In brief

With the result of the Federal election now having been finalised, it is a good time to reflect on what this means for the proposed Mineral Resources Rent Tax (MRRT) regime which will apply to the coal industry from 1 July 2012.  

Federal election result – what does it mean?

The Labor Party has formed a minority government with the support of three independents (from rural electorates) and another MP from the Greens Party. The legislation can only pass through Parliament with the support of at least three of these four.

None of the four MPs has offered the government a mandate to pursue their policies although it is unlikely they would have sided with the government unless they supported the MRRT in some form. For instance, some of the government’s promises to increase rural funding are tied to the new resource tax arrangements being introduced. Two of the Independents have called for a Tax Summit to review the tax together with other recommendations from the Henry Review.

On the other hand, the Greens have stated their commitment to strengthen the tax so that it raises more revenue. This may also be appealing to the government given suggestions the tax will not raise as much revenue as expected and the generous commitments given to secure government. Whilst the headline rate may stay the same, we expect the government to play hard ball on the detail. Some of the areas of uncertainty where the government could extract higher revenue are outlined below.

Clearly there are still many twists and turns on the long road to having the new tax implemented!

A brief history of the MRRT

On 2 July 2010, the Federal Government announced significant changes to its intended reform of the taxation of Australian resource projects. It announced that the Resource Super Profits Tax (RSPT), as initially proposed on 2 May 2010, would be replaced with the MRRT. The change came following consultation and negotiation between the government and major players in the resources industry BHP Billiton, Rio Tinto and Xstrata.

While most resource sectors were let off the hook with the abandonment of the RSPT, the coal industry remains in the line of fire.

The new policy is similar to its former version in that it taxes profit rather than revenue. Assuming constant operating and capital costs, this means that government receipts will rise or fall disproportionately to changes in resource prices. Strong profit margins will support high tax payments, and, under a downside scenario of lower prices, margins will be squeezed and MRRT receipts will fall.

The MRRT is, however, considerably different to the RSPT in terms of both application and design. The key features of the MRRT are as follows.

MRRT application and design

  • The MRRT will be effective from 1 July 2012 and only apply to iron ore and coal projects, both pre-existing and future. Base metals will not be subject to a new resource rent tax.
  • Miners with resource profits below $50 million per annum will not be liable to pay MRRT. It is unclear whether this is on a taxpayer group basis, individual taxpayer basis or project basis.
  • The MRRT headline rate will be 30% (note that the proposed RSPT rate was 40%). Due to the extraction allowance of 25%, the effective MRRT rate will be 22.5%.
  • For each project, the MRRT liability will be offset by an extraction allowance and any royalties paid. These are calculated in the manner set out below.

MRRT liability

  • For each project, the MRRT liability will be calculated by applying the 30% MRRT rate to the sum of:
    • Revenue at mine gate (ie commodity value at first saleable form) less
    • Operating and investment costs to that point less
    • ‘MRRT allowance’ less
    • Losses transferred from other projects.
  • The ‘MRRT allowance’ is the value of unutilised losses carried forward at an uplift rate equal to the government long term bond rate (LTBR) + 7% (note that for RSPT it was the LTBR only).
  • Investment costs post-1 July 2012 can be written off immediately, as opposed to being depreciated over a number of years. Thus, a new project will not pay MRRT until enough profit has been made to offset its initial investment. [Note: existing projects depreciate the starting base over a number of years and are therefore likely to pay tax sooner than for new projects].
  • MRRT deductions from one project will be transferable to other Australian iron ore and coal projects. This enables deductions from projects under development to offset liabilities from projects in production. There are likely to be integrity rules to prevent trafficking in losses.
  • It is proposed that the MRRT will generally adopt the same category of non-deductible expenses currently applicable to the Petroleum Resource Rent Tax.
  • With MRRT liability calculated at mine gate, the taxing point under MRRT will remain ‘as close to the point of extraction as practicable’. Only the value of the resource will be taxed.

Extraction allowance

  • A 25% discount will be applied to the MRRT liability for each project in the form of an ‘extraction allowance'. This allowance is purportedly in recognition of the miners’ expertise in extracting the resource. This effectively reduces the tax rate to 22.5%.

Royalties

  • Royalties paid will further offset the MRRT liability after applying the extraction allowance for each project.
  • Unutilised credits for royalties paid will be carried forward and uplifted at the LTBR + 7%.
  • However, royalty credits will not be transferrable between projects or refundable if the MRRT liability after applying the extraction allowance is less than the royalties paid. Accordingly, taxpayers can be no better off under the MRRT and will simply be subject to higher taxes (through the MRRT) in good years.
  • The royalties payable in each year plus the net MRRT liability (ie MRRT liability after deducting the extraction allowance and any royalties offsets) yields the ‘total resource charge’.  

Transitional arrangements for existing projects

  • The MRRT provides recognition of past project investments through a write down credit. Miners may elect to use the market value or book value of existing project assets as the depreciable starting base. Capital expenditure between 1 May 2010 and 1 July 2012 will be added to the starting base.
    • If market value is chosen, this value is depreciated over the effective life of the project, up to a maximum period of 25 years. Unlike other expenses, this base will not be uplifted.
    • If book value is chosen, this value is depreciated over an accelerated period of five years. The starting base will be uplifted at the LTBR + 7%.
  • The treatment of exploration and operating expenditure between 1 May 2010 and the 1 July 2012 start date is unclear. However, it is anticipated the government will preclude taxpayers from deducting this expenditure or adding it to the starting base, which could distort investment decisions.  

Income tax implications

  • The company income tax rate will be reduced to 29% (as opposed to the 28% planned under the RSPT), starting on 1 July 2013.
  • Company taxable income will be net of the ‘total resource charge’ under the MRRT.
  • The Resources Exploration Rebate, which was to operate as a refundable company income tax offset, will not be introduced. Resource exploration costs will continue to be deductible for income tax as per existing arrangements.  

Policy Transition Group

The government is establishing a policy transition group led by Resources Minister Martin Ferguson and former BHP Billiton chairman Don Argus. The group will consult with industry to oversee the development of more detailed technical design of the tax and advise the government on implementing the new regime.

Of course, there is still a long road to go. The government will need to satisfy the Greens in the Senate and settle the detail in order for the legislation to be implemented in time for its intended 1 July 2012 start date. The next milestone is the release of the Exposure Draft Legislation for public comment in June 2011.