Australia’s new taxes on minerals

Author: Christopher Findlay, Adelaide University

The new Gillard government has responded to a vigorous industry campaign to revise Australia’s proposed taxation arrangements for minerals and energy projects. This followed the earlier plan under Prime Minister Rudd to introduce a tax (called the Resource Super Profits Tax) on resource rents in addition to the company income tax. In the revised plan (called the Minerals Resource Rent Tax) only coal and iron ore will be covered along with gas and oil.

In these new arrangements:

  • - The headline tax rate is reduced from 40 per cent to 30 per cent and there is a 25 per cent ‘extraction allowance’ so the effective tax rate is 75 per cent of 30 per cent which is 22.5 per cent.
  • - Taxes losses generated in the early years of a project can be carried forward at the government bond rate plus 7 per cent (called the uplift rate) and they can be transferred to other projects but there is no guarantee that these losses will be refunded if a project fails

The guarantee of the refund had been offered in RSPT with a lower uplift rate but that is now withdrawn – the industry, at least the big miners who led the negotiations, said they did not value this.

A criticism of the RSPT was that it would also tax the return to the assets which were specific to mining companies, for example, their skills, and drive investors offshore, and that any tax like this would reduce the incentives to work for higher productivity growth. The response had been that the tax rate had been limited to 40 per cent so that while firm-specific assets were being taxed the resource rents were also being shared. Now the tax rate has been reduced.

There has been some debate about the implications of tax changes for the assessment of Australia’s sovereign risk, especially the retrospective application of the tax to existing projects.  However the previous situation was not one of ‘no other tax’. There was already a tax regime in place for capturing resource rents and the question is whether the new arrangements are more efficient.

The existing arrangement was the royalty systems (based on volume charges) imposed by the state governments. These arrangements are less efficient than a profits-based tax because they distort decision making. But they also add to project risks.  As commodity prices rose, the royalties would be increased. Maybe this would happen with a lag but they would be expected to rise. In other words, this regime was not stable either – it involved its own sovereign risks! As commodity prices fell at some future point, it was less likely the royalties would fall. The shift to a tax based on profits would help solve this problem. The minerals sector, it is reported, saw benefit in that respect. The issue they had was the rate of tax in and other conditions of the new profit based system.

While the shift is to a profit-based system, state governments can still impose their royalties. These are credited against the MRRT. This reinforces the incentives to the states to raise royalties to the MRRT rate. Companies can also carry forward unutilised royalty credits.

How does the revenue compare? The Australian Minerals Council reports that in 2008-09 $7b was paid in royalty (about twice that of the year before). The new MRRT system is expected to raise $10b although critics doubt that amount, since the RSPT was expected to raise $12.5b and with a much lower tax rate, yet the new MRRT raises only slight less.  It will be interesting to see if the result is actually closer to neutral in terms of revenue, in which case the Federal government will be left with little once the states take out their royalties.

Small companies may have some problems with the MRRT compared to the RSPT. For example, they might face higher borrowing costs than the larger companies, higher than the ‘uplift’ rate.  They may not have so many projects on which to offset the tax losses. This diminishes the efficiency advantages of the new tax, since it then may like a royalty hold back some projects. However, there are now even stronger incentives for consolidation in the minerals sector, or for that to happen earlier than it might otherwise have done, and foreign buyers of minerals are expected to be among the investors exploring for options to do that.

This is tax policy by negotiation. There were complaints about sovereign risk associated with these changes but the real risk is not the introduction of this particular tax but the way the original proposal was redesigned in the political market place.  The political capital of Australia, that is the ability to manage efficient reform, is further eroded. The MRRT might actually be better than the royalty system, despite the issues it pose for the smaller companies, but the way it was arrived at leaves a bad legacy for future reform.

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