Zambia - The Windfall Tax Story

The issue of windfall tax in Zambia has always been a hot one. Many political ideas have revolved on windfall taxes from the government to the opposition. It is strange that this simple perspective of taxing has been such a hot topic in this country. More so, having implemented it for some time.

So Why the Fights?

Windfall tax is expected to generate a lot of financial rewards for the country in the light of higher copper prices that were witnessed. It is expected to bring in a lot of money to drive the economy. On the other hand, the politicians in the control say it is not possible to introduce a windfall tax. 

The fight got so heated up that some headlines would summarize it. For example it is quoted that those who were calling for windfall tax are lunatics. Check here and here.

Windfall Tax

So what is a windfall tax? The few definitions I came across will sum up as:

"A tax levied by governments against certain industries when economic conditions allow those industries to experience above-average profits." 

"A windfall profits tax is a higher tax rate on profits that ensue from a sudden windfall gain to a particular company or industry."

My favourite for simplistic issues is the last one from Wikipedia because it sums up all elements of the windfall tax and will have all you need for parameters of this discussion. 

Zambia and Windfall Tax

The mining sector in Zambia has an interesting tale. It is booming when the prices are high. However, most if not all mines are in loss making position. So the Corporate Income Tax (CIT) is never paid. On the other hand, mineral royalty (which is deductible) is paid and claimed back.

So the mineral royalty does actually hit the collection point for the nation, but it merely comes as a deposit and is later taken away when one address the issues of their tax position.

Therefore a windfall tax in this position has one element which many have missed - if you are not profitable, you can't pay it! Even when you are profitable, you need to be facing 'windfall profits' or higher than normal profits for the windfall tax to apply! So for a country with a sector that is 90% in loss making position, how then will you apply a windfall tax?

Any economist with the information on the profitability of the mines will find it interesting to call for a windfall tax. Why? How do you get "abnormal profit tax" when the mines have no "profit" in the first place.

The people needed to be told the truth about this. The assumption that everyone talking about windfall tax knew what they were talking about is wrong. people merely voice out what they want regardless of what the situation is on the ground. You need critical issues on the ground for any windfall tax to be implemented. Those parameters are what is missing. 

Where is the Profit?

If the mines had the so called profit position, they would pay taxes. If they made abnormal profits, they would then be a reason to introduce the windfall tax. The lack if profits makes it impossible to have a windfall tax.

Whey mines have no profit is a bigger issue to address and one that will make a good reading and analysis for the future of this country. Many have declared that mines cheat and use tax avoidance schemes to dodge any form of taxation. This has created a bad relationship with government leading to lack of trust between the two. This has led to push and pull issues being done in a way to be better than the other.

If it is true that a lot of cheating has been happening, then the mines will be responsible for this sour relationship and the misery that many people have been exposed to due to lack of resources. On the other hand, we need to ask ourselves as to why mines would go on for decades in a loss-making position. What did we do wrong in the sector? Was the privatization the greatest mistake we made? Can it be corrected?

Where are the profits for a sector that is doing so well in terms of the prices? Calling for a windfall tax without addressing any of this issues is doing the same thing we have been doing all these years and expecting a different result. Albert Einstein once quoted:  ” The definition of insanity is repetitively doing the same thing over and over and expecting different results”. (I have no idea where he was quoted, but that may link well with the lunatic link above). So instead of doing the same thing over and over, we need to do things differently.

One way of doing this differently is to over-look the issue of us sharing in the profits that will never come from the mines. Instead, lets charge them rent on our minerals. What they do with them is not our problem, but pay us for the minerals anyway. This rent is the simplest thing one can use. When you get into a house and rent, the landlord does not care when and how much you are paid, you just pay for the house at the end of the month or at the beginning of the month. If you earn no income in that month, it is not the landlord's fault. This is what is attempted in the 2015 Budget where a royalty will be charged but no CIT. 

The method avoids the chasing of profits on the mines, the transfer pricing issues, etc. It merely requires you to make a payment when the minerals are extracted from the ground. You dig, you pay principle.

Of the two methods, the issue is that both parties (govt andd mines) want to benefit. One method can benefit both, but the lack of trust makes that impossible to carry on. So all these are no alternatives to the issue of sharing the benefits.

Sadly, windfall tax has no effect in the Zambian context at this current situation when there is no profit. So extra or abnormal profits cannot be applied.

2015 - 2017 MTEF (Green Paper)

Medium Term Expenditure Framework (MTEF) for the period 2015 - 2017 has been released. This is the famous Green Paper that is always talked about.

So maybe we should make sure we know what we are talking about. MTEF is government's strategic policy and expenditure framework. Ideally the MTEF balances what is affordable against policy priorities of the government within the available resources or resource envelop.

This is done with a top-down resource envelop and a bottom-up estimation of current & medium-term (in Zambia we use a 3 year period as the medium-term). All the expenditures or costs are matched with available resources for the period. It is important to note that in Zambia we use a three (3) year rolling MTEF. Simply put there is a 2014 - 2016 MTEF period which is accompanied by the 2014 budget and the next one is the 2015 - 2017 MTEF to be accompanied with the 2015 Budget. The fact that is it rolling, reviews are carried on while the other one is in motion.

The Game Plan

The "Green Paper" has the government's plans for the period through the budget. So it is important to have a look at this before you even have the 2015 Budget. This is the game plan that would be used in the period 2015 - 2017.

Government's strategic priorities are set forth in the Green Paper and you can easily deduce what the issues for the period will be. Resource allocation and the areas considered priority will determine what kind of business the government's business will be. All policy prioritization, alignment of policies and objectives under available resources. Resource mobilization will also be dependent on the type of expenditure the government will be embarking on. As some people say, you can literally arrive at what taxes will go down and what will go up. I'm yet to find that because, the resource envelope though embedded, might depend on other factors and not really the issues of priority. In the same vein though, you can see what will be taxed less if it will lead to efficiently meeting the overall objectives of the policy priorities. This is because revenue estimates (mainly taxes, non-tax, borrowing, grants, etc.) are done in line with the macroeconomic framework.

Sector Focus

Sector strategies are formulated to link budget allocations with expected policy achievements at each sectoral level. Sector focus ensures that the resources are allocated in line with the overall strategy. 

For example, if education will be the main focus, you expect a huge allocation of resources to education in the budget and over the medium-term. In some cases, there's a plan for both conservative and optimistic scenarios. This will ensure the overall plan has scenarios that suit the expected worst scenario and the best possible. I am not sure which one is given to the public in Zambia.

Baselines are also put forward to indicate whether or not policies are sustainable and are in line with the budget in medium-term.

Lastly of course the dreaded sector and Ministry, Province or Spending Agency (MPSA) ceilings. The cap to how much will be available for a particular MPSA in terms of resources within which their budgeting will have to be made. This ceiling is because of the resource constraint and a need to prioritize and only budget for strategic areas in full. You may need to note that ceilings are fixed for the medium term and each of the year in the medium term.

Zambia's 2015-2017 Medium Term Expenditure Framework

The Green Paper addresses the focus as: 

The 2015 – 2017 MTEF will build upon the favourable macroeconomic performance recorded over the last five years which was evidenced by high economic growth rates, attainment of single digit inflation and positive trade balances. The specific broad economic policy intentions include; promoting high growth in the labour intensive sectors of agriculture, tourism, manufacturing, and construction; sustaining economic growth rates of not less than 7 percent; keeping inflation low and stable; continuing to promote Zambia as an investor friendly destination and implementing structural reforms aimed at reducing the cost of doing business.

The 2015 – 2017 Medium Term Expenditure Framework (MTEF) has been formulated with the overall objective of enhancing the benefits to citizens from the positive economic growth that has been achieved over the past few years. This is in line with the spirit of the Revised Sixth National Development Plan (R-SNDP) which is “people-centerel economic growth and development”. Government will focus on ensuring that growth is inclusive and propoor so that the benefits of a stable macroeconomic environment, positive economic growth and single digit inflation bring about improved standards of living for the Zambian people. This will be done by stepping up both human effort and financial resources in areas that have a direct impact on

the improvement of individuals’ quality of life, such as education and skills development, health care, agricultural support, citizen empowerment, employment creation, provision of public infrastructure and social amenities. With these interventions the Government is confident that inroads will be made in creating jobs, raising incomes and reducing poverty.

You can download the 2015 - 2017 MTEF (Green Paper) here.