Poorly drafted laws causing huge loss

Do we have any law now to regulate trade in mineral exploration licences among foreign companies? What happened to the Ministry of Finance proposal to amend the Tax Law to help make this possible?

You may recall that in 2010, when the State Great Khural was discussing the OT investment agreement and the State budget, several MPs spoke about foreigners trading in mineral licences. They also wanted to know what taxes were being collected from them. Following this, the Ministry of Finance started studying the whole issue of levying a tax on such trading and we began to work on necessary amendments to the Mineral Law and the Economic Entity and Organization Income Tax Law. The drafts of the proposals are now ready.

There are two aspects that should be remembered here. First, we have to set up the legal basis to have a regulatory authorityto oversee and monitor the entire process of foreign entities buying strategic deposits in Mongolia. It will derive its power from the National Security policy. Some MPs proposed a draft law on this some time ago, but nothing came of it. It is an absolute priority to formulate, adopt, and enforce the legal provisions to have this regulatory body with teeth.We are all talking about Canada’s SouthGobi Resources which owns SouthGobi Sands LLC, but it is impossible for us to know for sure how many more foreign companies have shares in our strategic deposits and are trading them.

The OT investment agreement is specific about conditions for foreign entities hoping to buy a majority of the shares of the company that owns the mining licence of OT. This was the first time such regulations were formalised. Their use has to be universal and we need to have a legal shape for them. In a situation where control of the company has been shifted without the prior consent of the Government, Clause 10.10.1. makes it clear that if the new managing entity of the OT Project is a member of the Rio Tinto Group, relevant provisions of the Stability Agreement will have to be renegotiated, with the Government favourably considering allowing the Investor to retain its existing rights. However, if control of the company has been transferred to a party not a member of the Rio Tinto Group, Clause 10.10.2. provides for termination of the initial Investment Agreement altogether.

We have examples from other countries of how a government agency enforces such regulation. In 2009, Chinalco, the parent company of the Chalco which now wants to buy 60 percent shares of SouthGobi Sands, offered Rio Tinto USD19 billion for a percentage of its shares. The Australian Foreign Investment Review Board refused to approve the transaction. Not merely was no sale made, but Rio Tinto also had to pay Chinalco USD195 million as termination fee as the latter’s bid had been unsuccessful for exterior reasons.

The second aspect is levying a tax on the proceeds of such sale of licences, even when regulated and approved by the state. There is no such provision in the Mineral Law or the Economic Entity Income Tax Law, but as I have said, we have drafted the required amendments.

The Constitution makes it clear that all minerals belong to the people of Mongolia, but it is ironic that laws, with apparent Constitutional validity, are allowing sale of mineral licences to foreigners. Such laws must be changed immediately.

Some coordination is also needed. For example, the Tax Authority and the Minerals Authority need to routinely exchange information on mineral exploration licences, their registered ownership and anysubsequent transfer of ownership. Only then can clauses 49.2 and 49.3 of the Mineral Law be implemented.

What does it mean when you say Chalco wants to buy 60 percent of SouthGobi Resources which is registered in Canada?

I shall give you the complex and interlinked ownership structure.

Rio Tinto owns 51 percent of Ivanhoe Mines Limited which is registered in Canada. Ivanhoe Mines Limited owns 57.6 percent of SouthGobi Resources, also registered in Canada, while China Investment Corporation which belongs to China’s Ministry of Finance,owns 14 percent.
Canada-registered SouthGobi Resources owns SGQ Coal Investment Pte.Ltd that is registered in Singapore.  This Singapore company owns the total shares of SouthGobi Sands LLC which is registered in Mongolia. SouthGobi Sands owns the mining licence of a large coking coal mine and other mines in Ovoot Tolgoi, Umnugovi aimag.

On April 1, 2012, Ivanhoe Mines made an agreement with China’s Chalco to sell it 57.6 percent of the shares of SouthGobi Resources. The agreement was signed outside Mongolia, but the licence that SouthGobi Sands owns is in the territory of Mongolia. The price offered per share is reported to be 29 percent more than the prevalent price, so Canada’s Ivanhoe Mines profits from a deal that has to do with mining Mongolian resources.

Why did Chalco not buy the shares of SouthGobi Sands registered in Mongolia? Why did it buy shares in the parent company which is registered in Canada?

A company needs to meet certain requirements set down in the Mineral Law of Mongolia if it wants to acquire a mining licence here. The company can bypass this by buying the company that already owns the licence instead of trying to buy just the licence from it. Also, Chalco avoids paying tax if it buys a company registered in Canada,as per a Mongolia-Canada agreement. Further, it gives Chalco a better chance to sell the licence to another company in future.
   
Why can’t we tax deals that sell to foreigners licences to mine in Mongolia? Our readers would like to understand this clearly.

There is no provision in any Mongolian law to tax any transaction abroad regarding Mongolian mining and oil company shares. Mining here is now seen as attractive and profitable, so investors, corporate or institutional, want to own stock in companies that hold mining licences in Mongolia. Millions of dollars are changing hands as these shares are bought and sold, so taxes on the profit a shareholder makes as he sells are very much in order.

Our proposed amendments seek to bring The Economic Entity and Organization Income Tax Law to international standards. They would allow Mongolia to demand tax on the profit any company that owns an exploration or operation licence here makes by selling more than 10 percent of its shares, wherever the sale might take place.

Everyone will agree that both foreign and domestic market conditions have greatly changed since adoption of the current Mineral Law. Changing the law has often been discussed at many levels, but nothing concrete has yet emerged. The Mineral Law should be the source of all regulatory authority in the mining sector, but we also have to consider the entire issue from the perspective of the whole financial and tax systems in order to solve the problem we face today. For example, since SouthGobi Sands stocks are being traded outside Mongolia, the transaction is beyond the purview of our Mineral Law. It is only by linking the Tax Law and the Mineral Law that Mongolia will be able to have a holistic regulation system that will allow it to tax such deals.

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