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Mining Royalties
In that regard, a tax on corporate income or profits is more efficient, because such a tax does not alter the optimal output of companies striving to maximize profits, and marginal ore will remain profitable to exploit. It would be wrong, however, to assume, as some have done, that corporate profit taxes and royalties based on profits have no distorting effects on firms’ behavior. Such taxes do reduce firms’ anticipated net present value and internal rate of return on both existing operations and potential new projects. As a result, high taxes on corporate profits and profit-based royalties encourage companies to close marginal operations sooner than would otherwise be the case and tend to reduce the economic attractiveness of new projects. However, their effect will be less than that of high levels of taxes that are not based on profitability. The mix of taxes also influences the distribution of risks between the state and mining companies. Mining is a particularly risky activity. This is partly because of the long gestation period associated with the development of most new mines and the difficulty of anticipating prior to development all the potential technical, geological, economic, and political problems. In addition, most mineral commodity markets are highly volatile over the business cycle, with wide price fluctuations. When the world economy is booming, prices can be two to three times higher than during periods of slow or declining growth. As a result, profits vary greatly for individual mining companies over time. They also vary greatly at any point in time among mining companies. Some mines turn out to be bonanzas; others never return a profit, even during the years of high prices. A corporate profits tax and royalties based on profitability tend to distribute the risk of mining evenly between the state and companies. When before-tax profits are down by 20 percent, both tax revenues flowing to the government and after-tax profits realized by companies are down by more or less the same amount. A unit- or value-based royalty shifts more of the risk to companies. Even when prices are depressed and companies are in the red, the government continues to receive a certain amount for each tonne of metal produced and sold. Conversely, a progressive income tax or “additional” profits tax tends to shift more of the risk to the government, because it merely imposes a tax on profits that rises with profits or, alternatively, with the internal rate of return or net present value realized by a mine. Normally, companies are in a better position to assume risks and are less risk averse than governments. In such cases, the state may want to impose a mix of taxes that shifts more of the risks to companies; however, such a strategy has a cost. To compensate companies for assuming more