geological and technological factors the recoverable volumes are low.  The behavior of the oil reservoirs is therefore a significant factor in determining whether the recoverable volumes will be consistent with the early projections and economic models over the plateau period. A change in the recoverable volumes can trigger massive losses and may lead to complete closure of the oil project. Investors are happy to rush projects where recoverable volumes will be sustained

Financing aspects such as financing structure -Lack of financing for some reasons or high interests on the investment loans secured from investment-lending institutions can be a delaying factor.  The decision to invest may therefore take long as the investors or partners to the oil project juggle and weigh the available financial options viz a vis the current and future costs of the project on the country and the investors

Economic metric considerations such as the Net Present Value (NPV), Rate of Return (RoR) and Internal Rate of Return (IRR) of the project.

These are calculations undertaken to determine the economic and financial viability of the project. They are used to determine how much return and how long it will take to recoup the initial investment and starting generating profit.

According to online sources such as Investopedia, the Net present value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows over a period of time. NPV is used in capital budgeting and investment planning to analyze the profitability of a projected investment or project.

The Rate of Return (RoR) is the net gain or loss on an investment over a specified time period, expressed as a percentage of the investment’s initial cost. This simple rate of return is sometimes called the basic growth rate, or alternatively, return on investment, or ROI. If you also consider the effect of the time value of money and inflation, the real rate of return can also be defined as the net amount of discounted cash flows received on an investment after adjusting for inflation.

The rate of return is used to measure growth between two periods, rather than over several periods. The RoR can be used for many purposes, from evaluating investment growth to year-over-year changes in company revenues. Its calculation does not consider the effects of inflation.

The internal rate of return (IRR) is a measure used in capital budgeting to estimate the profitability of potential investments. The internal rate of return is a discount rate that makes the Net Present Value (NPV) that makes the Net Present Value (NPV) of all cash flows from a particular project equal to zero.  It is mathematically calculated as IRR=NPV=t=1∑T (1+r)t −C0 =0)

IRR is the rate of growth a project is expected to generate. The IRR is used in capital budgeting to decide which projects or investments to undertake and which to forgo.

Generally speaking, the higher a project’s internal rate of return, the more desirable it is to undertake. Assuming the costs of investment are equal among the various projects, the project with the highest IRR would probably be considered the best and be undertaken first. IRR is sometimes referred to as “economic rate of return” or “discounted cash flow rate of return.”

Social factors such as land acquisition and due diligence for compensation– The nebulous and intricate balancing act between the local laws and the international standards as guided by the International Finance Corporation can be a hindrance. Quite often the local standards for compensation can be law, corrupt unfair yet the IFC standards requires fair and equity

Negative diplomacy: The oil projects could delay or fail to take off all together due to negative diplomacy. Whereby disgruntled actors such as activists, companies, politicians who may not be excited or about the project may quietly lobby, urge, convince or cajole the financing institutions not to finance the project.

Security Risk:  Oil projects cost lots of money in investment and thus require assurances that financial investments and their installations will be guaranteed.  Oil projects can stall as investors and their partners gauge the security risks

Some or all of these factors could be now at play in the East African region and could be explanatory factors as to why some petroleum projects are progressing at a snail’s pace or stalled all together. Perhaps Kenya’s early oil export could be trigger for its neighbors to start thinking ahead.

 

 

 

[i] https://www.businessdailyafrica.com/economy/Uganda—oil—2020-Standard–Poors-Tanzania/3946234-3982464-j7rbsq/index.html

How will the South African 2019 Proposed Financing Provisioning Regulations affect mining companies? *

As East African Countries grapple on how best to manage environmental payments for compensation and rehabilitation of decommissioned mining sites, the new legal regime in South Africa could be a development to watch as it provides some drastic measures that have sent shockwaves with in the mining fraternity as reported by Ensight Africa, Online tax bulletin.

By Edwin Berman, Ntsiki Adonis-Kgame and Zinzi Lawrence, Ensight Africa Online Tax Newsletter

In May 2019, the South African Proposed Regulations Pertaining to the Financial Provision for the Rehabilitation and Remediation of Environmental Damage caused by Reconnaissance, Prospecting, Exploration, Mining or Production Operations, 2019 (the “2019 Regulations”) were released for public comment. The 2019 Regulations are informed by industry consultation; however, they still fail to address some of the serious concerns raised by the mining industry and introduce new onerous provisions.

The first attempt at regulating financial provision for costs associated with the remediation and rehabilitation of impacts to the environment associated with mining activities, was through the Financial Provisioning Regulations, 2015 (the “2015 Regulations”). Following an outcry from the mining industry, the 2015 Regulations were amended on 26 October 2016. Since then, two iterations of the financial provision regulations (2017 and 2019) which sought to repeal the 2015 Regulations, have been published.

Some of the effects of the 2019 Regulations on mining companies are the following:

Applicants and holders

Applicants and holders of reconnaissance permits will be required to provide financial provision for rehabilitation. By definition, reconnaissance permits, as contemplated in the Mineral and Petroleum Resources Development Act, 2002, involve non-invasive work and therefore do not lead to environmental harm. Accordingly, there is no basis for requiring holders of reconnaissance permits to make financial provision.

Double provisioning

Regulation 7(3) provides that “funds set aside for financial provision must remain in place until a closure certificate is issued, unless a withdrawal as contemplated in regulation 11 is allowed”. Regulation 11 outlines the procedure for holders to follow when seeking to withdraw financial provision, and provides that the Minister of Minerals and Energy (“Minister”) must approve withdrawals with the concurrence of the Ministers of Human Settlements, Water and Sanitation and of Finance. The withdrawal of financial provision can only occur after the stringent requirements stipulated in regulation 11 are met and are only allowed for decommissioning and final closure and not for ongoing or concurrent rehabilitation.

Since the financial provision is not accessible to the holder for use during the life of the right, the holder has to effectively make double provision (the first being financial provision and the second being actual expenditure incurred for rehabilitation). The implications of regulation 7(3), read with regulation 11, is that there will be a rise in the cost of mining.

Auditing and specialist reviews

Regulation 12(2) prescribes that the determination, review and assessment of financial provision must be undertaken by a specialist. Regulation 13(1)(a) requires that the assessment undertaken by a specialist must be audited by an independent auditor, included in an environmental audit report and must be submitted for approval to the minister. This however places an extraordinarily administrative and cost burden on the industry, more so on junior mining companies.

Value-added tax

Another onerous provision introduced in the 2019 Regulations is the inclusion of value-added tax (“VAT”) in the financial provision calculation. Expanding money for rehabilitation is not a vatable supply as contemplated in the VAT Act, 1991. Inevitably, this will result in a further increased cost of mining in addition to the issues of duplicate funding/double provisioning and the burden of auditing discussed above.

Date of compliance

Holders of prospecting rights and mining rights or permits, who applied for the right or permit prior to 20 November 2015, will be required to comply with the new regulations no later than three months following the first financial year end of the holder post 19 February 2020. Given that the due date for submission of comments to the 2019 Regulations was 1 July 2019, the 2019 Regulations are most likely to be finalised later this year, giving holders insufficient time to comply with the 2019 Regulations. Current financial provision quantum calculations for holders would need to be revised in accordance with the new methodology and this would require existing holders to fund the increased financial provision. Practically, most mining companies will encounter difficulties with complying within the contemplated compliance date.

Penalties and offences

The 2019 Regulations have increased the number of offences tha are punishable, by a penalty of up to ZARR10-million, or up to 10 years imprisonment, or both a fine and imprisonment. The offences include inter alia, the failure to provide funds for annual rehabilitation from the operational budget and set aside funds for financial provision; the failure to provide funds using one of the agreed vehicles and failure to make reviews and decisions accessible to the public.

*This article first appeared in ENSAfrica ENsight Africa online tax bulletin

How to manage transboundary petroleum resources as Somalia and Kenya talk conflict off East African Coastline

 

The war of words and negative diplomacy between Kenya and Somalia over the disputed potentially oil and gas rich territory in the Indian Ocean has rekindled the importance of understanding how to manage transboundary petroleum resources. Petroleum does not know political borders. The vagaries of geology have dictated that sometime petroleum resources occur in trans boundary areas. How nation states collectively manage these resources can determine whether they effectively harness the benefits from these resources without going to conflict.

By Moses Kulaba, Governance and economic analysis centre

Management of petroleum resources or revenues from ‘trans boundary or ‘disputed’ areas has always been an issue of controversy in most petroleum resource rich countries.  It is a source of disputes and a challenge to investors, planners and policy makers when parties or Countries fail to agree amicably on the ownership of these resources and revenue sharing mechanisms for resources from these areas.  Trans-boundary resources are also called ‘common’ or shared resources.

In Tanzania and the wider East Africa region management of resources in ‘potentially contestable areas’ and ‘trans boundary’ areas are becoming a major challenge as some of the petroleum resources are found closer or along the boundary areas. It will be even more challenging in the nearby future as the gas and oil starts flowing.  If not addressed it will be a big hindrance to investment and development of the petroleum sector. In East Africa, currently there is no concrete and pragmatic approach to addressing this challenge.

The East African dimension

In a broader East African context, seismic studies have indicated that petroleum resources may be largely found along Trans international boundary areas. This has created disputes and raised challenges for proper resource management and revenue sharing arrangements. For example the discovery of petroleum deposits in the Albertine basin generated trans boundary tensions between Uganda and the DRC along the Lake Albert. There are disputes over petroleum in Unity state along the South Sudan and Sudan border. There are disputes between Kenya and South Sudan along the Nadapal area (Block 11 A & B) and Kenya and Somalia along the Wajir border area (block 1, 2 &3) and Indian Ocean Coastline continental shelf.

In 2014, Somalia filed a before the International Court of Justice, accusing Kenya of encroaching on its potentially rich petroleum rich maritime territory off its continental shelf. Both countries have claimed ownership of an approximately 100,000 square miles in the Indian ocean waters suspected of having vast oil and gas deposits.

The conflict largely arises from a dispute in regards to how the international border between Somalia and Kenya should drawn and internationally recognized. In the case before the ICJ, Somalia wants the maritime boundary to run diagonal, as an extension of the land boundary, while Kenya wants it to run parallel to the latitude, east wards, south of Kyunga. Both countries have relied on the straight-line principle in the International Law of the sea. Somalia wants the boundary to run south east wards and has vowed not surrender what it considers, its territorial integrity.

Figure 3: East African Exploration Map 2010-Source: Vanoil Ltd Energy-Kenya

In recent months there has been an escalation the war of words and negative diplomatic relations. Kenya in April barred Somali Officials from entering into Kenya and further banned unaccompanied luggage from Somalia and required that all aircrafts flying into Kenya from Somalia should temporary land in the Northern town of Wajir for a mandatory security check before flying into Nairobi.

The recent diplomatic row represents a significant development between the two neighbors which could escalate into a full-blown out conflict. It further reflects the common resource quagmire that neighboring petroleum rich nation states often find themselves and further shows that latent conflicts emanating from transboundary petroleum resources exist in East Africa.

It is therefore important that viable solutions are reached even without addressing the international law (Law of the sea) challenges facing Kenya and Somalia and the international political concerns or interests in East Africa yet significant challenges and ways of resolving this problem do exist.

Specific problem

  • There is lack of clarity for policy makers, planners and tax administrators on how to share the revenues from these areas
  • Uncertainty and wavering Investor confidence to fully commit their investment and as a consequence petroleum resources in potentially disputed or Trans boundary areas have remained unexplored. For example, licensed blocks operated by Shell in Tanzania’s waters closer to Zanzibar have remained   unexplored for a long time
  • On a wider East African level there are missed opportunities for joint investment promotion.
  • There is a ‘Race to the bottom’ as East African Countries under cut each other with lucrative fiscal terms in competition to attract petroleum investors into their own territories, without looking at East Africa as a whole
  • There are ongoing and underlying territorial disputes which could erupt into full blown out conflicts, risking the current and future investments into the petroleum sector

Currently, a lot has been written about these possible challenges but very limited pragmatic steps have been taken to address these challenges. There has been some significant discussion about the issue but there have been no pragmatic viable options provided which can be acceptable to the protagonists in the conflict.

If some pragmatic solutions are found for Kenya and Somalia, similar suggestions could also be used to inform approaches taken by other East African governments within the wider East African framework to address similar other potential disputes along their border frontiers.

Some international approach to similar challenges

The answer to nature’s conundrum where petroleum resources migrates within or across a country’s border has always been unitization.  Unitisation is one of the legal devices which seek to remove the destructive competitive elements stimulated by the rule of capture (as advanced in the United States legal tradition under which the title to petroleum belongs to the owner who physically extracts it from a well on his land, even if petroleum has migrated underground from neighboring lands). With unitisation petroleum deposits are exploited as a whole, expenditure is reduced and recovery is maximized.  Unitisation is accomplished through a unitization agreement. A unitization agreement is an amicable solution between parties as individuals, group of individuals or states holding exploitation rights in common petroleum reservoirs by which the reservoirs will be exploited in an integrated manner.  The reservoir is treated as one whole and the costs and revenues shared between the parties according to an agreed formula defined by parameters such as geological technical factors, investment or operational costs and volumes of the reservoir. An international unitization agreement (Unit operating Agreement) can be signed between relevant international companies from both states subject to the bilateral treaty outlining the rights and obligations of each company and issues like selection of operator or determination of tract of participants.

International law remedy and Joint Development Areas

The International law remedy to offshore ‘trans international boundary’ petroleum resources is provided within the ambits of the United Nations Law of the Sea Convention of 1982 (UNCLOS) which obliges states which have not been able to agree on boundaries of their continental shelves and exclusive zones to make efforts to enter into provisional arrangements  of a practical nature to develop the petroleum deposit  located in the overlapping geographical area under dispute whilst not foregoing their sovereignty rights to the deposits  in place  in its territory or continental shelf.

This international law remedy is the backbone on which the idea of Joint Development Areas or Zones is built. Joint development is an arrangement between two states to develop and share in agreed proportions the petroleum found within a geographical area whose proportions the petroleum found in a geographical area whose sovereignty is disputed; and the geographical area is an overlapping area under dispute with undefined boundaries to which the two states are entitled under International law. The JDA is established by a treaty, agreement or any recognisable legal document stating the rights and obligations of each party. The JDA’s can be divided into separate contract areas where deposits can cross the internal boundaries of those contracts and those that cross the JDA’s into third party states.  Both approaches are geared towards securing mutual cooperation and maximizing benefits from the petroleum resources. The treaties or agreements incorporate procedures to minimize disputes and resolve disputes. The following country experiences can be benchmarked:

Possible country experiences for benchmarking

Norway’s experience with United Kingdom

Norway is a good example of the significant economic benefits that can be achieved through strong cooperation and bilateral relationship. Norway has entered various treaties as examples of successful border unitization and management of resources straddling across a vast maritime area between Norway and United Kingdom. On March 10, 1965 Norway and the United Kingdom signed a bilateral delimitation treaty and this agreement constituted the first detailed provisions for action to be taken in the case of a petroleum deposit straddling cross border. This treaty was a voluntary agreement of a maritime border and acceptable cost and revenue sharing formula based on the volume of resources. This treaty provided a basis for three more cross border unitization agreements covering the Frigg, Stratfjord and Murchison Field signed in 1976, 1979 and 1979 respectively.

Norway is also a unique good example of managing Trans boundary petroleum resources by three neighboring states. This experience was demonstrated in the joint management of the Markham Field reserves. In 1965 the United Kingdom and the Netherlands signed a bilateral agreement to establish the boundaries of the Dutch continental shelf, when a petroleum reserve of approximately 700 cubic feet was discovered the licence was awarded to a Dutch company-Ultramar Exploration (Netherlands BV). The discovery was named Markham Field and jointly managed under the Markham agreement signed between the United Kingdom and Norway for unitization of petroleum resources straddling across the maritime borders. The United Kingdom’s health and safety authorities and their Dutch counterparts, the Straatstoezicht op de mijen, had unlimited access to all facilities and information related to the management of the resources. The UK and the Netherlands governments imposed taxes and shared profits as per their fiscal regimes and applicable double taxation conventions The Markham agreement provided a framework for successful development of the field and a possible template for any future unitization between three states

Norway has also taken a pragmatic framework agreement approach in resolving managing Trans boundary petroleum fields without involving distinct intergovernmental treaties. This approach was taken in 2005 by Norway and the United Kingdom in managing the Enoch & Balne Oil fields Norway’s focus has been on securing economic benefits for both states, with provisions made for possible development of resources with infrastructure located on the one side of the boundary. More examples of such approaches include the development of the Boa field which is mostly in Norway and the Playfair fields which are almost entirely in the United Kingdom. Since 2005 Norway has signed more treaties with Russia in the Barents Sea and thus excelled as a champion in managing off shore Trans boundary resources in contentious territories.

East Timor (Timor Leste) and Australia’s experience

In Asia-Timor Leste and Australia are good examples of joint management of Trans boundary petroleum resources. In 2002 East Timor and Australia signed the Timor Sea treaty between the two governments. This treaty enabled the joint development of petroleum resources in the maritime area located between East Timor and Australia. This area also known as the ‘Timor Gap’ had been controversially disputed and subjected to an earlier Timor Gap Treaty in 1989 between East Timor, Australia and Indonesia.

The Timor Sea treaty established a Joint Development Administration (JDA) and provides that Australia and East Timor shall jointly manage, facilitate, exploration, development and exploitation of the resources within the JDA for the benefit of the people of the two countries. The treaty has also provided an acceptable revenue formula whereby 90% of the revenues from the JDA would go to East Timor and 10% would belong to Australia.

The treaty resolved the long political impasse related to the management of the Sunrise and Troubadour petroleum reserves, also collectively referred to as the ‘Greater Sunrise’ which spanned across the Eastern boundaries of the new Joint Petroleum Development Authority (JPDA). The Sunrise and Troubadour deposits were unitized and an acceptable revenue sharing formula agreed. A joint management committee was established to oversee its implementation. To date the approach is a successful model of joint petroleum resource administration in Asia. Similar approaches have been taken by Qatar and United Arab Emirates, Saudi Arabi and Bahrain.

Nigeria and Sao Tome et Principe’s Experience

In cases where countries have longstanding territorial disputes, they can reach out for third parties or independent arbitration panels or international courts of justice to resolve or advice on the best alternative to manage the petroleum resources located in these areas. This approach is referred to as the third-party approach.

This was the approach taken by Nigeria and Sao Tome et Principe in Africa, to create a border upstream cooperation and Joint Development Zones (JDZ) through Unitisation of two major fields (Ikanga and Zafiro) between Nigeria and Equatoria Guinea. On this backdrop, the government of Sao Tome et Principe claimed an archipelago status under Article 46 of the United Nations Conventions of the Law of the Sea (UNCLOS) as based on the 200 miles Exclusive Economic Zone (EEZ) determined by a median line in the North East and the North West as the median line between Sao Tome and Nigeria. The Nigerian government based its claim on the Exclusive Economic Zones Act (CAP 116) and claimed an EZZ which overlapped with Sao Tome et Principe’s zone. The two countries agreed to resolve their differences by creating a Joint Development Zone in the area of overlap to enable exploitation and licensing to proceed. Both countries have since mutual benefited economically.

Relevancy of these Countries’ experience to Tanzania and East Africa’s trans boundary petroleum resources management

As a result of these experiences, unitisation is now a major compulsory feature in petroleum legislations of these countries. The United Kingdom Petroleum Act 1998 and the 1988 Petroleum (Production) (Seaward Areas) Regulations, the Nigerian Petroleum Act of 1969 and the 1969 Petroleum (Drilling and Production) laws impose a compulsory unitization. All licence holders or contractors have an obligatory requirement to agree on a unitization. They are obliged to cooperate if and when reservoirs straddling within or beyond national borders must be developed and it is within the national interests to secure efficient maximum recovery of petroleum. Resources and revenues are managed in agreed manner without losing national or international ownership and sovereignty.

Although the Nigeria and Sao Tome’s case was an arrangement between sovereign states, this approach is relevant to Tanzania, given the similarities of the issues involved. Zanzibar is an archipelago with a specific claim to territorial waters along its coastline. Mainland Tanzania’s 200 miles EEZ overlaps Zanzibar’s territory. Nigeria and Sao Tome’s approach could towards resolving Tanzania’s petroleum resources management challenge with Zanzibar.

These benchmarked examples indicate that geological constrains, territorial disputes, political and economic differences, constitutional limitations and international boundaries should never be a limiting factor to development of petroleum resources located or straddling from one territory to another. Tanzania and the wider East African region can draw alternative solutions to the current challenges facing management of trans boundary petroleum resources:

Possible alternative or supplementing solutions

  1. In Tanzania, within the current constitutional framework there could be a ‘Partial delegation’ of legal powers to Zanzibar to enter into agreements with oil companies (state and non-state actors) subject to the Union Constitution and the Union government’s Petroleum and fiscal management legislations
  2. Delimitation of temporary boundaries for oil and gas management purposes and earmarking specific petroleum blocks which could be legally assigned to Zanzibar’s control for revenue purposes
  1. Establish Joint Development Area (JDA) or Joint Development Zone (JDZ) arrangements modeled successful arrangements like Norway and United Kingdom, Timor Leste and Australia. Agree on unitization arrangements for licensed blocks straddling outside the JDA and develop a revenue sharing formula for managing resources from JDA and Trans boundary areas. Establish a joint petroleum revenue management committee for trans international boundary areas
  1. Develop East African guidelines for unitization and Joint Development Area Management and revenue sharing for Trans boundary petroleum resources.
  1. Either off the above approaches could be adapted in resolving the dispute between Kenya and Somalia

Benefits from these options

If resolved this could lead to peaceful co-existence and increased joint attraction of foreign investment into the areas

Increase investor confidence in East Africa and open up new avenues for investment and value creation in its Petroleum sector.

Unfreeze the current blocks which are closer to Zanzibar for licensing, exploration and development. These blocks have remained unlicensed for many years, despite expression of interests from petroleum companies to develop them

Provide avenues for possible cross border petroleum resources development and sharing of petroleum energy resources at low costs and thus reduce the acute shortages of electricity and over reliance on hydroelectricity for power generation in the region.

References

  • Beyene, Zewdineh and Wadley, Ian L.G. Common goods and the common good: Transboundary natural resources, principled cooperation, and the Nile Basin Initiative. Berkerley, UC Berkeley: Center for African studies 2004.(Breslauer Symposium on Natural Resources Issues in Africa😉 at pg4
  • Cameron P.D: Cross Border Unitisation in the North Sea (Vol. 5 OGEL 2007)
  • Denis V.Rodin: Offshore transboundary petroleum deposits: Cooperation as a customary obligation; Small Masters of Laws thesis in the Laws of the Sea; University of Tromso, Faculty of Law, Fall 2011
  • Perry A: Oil and Gas deposits at international boundaries-New ways for governments and oil and gas companies to handle an increasingly urgent problem (Vol. 5 OGEL 2007);  M.O Igiehon, Present International law on delimitation of the Continental shelf (Sweet & Maxwell 2006
  • Rod Chooramum; Notes to the Field: An English law perspective on the oil and Gas Market, August , 2014
  • Sustainable Development or Resource Cursed: Managing Timor Leste’s Petroleum Revenue, Chapter 4
  • URT: The National Natural Gas Policy, 2013
  • Zanzibar Oil, Gas win cools political heat; The East African Newspaper; http://www.lawteacher.net/free-law-essays/australian-law/joint-petroleum-developmet-area.php
  • http://www.theeastafrican.co.ke/news/Zanzibar-oil-gas-win-cools-political-heat/-/2558/2877248/-/view/printversion/-/1485oatz/-/index.html. Also read: Oil and gas: How EA Can become a key global player; http://www.theeastafrican.co.ke/oil-and-gas…
  • http://www.forbes.com/sites/christopherhelman/2014/01/08/the-10-biggest-oil-and-gas-discoveries-of-2013/ accessed on 19th May 2015 at 7:45 pm
Tanzania Gold Exports increasing, amidst standoff with mining companies

 

Pundits suggested that the faceoff with mining companies over tax payments and drastic changes in the mining legislations and practices indicated that Tanzania’s mining sector was on a cliff edge with some analysists suggesting that perhaps it was headed for the unknown. With the latest reports, it is evident that the government is wining some dividends.

Figure 1: The Permanent Secretary for the Ministry of Minerals Prof. Msanjila opens a Mineral trading Centre in Chunya, Southern Tanzania

According to the Bank of Tanzania (BoT) monthly economic review report indicates that value of Gold exports which accounted for more than half of nontraditional exports in March of 2019 grew by 9.8% to USD 1,684.6million.

The report adds that the value of Gold and diamond produced by large scale miners was USD325.9Mln in quarter ending March 2019, compared to USD324 mln recorded in the corresponding quarter in 2018. Production of gold increased by 7.8% to 10,063.4 kilograms quarter -on-quarter, while that of diamond rose by 18.2%

Foreign receipts from services which accounts for 47.8% of exports of goods and services increased to USD4,085.3million in the year ending march 2019 from USD 3,823.6Mln in the corresponding period in 2018. This was largely driven by travel and transport receipts.

The value of goods and services exported in the year ending March, 2019 increased to USD 8,544.5 Mln from USD 8,488.2Mln in the corresponding year period of 2018 owing to an increase in nontraditional goods, exports which accounts for 78.0% of goods exports and 40.7% of total exports.

The central bank reported that gold exports in 2018 was worth USD 1,549 bln compared to USD1,541 bln recorded in 2017.

These central bank reports show an increase despite the standoff between the government of Tanzania and mining companies such as Accacia-Barrick Gold Company for non-tax payment. This led to a government seizure and ban on export of Acacia’s gold concentrates forcing the company into financial and operational turbulence. Accacia has since scaled back and closed some of its mining operations in Tanzania.

The government move left mining companies and stakeholders guessing what would befall the sector. Since the standoff, many major mining investment decisions in the country’s lucrative mining, oil and gas sectors have stagnated.

Companies complained that the new laws passed in 2017 were onerous, costly and bad business which included hiking of taxes on Mineral exports and mandatory requirement for a higher government stake in all mineral operations.

Recently, the government established mining trading centers where gold miners can sell their gold to the government. In early 2019, the Prime Minister gave the Ministry of Minerals six months to establish government controlled mineral trading centres in all major mineral producing areas of Tanzania.

The first mineral trading center was inaugurated by the Prime Minister in the North Western town of Geita in March, 2019, close to the biggest Gold mine owned by South Africa’s Anglo Gold Ashanti. Since then similar mineral trading centers have been opened in Chunya, Tabora and Kyerwa.

The government said these efforts were aimed at accelerating efforts to curb illegal exports of gold and other processing minerals. The trading centers will give small scale miners direct access to a formal regulated market where by they can go directly and trade their gold. They currently struggle to access formal gold dealers who mostly based in the capital, Dar es Salaam and major towns, the government affirmed.

According to Reuters, Tanzania is Africa’s 4th biggest gold producer after South Africa, Ghana and Mali and gold exports are key sources of foreign exchange.

Small scale mines produce around 20 tons of gold per year in Tanzania but an estimated 90% of the output is illegally exported according to a parliamentary committee report.

These reports suggest that perhaps the recent government moves have reduced on smuggling gold to the neighboring Countries and this perhaps explains the increased sale.

Basic understanding of Tax justice and illicit financial flows in extractive sector

Basic understanding of Tax justice and illicit financial flows in extractive sector

By Moses Kulaba, Governance and economic analysis centre, Dar es Salaam-Tanzania

The call for tax justice has in recent years gained credence as alarming evidence now shows that while ordinary tax payers are sinking under the burden of taxation on the other hand,  multibillion profiteering corporate and well connected individuals use both illegal (illicit) and deemed appropriate means to dodge taxes and shift their profits and financial proceeds   outside the country and the African continent to other destinations and largely low tax jurisdictions. The amounts moved out of less developed countries and the African continent is estimated in billions of United States dollars. The extractive sector is evidently of one of the major conduits of this illicit game of sorts and hence the focus on illicit financial flows as a subject in the extractive sector makes sense.

This policy brief highlights the basic concepts and practice of this increasing murky subject and the relevancy of   talking about tax justice and tax dogging in the Extractive Sector with various stakeholders such as professionals and students in higher institutions of learning. Students in higher institutions are a critical nexus in defining the current and future landscape of fiscal policy, taxation, tax justice and curbing illicit capital flight from Tanzania and the African continent as a whole. They are;

  • Citizens and have a right to know the intricacies of taxation, dodging tax and development
  • Scholars and Researchers
  • Future politicians and leaders
  • Future policy and decision Makers
  • Future Government Negotiators
  • Future Corporate professional and executives
  • Future Civil Society Activists, Community and Development workers

In simple terms, the future lies in the present!

Taxation and tax justice

A tax is a compulsory imposition of the state on its citizens. The tenor of Tax Justice is that everyone should pay a fair amount of tax so that the government can be able to finance or provide social, public and development needs for its citizens.

Taxation and a strong tax system may contribute to improved governance through 3 maximum channels. Taxation establishes a fiscal social contract between citizens and the taxing state. Tax payers have a legitimate cause to expect something in return for paying taxes and are more likely to hold their governments to account. Governments have a stronger incentive to promote economic growth when they are dependent on taxes.

The major concern from a tax justice point of view is that in recent times, it is evident that those who are able and should pay more are paying less or none while poor and less privileged carry a big burden through payment of various direct and indirect taxes like VAT which are regressive and unfair in nature

In this case, the concern is that available data shows that Corporate persons in the extractive and telecommunications sector dodge paying taxes by enjoying generous tax exemptions and by engaging in tax planning , tax avoidance, outright tax evasion and moving their proceeds out of the country or African continent where its generated to low or zero tax jurisdictions through illicit or deemed legal means.

These illegal movement of tax proceed and capital from one jurisdiction to another is what has been described as Illicit Financial Flight (IFF). According to reports, IFFs typically originates from three sources: Commercial tax evasion (trade mis-invoicing and abusive transfer pricing); criminal activities (including drug trade, human trafficking, and illegal arms dealing, smuggling of contraband; bribery and theft by corrupt government officials.

According to experts (Ndikumana, Boyce and Ndiaye 2015), Africa’s high level of poverty has been aggravated by the high level of capital flight. As a consequence of IFFs, tax revenue collection is low, social delivery has remained poor and development agenda are stagnating in most poor countries where it occurs

Tanzania’s Tax Collections and tax gap 2016/17

According to Tanzania’s Revenue Authority (TRA)

  • Tax Collection of 12.6% of GDP (Tsh15.1Trillion) was envisaged in 2016/17
  • However, proportion of GDP collected has not increased
  • Tanzania’s tax revenues are also low compared to international standards
  • Tax to GDP ratio is 11.9% below the EAC standards which is at 13.1% to 14.7%
  • The current tax to GDP ratio of 12% is far below the targeted mark of 20% by
  • PAYE  and VAT as largest contributors

Illicit capital flight or Illicit Financial Flows (IFF)

Illicit or illegal Capital flight is the transfer of assets abroad in order to reduce loss of principal, loss of return, or loss of control over one’s financial wealth due to government-sanctioned activities”

  • Also referred to as movement of resources from one jurisdiction to another through illegal means.
  • Legal means are supported by the law or through tax avoidance measures which are used to exploit the weaknesses and lacunas within the tax laws
  • Illicit flows take place through transfer mis pricing, tax scheming, illicit profit repatriation, tax dodging and money laundering.
  • In Tanzania capital flight was reported to be taking place through both legal and illegal means

Statistics of Illicit Financial Flows from Tanzania

  • According to existing studies, it is estimated that Tanzania loses USD1.83Bln (Tsh4.09Trillion) every year from tax incentives, illicit capital flight, failure to tax informal sector and other forms of evasion. This figure is an estimate and yet to be confirmed by the Tanzanian government which commissioned its own independent study.
  • If estimated loss was collected, it would triple government budget on health and nearly double spending on education.
  • Global Financial Integrity (GFI) estimates, USD7.73bln lost from Tanzania illegally in the past five years as a result of trade –mis-invoicing
  • At corporate rate of 30% Tanzania could have lost an average of USD464Mln annually

Statistics of Illicit Financial Flows in Extractive Sector

  • Export revenue from mining increased from 16% in 2013 to 26% in 2015 due to increase in taxes paid by companies. However, this is still low compared to an average 30% for other Countries such as South Africa.
  • TMAA Audit showed Mining (Including Construction) had not paid up to USD688Mln worth of taxes between 2013-2015. An average of USD229Mln annually is not paid
  • This figure has since increased as per the estimates made by the Presidential Commission reports (Dr Osoro report).

Some statistics on Gold mining and Resource leakage in Tanzania in 1998-2005

According to available study reports

  • Gold worth more than USD 2.54bln was exported between 1998-2005
  • Only USD 28mln received in Royalties and taxes
  • This was equivalent to only 10% over a 9-year period
  • The 3 % royalty charged then brought government only an average USD 17mln a year in recent years
  • Cumulatively, USD 26.5mln lost in excessive low rate, government tax concession
  • In 2005 at least 400,000 small artisan miners were unemployed since 1998 when they were evicted from the mining areas and therefore denying government billions in tax revenue.

Consequences of extractive resource leakage and development potential

  • According to the UNDP and World Bank measure of poverty and development standards, Tanzania is still among the poorest Countries in the world. At least 12mln out of 39mln live in abject poverty. Yet, Tanzania processes around 45mln ounces of Gold.  At current prices, Tanzania has a fortune of USD39bln. If well, harnessed Tanzania would be compelled to a middle-income country within less than 10 years.

Vents for extractive resource leakage

  • As per the Mining Act of 2010, mining companies offset 100% after their capital expenditure
  • 100% ownership of Gold mining Companies
  • Mining dominated by two foreign mining companies-Barrick Gold and Anglo Gold Ashanti
  • In 2005-AGA paid USD144mln in Royalties
  • It sold gold worth USD 1.55bln, paid only 9% royalty
  • Barrick Gold paid only 13% of its export. No accurate data on total exports was available
  • The Parliamentary Accounts (PAC) reported in 2007, both companies declared losses worth USD1.045bln. Tanzania Extractive Industries Transparency Initiative (TEITI) reconciliation reports also indicate that Barrick has persistently reported loses and never paid corporate tax
  • Yet, a leaked ASA tax audit report indicated companies overstated losses by USD502mln between 1999-2003
  • Government thus lost revenues worth USD132.3mln between that period alone.

Tanzania’s tax incentive regime as at 2017

  • Non tax incentives include
  • immigration quotas on employment of foreign staff,
  • guaranteed transfer of net profits or dividends of the investments,
  • payment in respect of foreign loans, remittance of proceeds net of all taxes and other obligations, royalties, fees and other charges on emoluments and other benefits to foreign personnel
  • Under mining Act , 2010, Royalty of 3% execpt for diamonds which is 5% & 12.5% for petroleum
  • No tax, duty, fee or other fiscal impost on dividends
  • No capital gain tax
  • No windfall tax
  • Losses carried forward for unrestricted period
  • Duty rate at 5% and VAT charged after 5 years of commercial production
  • Yearly appreciation  of unrecovered capital in investment, exploration, prospecting, mineral assaying, drilling or mining company of goods, imported are eligible from duty under customs law
  • Services  for exclusive use in exploration, prospecting, drilling or mining activities
  • Zero rating of all capital goods, spare parts, fuel, oils together with explosives
  • Corporate tax of 30% and capital allowance of 50% on  Y1 of income
  • All capital expended on  prospecting and mining is expended
  • 100% transferability of  profits  to foreign accounts

Major strategies for facilitating illicit financial flows in Extractive Sector

Tax Base Erosion and Profit Shifting (BEPS)

  • Collective tax planning strategies used by multinational companies that exploit gaps and maximizes in tax rules to artificially reduce its tax base or obligations by shifting profits to low or no tax locations where there is little or no economic activity. In 2012 the OECD Countries initiated collective efforts to tackle concerns over BEPS and perceived international tax systems facilitating tax avoidance (BEPS project and action plan).

Tax avoidance

  • Tax ‘avoidance’ constitutes an ‘arrangement of tax payer’s affairs that is intended to reduce his ability and that although the arrangement could be strictly legal it is usually in contradiction with the intent of the law it purports to follow’
  • Justice Reddy in Mc Dowell & Co. Ltd Vs CTO 154 ITR 148 (19985) India, has defined tax avoidance as ‘the art of dodging tax without breaking the law. It is the avoidance of tax payment without the avoidance of tax liability.
  • Tax avoidance simply involves structuring your affairs legally so that you are paying less tax than you might otherwise pay. It could involve exploiting lacunas with the law to ones advantage.

Tax Evasion

  • Tax evasion can be defined as a deliberate measure to escape one’s tax obligation through illegal means
  • tax evasion is also defined as the illegal non payment or under payment of taxes, usually by making a false declaration or no declaration to tax authorities; it entails criminal or civil legal penalties
  • Tax ‘evasion’ involves ‘illegal arrangements through or by means of which liability to tax is hidden or ignored’ as a consequence of which “the tax payer pays less than he is legally obliged to pay by hiding income or information from the tax authorities

Tax planning

  • Tax planning’ is defined as the arrangement of a person and or private affairs in order to minimise tax liability
  • It enables reduction in the liability through the movement or non movement of person, transaction or funds or other activities that are intended by the legislation
  • There is also something called as ‘aggressive Tax planning’ which is the severest form of tax planning -illegal

Differences and similarities of Tax Evasion and Tax planning

Tax Evasion

Tax Avoidance

A deliberate refusal to pay a tax

Exploitation of the weakness in the low to pay less or nothing at all

Clearly illegal

Appears to be legal

Similarities

Thin line exists between the two and quite often all use to achieve the same goal-minimal or none payment of the tax

Both are unethical in the face of tax Justice

Overlap between tax evasion, avoidance and tax planning

How is tax evasion

  • Failure by a taxable person to notify of a tax authority of a presence of its operations, if they are taxable operations,
  • Failure to report full amounts of taxable income, deduction claims for expenses that have not been incurred or which exceed the amounts incurred but not for the purposes stated,
  • Falsely claiming reliefs that are not due, for example VAT refund and exemptions
  • Failure to pay over to tax authorities’ due taxes,
  • Departure from a country leaving taxes unpaid without intention to pay and
  • Failure to report items or sources of taxable income for example profits or gains where there is an obligation to do so

Tax Avoidance measures include

  • Income splitting measures whereby incomes are shared amongst more than one tax payer for purposes of reducing tax rate or tax obligation.
  • where transactions between two related parties are inflated or fixed a Transfer pricing or mispricing measures above the average market price (arms-length) for purposes of avoiding taxes by minimising profits in a high tax location and maximising profits in a low profit location

Relevant readings

  • Marc Curtis, Tundu Lissu: A Golden Opportunity? How can Tanzania is failing to benefit from gold mining; A report for the Christian Council of Tanzania, Tanzania Episcopal Conference and the National Muslim Council of Tanzania, 2015
  • Marc Curtis, Dr Prosper Ngowi and Dr Attiya Waris: One Billion Dollar Question: How can Tanzania stop losing so much tax revenue; A report for the Christian Council of Tanzania, Tanzania Episcopal Conference and the National Muslim Council of Tanzania, 2012
  • CMI Chr Michelsen Institute: Lifting the veil of secrecy; Perspectives on international taxation and capital flight from Africa, Norway, 2017