The legal framework: From custodianship to compensation

The Mineral and Petroleum Resources Royalty Act 28 of 2008 (Royalty Act) is grounded in the custodianship principle set out in section 3 of the Mineral and Petroleum Resources Development Act 28 of 2002 (MPRDA). The section declares South Africa’s mineral and petroleum resources to be the common heritage of all citizens, with the state appointed as custodian on their behalf.

This custodial function is not abstract; it imposes legal duties on the state, including adherence to the MPRDA, compliance with administrative law, and the fulfilment of its fiduciary obligations to the public. The Royalty Act gives legislative effect to this framework by introducing what is often described as a “resource rent”. Although not an income tax in the traditional sense, this royalty serves as compensation to the state for the extraction of finite, non-renewable resources.

When and how royalties apply

Section 2 of the Royalty Act imposes a royalty on the “transfer” of mineral resources extracted from within South Africa. A transfer includes not only a sale but also disposal, consumption, theft, destruction or loss of the mineral unless it has already been transferred earlier in the value chain. The royalty is calculated on the gross sales value of the mineral at the point of transfer, and the applicable percentage is determined by whether the mineral is classified as refined or unrefined under the schedules of the act.

Coal is classified as an unrefined mineral resource, and therefore the royalty payable falls under the regime for unrefined minerals set out in Schedule 2. This classification is important, as it defines the applicable royalty formula and the basis for determining the gross sales value.

The challenge of calorific value

A key complication in calculating coal royalties lies in determining the calorific value (CV) of the coal, that is, the amount of energy the coal can produce. Schedule 2 of the Royalty Act specifies that coal subject to royalties must fall within a calorific value range of 19.0 MJ/kg to 27.0 MJ/kg. However, the act does not prescribe the method by which CV must be measured, which has resulted in inconsistent practices across the industry.

Some producers have measured CV on an air-dried (AD) basis, which removes some moisture before testing and tends to inflate energy values. Others have relied on as-received (AR) CVs, which include moisture content and therefore provide a lower, and arguably more accurate, reflection of the coal’s quality at the point of transfer. These divergent practices have led to variations in reported gross sales values and, consequently, royalty obligations.

Before 1 March 2014, Schedule 2 specified only a minimum CV of 19.0 MJ/kg. The Taxation Laws Amendment Act 31 of 2013 introduced a range between 19.0 MJ/kg and 27.0 MJ/kg to better reflect market realities, including Eskom’s demand for low-grade coal around the lower end of the range, newer power plants requiring mid-range CVs, and export-grade coal often exceeding 23 MJ/kg. While this shift made the royalty regime more commercially relevant, it also intensified confusion over how CV should be measured for compliance purposes.

Section 6A and royalty adjustments

To guard against manipulation or misclassification of mineral quality, section 6A(1A) of the Royalty Act provides that if a mineral is transferred with a quality below the minimum specified range, it is nevertheless deemed to meet the minimum value for royalty calculation purposes. Similarly, if it exceeds the maximum value, it is capped accordingly.

This provision is particularly relevant to coal producers using AD measurements. Because AD CVs can push the reported value of coal above 27.0 MJ/kg, downward adjustments under section 6A may be required. In contrast, AR measurements are less likely to breach the maximum and better reflect the coal’s condition at the “first saleable point”, which is the statutory benchmark for determining gross sales.

SARS Interpretation Note 138

To address the inconsistency in CV measurement, the South African Revenue Service (SARS) issued Interpretation Note 138, which provides guidance on the correct method for determining calorific value for royalty purposes. The note confirms that CV must be assessed at the first saleable point and must reflect the as-received condition, not the artificially elevated air-dried condition.

This development marks a significant shift in enforcement. By standardising the CV methodology across the industry, SARS aims to ensure consistent royalty calculations, prevent underreporting and secure accurate revenue collection. While the note brings much-needed clarity and alignment, it also imposes more stringent compliance expectations on mining companies, especially those that have historically relied on AD measurements.

Implications for industry and practice

Interpretation Note 138 is a reminder that royalty compliance is more than a technical accounting exercise, and is a strategic issue that affects the bottom line. Producers who previously applied for AD CVs may find themselves liable for additional royalty payments or open to audit challenges. Conversely, those adopting AR CVs in line with SARS’ guidance will benefit from regulatory certainty and reduced risk of disputes.

That said, challenges remain. Differences between industry norms and SARS’ interpretation may still give rise to disagreements over the application of section 6A adjustments, or the use of sampling and lab procedures that affect CV determination. Legal and technical advisors will play a critical role in navigating these grey areas as the regime continues to evolve.

Conclusion

As South Africa continues refining its mineral regulatory framework, the clarity offered by Interpretation Note 138 is both welcome and necessary. But clarity brings responsibility. Coal extractors must now align with a more disciplined approach to calorific value reporting and ensure their royalty payments reflect both legal requirements and operational realities.

In the current environment, accurate CV measurement is not just a tax obligation but is a cornerstone of regulatory compliance. For mining companies that want to avoid surprises in their Christmas stocking, now is the time to review, adjust and engage.