The Democratic Republic of Congo adopted a new Mining Code, but industry and government are at loggerheads over taxation.
Last month, the Democratic Republic of Congo (DRC) enacted a law to revise the country’s 2002 Mining Code. While the law improves environmental and social provisions, revisions to the fiscal regime – long considered relatively favorable to investors – were the focus. But mining companies and the government still seem to be in a deadlock over the changes to taxes and royalties, even after the law passed. Will these new terms help the DRC to capture a bigger share of the pie, which, if responsibly invested in key infrastructure and services, could potentially benefit the Congolese people? Or will the new terms end up, as some mining companies claim, stifling investment and reducing the pie for all?
Civil society can and should engage on these questions, considering both how revenues from mining can be maximized, and also how these revenues can be spent in a way that benefits the population and ensures public accountability.
A fiscal regime due for revision
In 2002, an investor-friendly mining code made sense. The DRC was recovering from a long and horrific war on its soil, and decades of mismanagement of state-owned mining companies that monopolized the sector had left production and infrastructure in shambles. The mining code liberalized the sector to attract private investment with a first-come-first-serve licensing system, universally applicable taxes, and a stabilization clause that guaranteed investors that the code’s provisions would apply for at least 10 years after a permit was granted.
But times have changed since 2002. Mining investment has surged. Annual production in the DRC’s lucrative copper-cobalt sector now exceeds one million tons of copper and 85,000 tons of cobalt. Commodity prices are high: cobalt in particular has nearly tripled over the last eighteen months to over $85,000 per ton and demand is still poised to grow. The DRC claims half of world cobalt reserves, and produced 58-60 percent of the world’s cobalt in 2017.
In this context, government and civil society are right to question whether a fiscal regime generous to mining companies is still appropriate. Companies profiting from higher mineral prices can afford to contribute more to the countries they operate in. In the DRC, the mining industry has suggested otherwise, but effective economic modeling helps debunk industry claims. Even when prices were low, independent economic modeling indicated that mining was still profitable with some higher tax and royalty rates, suggesting room for reform that could potentially benefit the Congolese people if revenues are well-managed.
New code closes some tax loopholes
While the Congolese government’s economic model for the 2002 Mining Code (using the IMF’s FARI model) put its projected share of mining revenues on the lower cusp of the IMF’s suggested 40-60 percent range, 57 percent of projected revenues were from profit taxes. The DRC’s Extractive Industries Transparency Initiative (EITI) reports show these projections do not match reality: profit tax only accounted for 29 percent of revenues in 2015, which was many years into production for most of DRC’s major mines. Assuming no dramatic increase in profit tax revenue in 2016-2017, the government’s model may have overstated its benefits under the 2002 code.
Part of the discrepancy may be explained by loopholes in the code that allowed companies to shift profits elsewhere and erode the profit tax base. The new 2018 Mining Code abandons earlier proposals to raise the profit tax rate in favor of closing these loopholes with a few key changes: removal of accelerated depreciation provisions (Art. 249); increased equity requirement of 40 percent to protect against thin capitalization (Art. 71(b)); and stronger limits on the deductions on interest payments to affiliated parties (Art. 254). Further, if profits are significantly greater than expected, the new code provides for an additional profit tax of 50 percent on the windfall (Art. 251 bis).
Royalties and stabilization clause create conflicts with companies
While the industry has not protested the profit tax revisions, they have rung the alarm over two other changes. First, royalties are significantly increased: from 2 percent to 3.5 percent for copper and cobalt, and up to 10 percent for any designated “strategic substances” (Art. 241). Second, the stabilization clause is reduced from 10 to five years (Art. 276) and the new code’s fiscal terms immediately apply to existing permit holders (Art. 342 bis), despite the earlier stabilization. These changes were unilaterally inserted by government in an opaque, questionable process: they were included in the bill sent to President Kabila for signature, even though they were absent in the Senate and Assembly bills.
Mining companies sought to ensure the text signed into law would not include these elements. In an impressive power play, Kabila invited CEOs of major mining multinational corporations to discuss the bill, then postponed the meeting for a day, met with the companies for six hours, and then had his government immediately announce nothing in the bill would change. President Kabila then signed the new code (with the changes) into law. The government did note it would later discuss the regulations, but the mines minister said that “companies’ concerns would be considered on a case-by-case basis,” which raises the prospect of corruption risks.
The next week, the Congolese government unilaterally announced that cobalt and coltan would be declared “strategic substances,” incurring a 10 percent royalty. Still, industry analysts say that even with the fiscal changes, “the DRC’s royalty rates will remain among the most competitive in the world,” and the short-term outlook for DRC mining remains positive.
Flexing muscles: Who wins in a government-industry showdown?
After unproductive dialogues with government, five major mining companies submitted an alternative proposal to government including a sliding-scale royalty (perhaps inspired by neighboring Zambia) instead of the new royalties and windfall profit tax. The companies argue that this would provide more upfront revenues without as much downside risk. They have also pushed for continued stabilization for existing projects as per the 2002 code.
The Congolese government is disinclined to accept the proposal, and has reiterated that the new law will not change. There is strength of its negotiating position: high mineral demand, a uniquely plentiful cobalt supply, and the law already in force. But if mineral prices fall, some say the new fiscal regime and its “strategic substance” royalties of 10 percent could stifle investment or “cause the certain death of a young industry.” While this may just be strong rhetoric, it is not clear that the DRC sufficiently analyzed the new code with economic models, testing different commodity price scenarios for mines of different minerals and size. Absent such analysis, it is difficult to know if the new code is robust enough to capture greater benefits without inhibiting viability in a downturn.
Mining companies can still challenge the legislative process in court or threaten the country with arbitration, arguing that disregarding the 2002 stabilization clause violates existing international investment agreements. While companies may believe they have a strong argument and may ultimately win such investor-state disputes, it’s a nuclear option. The proceedings may take years, and production would be stalled in the interim, limiting the global cobalt supply despite peak prices. Perhaps no one wins: companies sacrifice profits, the DRC forgoes fiscal revenues, mines are suspended, workers lose jobs, and Congolese citizens lose out on potential investments in infrastructure and public services.
Appreciating that inflexibility on either side risks pain for all involved, civil society in the DRC is uniquely positioned to bridge the gap, as acknowledged in recent tripartite talks on the regulations. Civil society can also perform its own economic modeling of the code – as Oxfam has done elsewhere to assess extractives projects and fiscal regime design risks. Effective modeling of projects under the new code can help to forecast future mining revenues, allowing civil society the tools to hold government and companies accountable not only for their commitments to contract and revenue transparency, but also when revenues diverge significantly from projections. Civil society can also use the projections and revenue data to better inform its advocacy for budget to be allocated toward spending that benefits the poorest. Further, economic modeling can help to test whether the new code actually threatens the viability of companies’ operations or whether those arguments are just a lot of hot air coming up from the mineshafts.