On 10 February 2017, SARS issued a draft binding general ruling to clarify the treatment of expenditure incurred in respect of transport, insurance, and handling of refined and unrefined minerals for purposes of sections 5(3)(c) and 6(3)(a) and (b) of the Mineral and Petroleum Resources Royalty Act No 28 of 2008 (the Royalty Act).

The draft ruling was in response to queries raised by SARS on extractors of mineral resources, subject to royalty tax. SARS has challenged the treatment of transport, insurance and handling costs in the determination of gross sales. The interpretation by SARS in the draft binding general ruling could result in dire consequences for the already embattled industry. As gross sales forms the basis for the royalty calculation, mining companies face a significant increase in royalty tax.

The Royalty Act provides for a tax in the form of a royalty in respect of the transfer of mineral resources extracted within South Africa. The rate at which the royalty is to be imposed is dependent on the determination of gross sales and earnings before interest and taxes (EBIT), as can be seen from the following formlulae:

• In the case of refined mineral resources: 0,5 + [EBIT / (gross sales x 12,5)] x 100
• In the case of unrefined mineral resources: 0,5 + [EBIT / (gross sales x 9)] x 100

Gross sales of a refined and unrefined mineral, in the relevant condition as specified in Schedule 1 and 2, respectively, must be determined without any regard to any expenditure incurred in respect of transport, insurance and handling:

• After that mineral was brought to the relevant condition; or
• To effect the disposal of that mineral resource.

Similarly, EBIT of a refined and unrefined mineral, in the relevant condition as specified in Schedule 1 and 2, respectively, must be determined without any regard to any expenditure incurred in respect of transport, insurance and handling:

• After that mineral was brought to the relevant condition; or
• To effect the disposal of that mineral resource.

SARS has issued a draft Binding General Ruling and in relation to the 'Treatment of transport, insurance and handling costs' says the following:

'Expenditure incurred in respect of transport, insurance and handling to bring the mineral resource to the condition specified in Schedule 1 or 2 (whichever is applicable) must be taken into account in the determination of gross sales and EBIT.
 All expenditure in respect of transport, insurance and handling incurred after the mineral resource is brought to the condition specified in Schedule 1 or 2 must not be taken into consideration when calculating gross sales and EBIT.
Only transport, insurance and handling expenditure incurred in order to bring the mineral resource to the condition specified in Schedule 1 or 2 can be taken into account when determining gross sales and EBIT.'

The draft Binding General Ruling then goes on to rule:

'The ordinary dictionary meaning of the phrase “without regard to”, as contained in sections 5(3) and 6(3) respectively, means that the expenditure incurred in respect of transport, insurance and handling –
• after the mineral resource is brought to the condition specified in Schedule 1 or 2; or
• to effect the transfer of that mineral resource,
must not be taken into account when determining gross sales and EBIT for purposes of calculating the royalty percentage. Such costs will not qualify as a deduction in the determination of gross sales or EBIT.
In the event that such costs are on charged and included in the price of the mineral resource sold, the sales price may be adjusted to disregard such amounts from the calculation of gross sales and EBIT. The onus of proof rests with the extractor to prove that such amounts were taken into account and included in the price of the mineral resource.'

The draft ruling seems to have strained the manner by which gross sales and EBIT should be determined. SARS does not fully appreciate the stages performed to bring a mineral resource to the relevant condition and then the stages performed after the mineral resource is brought to the relevant condition.

SARS seems to follow a rather literal approach to the meaning of 'without regard to' and applies this approach equally to EBIT and gross sales, without regard to the context. The reality is that these expenses will always be taken into account in the cost of sales and be recovered by gross sales, which should then be excluded or deducted in order to be ‘without regard to’ these expenses.

The gross sales is the amount received or accrued during the year of assessment in respect of the transfer of the mineral resources and, it is submitted, that it should not even include these expenses, so recovered, incurred before the mineral is brought to the relevant condition, whereas the cost of sales should include these expenses incurred before the mineral is brought to the relevant condition.

Where these expenses, with reference to cost of sales, relate to a stage before and after the mineral is in brought to the relevant condition, such expenses should be apportioned. But how should it be apportioned? It is a pity the ruling did not address this aspect.