This Selected Issues paper examines the monetary policy framework in Sudan, and assesses the effectiveness of monetary transmission mechanism since the secession of South Sudan. The econometric analysis concludes that reserve money, the exchange rate, and private sector credit are the main determinants of inflation after the secession of South Sudan and that the transmission lags have been shortened significantly compared with previous studies. These findings reinforce the need for a comprehensive package of fiscal and monetary measures that strengthens the monetary policy framework and improves its effectiveness.

Abstract

This Selected Issues paper examines the monetary policy framework in Sudan, and assesses the effectiveness of monetary transmission mechanism since the secession of South Sudan. The econometric analysis concludes that reserve money, the exchange rate, and private sector credit are the main determinants of inflation after the secession of South Sudan and that the transmission lags have been shortened significantly compared with previous studies. These findings reinforce the need for a comprehensive package of fiscal and monetary measures that strengthens the monetary policy framework and improves its effectiveness.

Gold Taxation in Sudan1

Sudan’s low revenue mobilization limits the fiscal space for ramping up physical and social infrastructure that is crucial to sustain economic growth and promote social fairness. One of the most effective and feasible way to enhance tax revenue is to streamline taxation on the gold sector. While the current system compares favorably to the systems in place in other gold producing countries it needs to be made more efficient by introducing progressivity on the large mining companies and extending the fiscal net to small producers.

A. Background

1. Despite the recent revenue reforms, the tax-to- GDP ratio in Sudan is still very low compared to its neighboring countries. In 2012, Sudan collected only 6.2 percent in tax revenue while the unweighted average tax revenue of regional peers was around 17 percent of GDP. Only the Republic of Congo and the Central African Republic has tax-to-GDP ratios at below 10 percent (Table 2).

Table 1.

Sudan: Central Government Operations, 2006–16

(In percent of GDP)

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Sources: IMF staff estimates and projections.
Table 2.

Selected African Countries: Revenue Structure

(In percent of GDP)

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Source: IMF staff estimates.

Excluding Sudan.

Table 3.

Sudan: Structure of Exports, 2008–16

(In millions of USD)

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Sources: IMF staff estimates and projections.

2. Sudan’s different revenue structure can be explained by low tax rates, narrow tax bases, and weak tax administration. Low revenue collection would limit the fiscal resources available for physical and social infrastructure development which in turn hinder economic growth and social welfare. At the same time, increasing revenue by further taxing compliant taxpayers could cause some distortions; therefore revenue mobilization should be focused on broadening the tax base, increasing tax rates where appropriate and simplifying the tax system.

3. This paper reviews the need to rationalize the taxation of the gold sector as one of the most promising targets for revenue mobilization. Gold is Sudan’s most important export earner, and its importance has increased in recent years. In 2008, the sector accounted for approximately 1 percent of export earnings. The share has increased to over 40 percent in 2012 and is projected to account for one third of total export in the medium term. The increase in the export share reflects the sharp rise in its prices and expansion of gold production. However, the gold sector is estimated to account for less than 0.1 percent of total tax revenues in 2011.2 Hence, streamlining of taxation on gold is desirable.

B. General Principles of Natural Resource Taxation

Rationale for natural resource taxation

4. Four generic features make natural resource extraction distinctive from other productive economic industries. The citizens are the ultimate owners of natural resources; the extraction is a process of asset depletion rather than production using renewable inputs; investment in extraction has high sunk costs and long payback periods; and minerals have high price volatility.

5. How mineral wealth can best be translated into socio-economic development, is a key issue for many countries, including Sudan. The rationale for putting in place a special natural resource taxation regime is the existence of large potential economic rents3 in the industry. From the government’s viewpoint, the perfect tax system would be to tax away all economic rents above the normal profit and leave the appropriate after-tax return required by investors. Though economic rent is a clear theoretical concept, it is difficult to define in practice. It would be impossible to know how much rent exists in advance, and even ex post there are difficulties in measuring it. The key issues with measuring rents are that: (i) the extent and profitability of a particular mine cannot be known with certainty; (ii) rent should be measured over the entire project lifecycle, including by taking into account the costs of failed explorations; and, (iii) economic rent may be difficult to differentiate from managerial rents for special expertise, and technology.

6. That the amount of economic rents generation varies from mine to mine is another issue in the economic rents of the mining industry. Those with low exploration costs and rich endowments generate high rents, while others far from developed infrastructure or operating with high costs might be at the margin.

Fiscal regime for mineral taxation

7. Broadly speaking, there are two types of fiscal regimes to tax mineral resources. One is contractual-based system and another is concessionary regimes. Concessionary regimes provide companies full control of the production process, while contractual-based regimes usually leave control over at least a share of output to governments. Developed countries usually regulate fiscal terms in legal codes, while many developing countries regulate details in individual agreements. The accepted best practice would be to establish generally applicable fiscal terms in the law and avoid case-by-case negotiation of terms.

8. The taxation instruments for mining projects can be classified as profit-, production-, or input-based. Profit-based taxes include income tax, profit tax, royalty based on profit or income measures, resource rent tax, and withholding taxes on dividends. Production-based taxes include unit-based or ad valorem royalties, import and export duties, VAT, etc. Input-based taxes are duties.

9. It is suggested that taxation should be neutral with regard to investment and production decisions so as to enhance economic efficiency. It should be such that producers do not have incentives to shift their investment or production as a result of the tax. That objective is served by profit-based taxes, but not by production based royalties. The latter increases per unit cost of production, therefore investors will have an incentive not to explore investments with high production cost (closer to the margin) that would otherwise be commercially viable.

10. Taxing based on profitability would have some implications for the timing of revenue receipts. Natural resource investments generate positive profits only with a great time lag because of the substantial investments required before production can begin. However, in many countries these revenues account for a large share of government income and, therefore, governments have huge incentives to realize these sooner rather than later. Thus while profit-based taxes are more investment neutral and economically efficient, and hence usually preferred by investors, production-based taxes are preferred by governments. The latter are more attractive to governments because they do not tie budget revenues to profits and instead ensure revenues in all production periods, even in the absence of profits.

11. The approach to ring-fencing is another key feature affecting the tax base. This relates to the question of whether there is a separate treatment of different investment projects with regard to tax calculation purposes or a consolidated treatment. With ring-fencing, project revenues of a profitable project cannot be offset by losses suffered on other investments.

12. All in all, there are several contradictory objectives in constructing a tax regime. It should provide a revenue stream for governments in all production periods, and with an increasing share of revenues as profitability increases (progressivity); provide minimal disincentives for production and investment; and remain robust amid changing circumstances (stability). The optimal tax regime in practice is a mix of several elements, a combination of royalty, some rent capture mechanism and the corporate income tax (CIT).

13. Each of these instruments has benefits and costs, and can be best determined by broad principles. In principle, rent taxation is most efficient, but hard to calculate and administer. Royalties distort extraction and exploration, but assure some revenues from the start of production. The regular corporate income tax provides consistent treatment with other sectors. Overall, discretionary elements should be minimized and special treatment and incentives be avoided as they create incentives for aggressive tax planning and rent-seeking. The appropriate tax regime should be also designed with attention to other considerations besides potential tax revenues, such as investment and production incentives, cost of collecting revenues and cost of compliance. In the case of a complex tax system, multiple elements are in interaction; therefore detailed modeling using project-level data is critical in understanding the overall impact of the system on both the producers and the budget.

C. Assessment of Sudan’s Tax Regime and Recommendation for Reform

14. Currently there are two groups of gold miners in Sudan: on one hand, the five established gold mining companies;4 and on the other hand, the thousands of small traditional miners.

Tax regime for established mining companies

15. The current state revenue share from gold mining companies consists of a royalty, Business Profit Tax (BPT) and an equity share. The royalty is at a rate of 7 percent. The BPT for mining companies is 30 percent. The equity share depends on the mining agreements with the companies. The Ministry of Finance and National Economy (MOFNE) is not involved in negotiating these agreements, which include BPT exemptions in certain cases.

16. Taking account of the general principles of natural resource taxation, the usual global practice is to have a regime that incorporates a royalty, corporate income tax/BPT, and possibly a resource rent tax. A resource rent tax provides an opportunity for the government to receive a larger share in the profits of the most profitable projects by capturing part of rents, such as when prices increase significantly. Neither royalty nor BPT will tax these rents effectively, though they may do so in part. To increase the royalty runs the risk of distorting investment and production decisions. A regime consisting of royalty, BPT and resource rent tax ensures government revenue from the time production commences while also providing the government a share in economic rents of more profitable projects.

17. The current combination of royalty, BPT and equity share seem reasonable, but in the long term, adopting a resource rent tax could improve progressivity. Table 4 shows that the current gold tax regime is comparable to other countries. The adoption of a resource rent tax would improve the progressivity of the tax regime. There are a number of options for a rent based tax including: an additional profits tax—this tax is only imposed if the accumulated cash flow from the project is positive, and any net negative cash flow (usually in the early years of a project) is adjusted upwards by an ‘accumulation rate’ (usually a proxy for the company’s opportunity cost of capital adjusted for risk); a cash flow surcharge tax—this is a tax on net cash flow that adjusts the tax base of accounting profit by adding back depreciation and interest, and deducting any capital expenditure in full; and a variable income tax—this uses the BPT base, but varies the rate of tax according to the ratio of profits to gross revenues. The choice is a matter for the government and depends on which best achieves the take required by the government in a manner that is understood by the authorities and taxpayers.

Table 4.

Comparison of Sudan’s Gold Mining Fiscal Regime with Other Countries

(In percent)

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Source: IMF, Tax Reform Strategy for Revenue Mobilization (2013).

18. BPT exemptions for mining companies should be avoided. Very few countries provide tax holidays to mining projects because they want to ensure the state receives a fair share from the resources. A tax holiday defeats this purpose by denying the state a fair share of revenue from what is a non-renewable resource.

Tax regime for small traditional gold miners

19. Unlike the established mining companies, small traditional gold miners in Sudan are not being adequately taxed. It is estimated that there are thousands of these small miners, many of whom are operating in the remote desert areas of the country. The authorities are seeking to capture more tax from these small miners, especially now that oil revenues have declined. In 2012, it is estimated that around 48 tons of gold was exported, worth $2.2 billion, with only a small percentage coming from established gold mining companies.

20. Attempts have been made to better regulate the gold sector by requiring all gold exports, other than by the large mining companies, to be through the Central Bank of Sudan. The Central Bank buys the gold from 4 gold agents who are licensed to buy gold from the small miners and sell it to the Central Bank. The Central Bank introduced these arrangements in 2011 for the purposes of controlling foreign currency reserves and also as a mechanism to reduce the incentive for smuggling by offering small miners a price which is better than the price they would obtain for smuggled gold. A gold refinery has also been established in Sudan, with the Central Bank holding a 50 percent interest.

21. The gold agents deduct a royalty of 7 percent from the payments to the small miners, so that some taxes are being collected, at least indirectly, from the miners. Royalties are paid to the Geological Research Authority of Sudan, which is a public corporation attached to the Ministry of Minerals.

22. Collecting BPT from the miners is more difficult, and therefore the simplest approach is to impose a withholding tax on the payments to the small miners. It will be very difficult to monitor the small gold miners to ensure they are paying the correct amount of BPT. There is a concern that some of these miners are making significant profits but not paying any tax. Getting the small miners to file tax returns is likely to be difficult, so a better approach is to collect tax at the point at which payments are made to the small miners. The fact that it is likely that most of the payments are made by only 4 agents makes them an obvious collection point, especially as they are already collecting the royalty. This also greatly simplifies the monitoring for the Taxation Chamber.

23. The withholding tax would be a final withholding tax, unless the taxpayer opts to file a tax return and pay under the standard BPT. This option could be used by a taxpayer that is concerned that the withholding tax is too high compared to the BPT that would be paid if the taxpayer was assessed on their actual net profit.

24. Further analysis of the profits being made by the small traditional gold miners will be necessary to determine an appropriate withholding tax rate. The rate should be high enough to approximate the tax that would be paid if the BPT applied, but not too high as to encourage smuggling to avoid the tax. The factors to take into account include: the profit margin made by small gold miners (i.e., taking account of their costs and the 7 percent royalty); the rate of BPT that would apply if they were subject to BPT (i.e., 15 percent applying to most businesses or the 30 percent applying to large gold miners); and the level of tax that may be imposed before it becomes more beneficial to smuggle the gold. These factors should be discussed with the Central Bank of Sudan and the Ministry of Minerals. Ideally there should also be the option for the rate to increase if the gold price increased significantly. This would ensure that the tax is progressive (that is, the state receives an increasing share in the economic rents as the mining becomes more profitable). However, this may be difficult to implement and may make the system too complex.

25. To ensure transparency and proper accounting, the current royalty should be paid directly to the central government, rather than to a separate state corporation. The current arrangement, where the Geological Research Authority of Sudan collects the tax and uses it for its own purposes before transferring any surplus to the central government, is not transparent and reduces the government’s ability to control how the revenue from the royalties are spent.

Ring fencing

26. To protect the revenue, the authorities should consider ring-fencing mining activities for tax purposes. Ring-fencing is a limitation on consolidation of income and deductions for tax purposes across different activities or projects undertaken by the same taxpayer. There are benefits for a government in ring-fencing, as it can ensure government revenue where a company undertaking a series of projects seeks to deduct exploration or development costs for each new project against the income of projects that are already generating taxable income. For example, this could arise in Sudan if a company is in full-scale production in relation to a mining license area and commences exploration and development in an unrelated mining license area. While ring-fencing can protect the revenue, it can also hamper companies undertaking further exploration and development activities due to the inability to claim deductions for such activities on new projects. Therefore, in order not to hinder further exploration, unsuccessful exploration costs in other mining license areas could be offset against taxable income. Successful exploration expenditure would continue to be offset against income from the new mining activity arising from the exploration.

References

  • Dora Benedek (2012), “Mineral Taxation in Indonesia”, IMF Selected Issues (IMF Country Report No. 12/278).

  • Emil M. Sunley, Jan Gottschalk, and Alistar Watson (2010), “The Fiscal Regime for Mining: A Way Forward”, IMF.

  • Kiyoshi Nakayama, Selcuk Caner, and Peter Mullins (2011), “Road Map for A Pro-Growth and Equitable Tax System”, IMF.

  • Martin Grote, Selcuk Caner, and Emil M. Sunley (2011), “Priority Measures for Reforming the Mining Fiscal Regime”, IMF.

  • Peter Mullins, Dora Benedek, and Ashraf Al Arabi (2013), “Tax Reform Strategy for Revenue Mobilization”, IMF.

  • Philip Daniel, Michael Keen, and Charles McPherson (2010), “The Taxation of Petroleum and Minerals: Principles, Problems and Practice”, IMF.

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  • Saji Thomas (2010), “Mining Taxation: An Application to Mali”, IMF Working Paper, WP/10/126.

  • Thomas Baunsgaard (2001), “A Primer on Mineral Taxation”, IMF Working Paper, WP/01/139.

1

Prepared by Yoon Kim (FAD).

2

Business profit taxes from four gold producing companies are estimated to be 0.9 million SDG in 2010 and 1.7 million SDG in 2011

3

It is generally defined as the excess profit above the normal rate of return to capital.

4

They are Ariab, Rida, Hajajiyah, Hokan, and Al Sakhrah Al Hamra. By the end of this year seven more companies are expected to begin producing gold.

Sudan: Selected Issues
Author: International Monetary Fund. Middle East and Central Asia Dept.