A purposive interpretative approach to the calculation of mineral royalties

April 1st, 2021
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Commissioner, South African Revenue Service v United Manganese of Kalahari (Pty) Ltd 2020 (4) SA 428 (SCA)

In United Manganese of Kalahari (Pty) Ltd, the taxpayer, United Manganese of Kalahari (Pty) Ltd (UMK), conducted manganese mining operations and generated profit from the sale of manganese, as an unrefined mineral resource, both locally and internationally. In exchange for the right to mine and trade manganese, the Mineral and Petroleum Resources Royalty Act 28 of 2008 (Royalty Act) obliges UMK to pay royalties to the South African Revenue Service (Sars). A mining company’s liability for royalties due is determined by a formula set out in s 4(2) of the Royalty Act. The formula is determined by a process of calculation, which takes into account the gross sales of the mining company during the tax year. The mining company’s gross sales are determined in accordance with s 6 of the Royalty Act.

When UMK trades manganese to foreign buyers, the sales are carried out on either a ‘free on board’ (FOB) or ‘cost, insurance, freight’ (CIF) basis. It is unnecessary to describe in technical detail the process of a sale on either a FOB or CIF basis. It is only important to know that when UMK sold manganese to foreign buyers, it incurred costs relating to the transport, insurance or handling of the manganese ore (TIH costs) and the TIH costs were incurred after the manganese had reached the condition specified in sch 2 to the Royalty Act, which related to the grade of the ore and its required chemical components. In determining its gross sales for royalty purposes, UMK sought to deduct the TIH costs incurred from the income received or accrued to it from trading manganese. In respect of the 2010 and 2011 tax years, UMK furnished Sars with its royalty returns. Sars challenged the correctness of UMK’s royalty returns. The Supreme Court of Appeal (SCA) was approached with two conflicting interpretations of s 6 and was tasked with deciding the correct method of calculation for determining the gross sales of a mining company in a particular tax year for the purposes of calculating the mining company’s liability for royalties due.

Conflicting interpretations adopted by Sars and UMK

The material part of s 6, which the SCA was called on to interpret was the phrase ‘without regard to any expenditure incurred in respect of transport, insurance and handling’ of the manganese ore after it had reached the condition contemplated in sch 2. The appeal turned on the proper meaning and effect of the aforementioned phrase. Sars contended that it was only when a mining company sold the manganese at a price, which specifically accounted for any TIH costs in arriving at the global price that the specific amounts representing TIH costs were to be deducted in order to determine the gross sales of the mining company. UMK contended that it was irrelevant whether a mining company specifically made provision for TIH costs in the purchase price. UMK argued that if a mining company was able to show that it actually incurred TIH costs in any of the circumstances described in s 6(3)(b), a deduction of such expenditure had to be made in order to determine the gross sales of the mining company.

The interpretative approach adopted by the SCA

The SCA reiterated that the purposive interpretative approach is the correct approach to statutory interpretation as decided in the landmark judgment of Natal Joint Municipal Pension Fund v Endumeni Municipality [2012] 2 All SA 262 (SCA). The purposive interpretative approach entails an objective, unitary exercise which considers the –

  • language of the provision with due regard to the ordinary rules of grammar and syntax;
  • context of the relevant provision;
  • apparent purpose for which the legislature introduced the provision; and
  • material known to the legislature at the time of enacting the provision.

In the event that more than one interpretation prevails, each interpretation must be weighed in accordance with the aforementioned factors. The purposive interpretative approach outlined by the SCA in Endumeni was approved by the Constitutional Court in Airports Company South Africa v Big Five Duty Free (Pty) Ltd and Others 2019 (2) BCLR 165 (CC).

Purpose of the Act

The SCA noted that the background to the Royalty Act recognised that South Africa (SA) is a country with vast mineral wealth, which has historically been subjected to exploitation by private enterprises. The SCA held that the purpose of the Royalty Act was to ensure that mining companies paid royalties to Sars – the amount of which was determined by the value of the minerals extracted – in exchange for being granted the right to exploit SA’s mineral resources. The SCA held that the purpose of s 6(3)(b) was to ensure that a mining company’s liability for royalties due did not include the TIH costs incurred and recovered in the purchase price.

Material known to the legislature

Considering the contracts of sale for the exportation of the manganese submitted by UMK, the SCA observed that the contracts entailed trading in a denominated foreign currency, namely the United States Dollar. The SCA observed further that the purchase price of the manganese was fixed in dollars per ton on either FOB or CIF terms. The SCA noted that irrespective of whether the sale took place on a FOB or CIF basis, UMK would incur TIH costs. The SCA expressed the view that the foreign buyer would not be concerned with the TIH costs incurred by UMK, but would rather be desirous of fixing a global price for the sale of the mineral up to the point of delivery. The SCA held that the aforementioned information must have been known by the parties responsible for the legislation, including the Department of Mineral Resources and Energy (the Department). The SCA referred to the annual South African Mineral Industry reports and found that the Department was aware of all the mining activities and trading patterns in the mining industry. Therefore, the SCA held that when interpreting s 6, it would be proper to bear in mind that the responsible parties had knowledge of the ‘common, if not invariable, trading patterns’. Consequently, the SCA accepted that the responsible parties were aware that the sale of minerals would occur at fixed prices on either FOB or CIF terms (and that such prices would not specifically take into account the TIH costs incurred by the seller). The SCA found that there was nothing to indicate that the responsible parties only contemplated contracts of sale, which specifically stipulated a breakdown of the price by recording the cost of the mineral and amounts reflecting the TIH costs separately.

History of s 6(3)(b)

The SCA noted that the original form of the section provided that gross sales were to be determined ‘without regard to any amount received or accrued’ in relation to TIH. The SCA remarked that the original form of the section was confusing as TIH costs are not receipts or accruals, which comprise a taxpayer’s gross income, but are rather expense items. The SCA noted that the section was amended in 2010 to employ the phrase ‘without regard to expenditure incurred’ (the SCA was called on to interpret the section as it stood in 2010). The SCA noted further that the section was amended in 2019 to employ the phrase ‘after deducting any expenditure actually incurred’. Effectively, the SCA illustrated a pattern of the legislature amending the language of the section to reflect its intention, which pointed to the deduction of TIH costs in determining gross sales, irrespective of whether separate amounts reflecting TIH costs were specifically stipulated in the purchase price. In amplification of the aforementioned, the SCA referred to the explanatory memorandum that accompanied the Bill containing the latest amendment to s 6(3)(b). The extracts of the explanatory memorandum showed that the legislature intended to exclude the TIH costs from the calculation, because its inclusion would unintentionally increase the amount of gross sales and, consequently, increase the taxpayer’s liability for royalties due. All of the aforementioned clearly showed that the legislature’s intention and policy rationale coincided with UMK’s interpretation of s 6(3)(b).

Consequently, the SCA rejected the interpretation adopted by the Commissioner for Sars and found in favour of UMK. As the Commissioner’s interpretation was devoid of any legal basis, the SCA mulcted the Commissioner with a costs order, which included costs incurred in the employment of two counsel.

Conclusion

The SCA’s application of the purposive interpretative approach illustrated that a consideration of the context of a statute is fundamental for its interpretation. The background to which a particular statute is enacted provides the context for its interpretation. In circumstances where the creation of the statute was carried out by a commission of inquiry or a specialised drafting committee, it is permissible to refer to their reports, which may assist in contextualising the statute. Interpretational uncertainty may be clarified with due consideration to the legislative history of the enactment. Furthermore, the general background to the statute (such as, the nature of the concerns to which the legislature sought to ameliorate, the purpose for the statute, the nature of the areas to which the statute deals with, etcetera) may provide useful context. Before calling on the court to decide on the interpretation of a statutory provision, a practitioner should ensure that the interpretation argued on behalf of the client is founded in law, failing which the court may exercise its discretion to mulct the client with an adverse costs order.

Samuel Mariens LLB (UWC) is a student currently completing an LLM (Tax Law) at the University of Cape Town.

This article was first published in De Rebus in 2021 (April) DR 33.

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