“Investors cannot complain if we correct our past mistakes“

What sort of discussions were held before the law was amended to restrict VAT refunds?

The law was that any product that was commercially exported was entitled to get a refund of part of the VAT paid in the process of production. These would include what they paid as they consumed heating, water, electricity, communication facilities, food for staff and all such things during the production process. This refund made a dent in the State budget, especially as revenue from mining plays such a role in the economy of our country. For instance, Ivanhoe Mines Mongolia Inc. Co. Ltd. did not actually pay a single MNT as value added tax in any of the last four years but received MNT39.4 billion as refund for what it might have ordinarily paid.
 
Looking ahead, when mining begins in Tavan Tolgoi and Oyu Tolgoi, our position would have been even more precarious if the law were not amended. The initial construction would be hugely expensive and the companies will pay VAT on almost everything they use. If we then have to refund part of that, as the law said before being amended, it would be a great burden on the State. Admitting that the refund of VAT is standard international practice, while most Asian countries give back only 6-7% of the VAT paid, in our case, the refund rate was a whopping 48%! If we had not passed the amendment, we would remain in debt for ever, as the refund would be more than our entire budget revenue. We in the Tax Authority realized this quite some time ago and submitted several studies to the Ministry of Finance. Nothing was done for about three years, and we kept on paying a great deal of money in refunds. Now the law is changed, and so should the position.
 
How much have been paid so far in refunds?

Altogether MNT242.4 billion of VAT was refunded between 2005 and 2008, of which 83.9% or MNT203.4 billion went to the mining industry. This year the industry has so far got MNT17.9 billion. 

Did this practice of refunds have any wider impact on business in Mongolia?

It did. Your tax dues can be adjusted against any refunds that the Government owes you. With such great advantages offered by the VAT refund provision, investors concentrated on the mining sector, as that would save them money on their non-export products.  Let me give you a very simple example to explain how this has been happening. Say, a company exports coal, and also produces vodka, and maybe has other business also, as there is nothing in law against running several business activities simultaneously. However, they show all their expenses as related to coal production, and since that product is exported, they claim VAT refund on consumption of goods and services that actually went into vodka production. Thus the tax they pay on vodka sales they recoup from the VAT refunded.

If this were to continues, how can Mongolia earn any tax revenue that can be contributed to the budget? How will the Government spend on, say, health, education, defense, or pay salaries, pensions and welfare benefits? This was a ridiculous distortion of the principle behind offering tax reliefs.

For long there has been criticism of the special tax regimen applied to Boroo Gold. (A recent report in The Washington Times says, “In the early part of this decade, when commodity prices were low and Mongolia was desperate to attract foreign investment, ‘the Government offered too many incentives, too many tax holidays,’ explained S. Oyun, a member of Parliament. As a result, foreign companies were able to mine out some gold reserves with little or nothing accruing to the Mongolians.”) When the stability agreement was made in 1998 nobody could foresee where this will lead us in 2009-2010.

But even when we realize we are losing we cannot change an agreement lawfully signed. This naturally makes us wary before we hand over to foreigners our most valuable underground reserves. To allow us to benefit from a long-term agreement we have to have laws and regulations with an eye on the future. We must never lose sight of the fact that what we sign today will have an impact on the state budget years later. 

When did you first think about possible amendments to the VAT law?

I am one of the few people in Mongolia to hold a degree in tax matters and have worked all my life in the Ministry of Finance and in the Tax Authority. In this time we have prepared many studies on our tax laws and the loopholes they contain and have submitted several estimates of the loss they cause to tax revenue.

We have had our eyes on the VAT refund procedure and practice for some time. We prepared a comprehensive study of the situation and concluded that if these unusual exemptions were not annulled, it would jeopardise our budget revenues. We also wanted to be transparent in our decisions and to offer equal facilities to all tax payers.     
Soon after this, some members of Parliament came to us to discuss and study issues relating to Boroo Gold. We took the opportunity to ask them to go through our paper presented to the Ministry of Finance. This they did and they saw much logic and merit in our proposals. This group of 10 MPs were convinced enough of the imperatives for the change to formulate a draft amendment for Parliament to discuss. I was included in the working group that reviewed this draft and that did a very good job. All this led to the adoption of the draft amendment after only a first discussion in Parliament. 

How much do you expect to save?

Approximately MNT40 billion. This is quite a lot in this critical period when state revenues have been falling. Most industries are producing less and copper prices are fluctuating. The budget revenue has decreased by almost MNT250-260 billion in one year. That is why this amount of MNT40 billion is valuable. Moreover, if the law was not amended now, the loss would be enormously ger when mining begins at Tavan Tolgoi and Oyu Tolgoi. 

When does the amendment take effect? How long  will it take for the loopholes to be plugged?

The amendment is taken to be a regulation relating to procedure and becomes effective ten days after it is published in the State information journal. Parliament has authorised  the Government to determine what is to be considered a “finished product” in mining, and how it should be coded. There will be no refund of VAT paid while producing anything not exported as a finished product.

In mining, the raw material is in reserves underground, and can only be extracted once, unlike the grain for bread which can be freshly grown and harvested every year. Mineral resources are not renewable and their depleting stocks cannot be restored. That is why we could not continue with the tax relief on use of our strategically significant products.

VAT is a tax imposed on consumption and is collected at the time surplus value is produced. These days, all businessmen run after something other than what the people of Mongolia need and that also requires large investment and a complex production process. Many businesses that used to run in the right direction have moved to mining. We cannot allow this situation to continue and our concern has rightly been expressed in the act of Parliament.

How friendly is our tax environment to investors in mining?

We have only one tax law that applies to all sectors. Significant amendments have been made since 2007 to the package, leaving us with the “three tens”. Personal income tax has become 10%, VAT is also 10%, and so is corporate tax. There are no individual differences any longer. We have also become the country with the lowest tax rate. 

This should be a encouragement to doing business in Mongolia. Recently, I attended an international conference on “The Constitution of Mongolia and its economy”, where I read a paper on “Tax reform policy of Mongolia”. In this, I reviewed our tax structure since 1993 and showed how business-friendly we have always been in terms of international practices. We have consistently reduced tax burdens in various ways and have also passed an amnesty law to end all tax disputes and withdraw our claims.

Many feared strong resentment from the thousands of businessmen who had been paying their taxes regularly at what they considered to be surrender to evasion and dishonesty, but in practice the six-month period of the amnesty led to the disclosure of a considerable amount of hidden income and the financial records of many businesses have become transparent now. 

But this refers mostly to the domestic investor. Foreign investors outnumber them in mining. Here, too, there is no other country with resources that offers a comparable environment for foreign investment. When they complain that our MPs are making things tough for them, they should be reminded that in their home countries or in other countries where they work, the legal environment and the tax regime are likely to be far tougher.

Experienced foreign investors are expected to be aware of risk factors and cannot pretend to be surprised that Mongolia has realised the mistakes it made. Finding ourselves in a hole, it is only natural that we take steps to get up and out. It is a pity that both the realisation and the measures did not come earlier. 

What are VAT laws like elsewhere in the world?

We were possibly the 110th country to adopt VAT. This was in 1998. Basically VAT taxes consumption and the procedures are mostly similar everywhere. Our refund rate of 48% was much higher than the usual 6-7% in force in most Asian countries. VAT applies to purely domestic consumption and is thus independent of anything that happens in any other country.