2012 Americas School of Mines · 1. Type of Seller / Buyer 2. Type of Entity / Tax Treatment (Like Kind) 3. Consideration to be Paid 4. Liabilities to be Assumed (Real / Contingent)

2012 Americas School ofMines

www.pwc.com

Tax Risks andTax Risks andConsiderations in MiningTransactions

Andrew PapadakisKerry GordonDarin Siders

Agenda

Recap of 2011 for the Mining Sector

Due Diligence

Tax Drivers and Opportunities to Add Value

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Tax Drivers and Opportunities to Add Value

Recent Legislative Proposals

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Section One

Recap of 2011 for the Mining Sector

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Recent M&A Activity for the Mining Sector

Based on reports, 2011 saw more than 2,600 M&A deals — worth $149 billion —announced in the global mining sectors (33% higher than 2010). This level ofactivity was attributable, first, to a continuing thirst for natural resources indeveloping countries, and, second, to solid financial footing in the sector(average mining company debt was at an all-time low and cash and profitabilitypositions were high).

2011 Information Shows:

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2011 Information Shows:

• Australia, U.S., and Canada led activity by transaction value

• Coal, Iron Ore, and Copper were the largest mineral transactions. Gold, as the priorcommodity leader, was driven down in 2011 transactions primary due to price

• Most transactions were domestic transactions (buyer and seller within the samejurisdiction)

• Canada buyers were the most acquisitive during this period (accounting forapproximately 30% of buyers)

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Recent M&A Activity for the Mining Sector (cont’d)

Mining M&A pick up following year of low prices and pastdisinterest by non-industry investors

• Mining deals were driven by:

― Pricing arbitrage

― Synergies

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― Synergies

― Competitive landscape and strategy (acquiring market access, technology, reducing competitors, etc.)

― Ability to successfully access the capital markets

Section Two – The Significance of TaxDue Diligence

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The Significance of Tax Due Diligence

Insight Gained in Recent M&A Due Diligence:

• Many mining companies paid less attention to taxes during priorperiods with operational losses

• Structuring benefits/efficiencies are being ignored

• Short cuts are sometimes taken in the workpapers and/or

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• Short cuts are sometimes taken in the workpapers and/orinexperienced advisors are being used

Tax should be at the forefront of the M&A negotiations;otherwise, value may be left on the table. The followingquestions should be considered early on:

― Entity or assets transaction?

― If a stock acquisition, is a Section 338(h)(10) election available and

The Significance of Tax Due Diligence (cont’d)

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― If a stock acquisition, is a Section 338(h)(10) election available andcan it be leveraged in the transaction to unlock value?

― Is there an exit strategy? If so, how does this strategy impact the need for a holding company (and where), the placement ofguarantees and debt, how management should be compensated,etc.?

― In strategic transactions, how can varying tax profiles be joined?

These are key questions that can be vetted in due diligence.

Other key questions that can addressed:

― What tax risks are being acquired?

― Are tax attributes being acquired?

• If so, how much are they worth, what are the limitations onutilization, and how will they be reflected in the financial


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utilization, and how will they be reflected in the financialstatements?

― What movements of assets, debt or capital should be done in advance?

• What will need to be done after closing to unlock potentialvalue?

― How strong is the tax department coming over?

Due diligence also provides an opportunity to vet structuringissues. These include:

• Addressing the question of which entity should incur the debt andwill there be any limitations on interest deductibility (U.S. orForeign)?


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• How will the proposed structure impact other tax calculations (i.e.,how may historic results differ from the go-forward profile):

- Percentage Depletion?

- Domestic Manufacturer's Deduction (Section 199)?

- State Income Taxes and filing obligations?

- Will a Consolidated Filing be of advantage or allowed?

- The New Effective Tax Rate?

And in the International Context, Due Diligence MayHighlight Questions Around:

- The Foreign Tax Credit Implications

- Alternative Financing Arrangements/Double DipTransaction/Hybrid Instruments


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Transaction/Hybrid Instruments

- The Impact of Double Tax Treaties

- Impacts of Section 163(j) on interest

- Transfer Pricing Arrangements (current / creditable)

Furthermore, Value May Be Preserved Or Unlocked ThroughDue Diligence, Which Can Address The Following:

• Are there tax risks related to pre-acquisition periods?

- How can they be managed in the due diligence process, throughcontractual protection, etc.?


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contractual protection, etc.?

- How should identified risks be reflected in bid price?

• Which acquisition structure(s) optimize the company's tax positionand attributes?

- What should be the due diligence posture to best unlock theirvalue?

- Can this structure help unlock cash?

• How does this impact the go-forward financials?

Due Diligence Can Also Help Identify Missed Elections(Statutory Versus Administrative)

• Lack of documentation of election -- Can the current tax accountingmethod be proved and maintained?

• Formal elections versus claimed treatment


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• Formal elections versus claimed treatment

• Consideration of 9100 relief

Due Diligence Issues can be Caused by:

• Prior Changes in Control Effecting Loss Companies:

- Lack of testing documentation

- Built-in Loss rule (not considering the mineral property)

- Excess credits (special rule for electing out of bonus)


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- Excess credits (special rule for electing out of bonus)

• DTL’s - Recapture Issues (Exploration Costs)

• Treatment of Exploration & Development Expenses

• Accounting Method Changes (Affirmative Elections)

• Tax Treatment of Environmental Liabilities (Section 198)

• Obsolete Equipment

• Tax Treatment of Performance Based Agreements (Royaltyagreements)

Due Diligence Issues can be Caused by (cont.):

• Changes in Depletable Property

• Percentage Depletion: Is the Representative Field or Market PriceSustainable?

• Aggregation of Mines


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• Aggregation of Mines

• Abandonment of Sites (No deduction)

• Reclamation Elections (right to claim [Section 468] and 10 year carryback [Section 172(f)])

• Reclamation Liabilities

• Inconsistency in the Section 263A Method

• Alternative Minimum Tax treatments (no AMT or ACE adjustments)


• FIRPTA (U.S. Real Property Holding Corporation or Real PropertyAssets)

• Significant change in business results (loss companies becomingprofitable without increase in tax focus)


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profitable without increase in tax focus)

• Lack of communication (e.g., management, operations andengineering on a different wave length than tax)

• Being deficient in obtaining the facts or questioning the summarieson facts which do not describe a complete transaction

• Failure to document prior transactions and there legal and taxconclusions



• Consideration of other doctrines of law:

- income assignment,

- sham partnership,

- step transactions,

- duty of consistency,

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- substance over form,

- void for vagueness doctrine,and

- Cohen rule

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- economic substance,

- origin of claim,

- rescission doctrine,

- cost reimbursement,

Use Of Safe Harbor Without Documentation MeetingRequired Tests

• De minimis rule under Section 199

• Small Reseller under Section 263A

• Repairs and maintenance non-capital rule


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• Repairs and maintenance non-capital rule

• Deemed safe harbor for following GAAP

• Debt-to-equity ratio for excess interest under Section 163(j)

• Passive Foreign Investment Company asset and income tests

• Multiple states of business/International locations

• State Nexus issues

• Reorganization and post transaction improvements

• State or Local transaction taxes or fees

Things to Look Out for

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• Golden Parachute (280G) plans

• Asset deals – Does not necessarily lead to no tax diligence

Section Three

Tax Drivers and Opportunities to Add Valuein Deal Execution

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Tax Drivers and Opportunities to Add Value inDeal Execution

Structuring considerations

• Attribute monetization

• Debt placement/pushdown

• Opportunity to combine businesses or leverage activity combinations

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• Cleaning up old entities without a current business purpose

• Limiting intercompany transactions on which tax benefits areimmaterial

• Intercompany balances (debt, equity or something else)

• Worthless assets/entities (determination of the proper timing ofdeduction)

Tax Drivers and Opportunities to Add Value inDeal Execution (cont’d)

Change in Control

• Tax Attributes

- NOLs/capital losses/AMT credits/other

- Depreciation and Amortization

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- Limitations

- Loss Corporation and NUBILs/NUBIGs

• Acquirer's Limitation

- Right to Use

- Limitations (Sections 267, 382, 383)

- Lack of documentation on prior transactions necessary tosubstantiate


Earnings and Profits

• Are records available?

• Can past and future distributions be determined as non-taxable ortaxable with certainty?

• How will excess credits or previously taxed income be used in the

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• How will excess credits or previously taxed income be used in thefuture?


Purchase Price Allocation vs. Cost Segregation

• Why not the same as book?

• Risk of short-cut methods

• Force of excess purchase price to goodwill without stepping down thewaterfall

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waterfall

• Determination of existing built-in gains in mineral inventory,intangible assets, and contract rights


Costs of Transactions

• Transaction Costs (deductible inside/outside)

- Safe Harbor Notice (2011-29) Regarding Success Based Fees

- Deductible versus Capitalizable

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• Sales and Use w/exclusion for occasional sales

• Real Estate registration requirement

• Excise Taxes

• Shared services agreements


Foreign Investment in U.S. Real Property Tax Act

• Consideration of mandatory withholding

• Reliance on GAAP Assets

• Can a reasonable determination of gain / loss be made?

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Section Four


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The Administration Proposed the Repeal of Incentives

• Last-In, First-Out Inventory Method

• Lower of Cost or Market Inventory Method

For Fossil Fuels Including Coal, a Repeal of:

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• Exploration and Development Expense

• Section 199 Deduction

• Percentage Depletion

• Levy a fee on the production of hardrock minerals to restoreabandoned mines


State Tax Proposals:

• Many States proposed new statutory provisions for mineralsproducers, but few enacted.

• Most enacted provision where related to extensions of rates,deductions, or credits

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deductions, or credits

• Florida -- Extension of fees on limestone and phosphate production

• Minnesota -- Expanded Net Proceeds of Minerals to process minerals

• Nevada -- Net Proceeds of Minerals

• West Virginia -- Safety Technology tax credit


Rulings and Cases:

• CCA 201208029 -- Non-productive lease sales is not domesticproduction gross receipts

• Esgar Corp. v. Comm'r, T.C. Memo. 2012-35, Feb. 6, 2012,overstated the value of the conservation easements

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overstated the value of the conservation easements

• Peco Foods v. Comm'r, T.C. Memo 2012-18 (Jan. 17, 2012) acquireris obligated to the purchase price agreement (binding on assets) unlessinappropriate or unenforceable

• AM2012003 – Worthless stock deduction not allowed when taxrefunds and other legal claims exist which attribute value to the entity(see Treas. Reg. Sec. 1.1502-19(c)(1)(iii)(A)

Mining Tax Top Ten (Due Diligence Reviews)

Single Property Deal:

1. Type of Seller / Buyer

2. Type of Entity / Tax Treatment (LikeKind)

3. Consideration to be Paid

4. Liabilities to be Assumed (Real /Contingent)

Consolidated Group Deal:

1. Consideration to be Paid

2. Tax Free Reorganization / Not

3. Value of Tax Attributables

4. Core Entities and Assets

5. Deal Objectives (core / non-coreassets)

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5. List of Assets to be Acquired with ExistingTax Basis

6. Market Value of the Assets

7. How much Value should be Attributable toMineral Reserves

8. Other Intangible Assets or Rights

9. Unpaid Taxes (Assessed Against Assets)

10. Recapture, Accounting Methods,Elections

assets)

6. Market Value of the Assets

7. Documentation of Tax Elections

8. Exit Strategies

9. Inside / Outside tax basis (non-core)

10. Recording of Deferred Tax Assets /Liabilities

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Summary

• Many mining related transactions are occurring and we expect thisactivity to continue.

• The tax group is important in all phases of the transaction.

• For a successful mineral acquisition transaction, one must:

Have a clear understanding of the Target's business and objects;

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Have a clear understanding of the Target's business and objects;

Model how this Target may be incorporated into your existing taxreturns and plans;

Have good interview skills, but allow the other party to talk; and

Be skeptical but hear their story.

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Questions/Comments?

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Thank you.

© 2012 PricewaterhouseCoopers LLP. All rights reserved. PwC refers to the United Statesmember firm, and may sometimes refer to the PwC network. Each member firm is a separatelegal entity. Please see www.pwc. com/structure for further details.

Documents

2012 Americas School of Mines · 1. Type of Seller / Buyer 2. Type of Entity / Tax Treatment (Like Kind) 3. Consideration to be Paid 4. Liabilities to be Assumed (Real / Contingent)