Good Governance Tax Compliance in the Extractive Sector

Background

The OECD estimates that developing countries lose about 16 percent of their annual tax revenues through aggressive tax avoidance strategies of multinational companies. In resource-rich countries predominantly this is true for the mining, oil and gas sector. The shortfall of revenue makes it difficult for countries to mobilise own resources urgently needed for their sustainable development and the implementation of the Agenda 2030 in line with the Addis Ababa Action Agenda (AAAA).

An effective tax framework – strengthened through tax policy reforms and rigorous tax audits – is a critical prerequisite for exploiting the full tax potential of a country. The domestic resource mobilization capacities of resource-rich countries are particularly threatened by the exploitation of tax loopholes and profit shifting (Base Erosion and Profit Shifting (External link), BEPS) by multinational extractive corporations. The manipulation of the tax base often takes place through so-called (internal) transfer pricing.

Transfer pricing refers to the pricing of goods and services that are sold within the various business units of an enterprise. Where transfer pricing practices are misused for tax avoidance purposes, profits are shifted between individual entities of an enterprise, often to entities in regions with low tax requirements. The country in which the profit was originally generated loses out on revenue that could play an important role in its development and the achievement of the SDGs.

Sector Programme Commitment

To strengthen the capacities of tax authorities in partner countries with active extractive sectors, the Sector Programme “Extractives and Development” in cooperation with the African Tax Administration Forum (ATAF), developed the Transfer_Pricing_Risk_Tool in 2017. Effective risk assessment mechanisms are essential, especially for developing countries with limited audit resources, to distinguish between abusive and standard industry practices. The toolkit addresses this challenge by offering a user-friendly, straightforward, step-by-step guide on how to determine whether high-risk transactions in the extractive sector should be subjected to transfer pricing audits. It also provides the detailed information tax authorities need to identify and evaluate transfer pricing issues.

Focusing on capacity building of tax authorities, trainings based on the toolkit were subsequently conducted for ATAF member countries in Côte d'Ivoire, Cameroon, Liberia, Zambia, and Tanzania, and two trainings were organized with the Inter-American Center of Tax Administrations (CIAT) in Panama. In 2019, the Sector Programme “Extractives and Development” facilitated a regional dialogue among tax authorities from seven countries in Southern Africa, with the aim of improving information-sharing among authorities.