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with the terms and conditions of the permit, paying a fee for the permit, or by relying on the permit. In permit cases, legal consideration given in exchange for the permit has been held to create a depletable interest.

Ocean miners provide a classic example of taxpayers who must look to income from the extraction of minerals for a return on their investment. This requirement, primarily, is designed to foreclose the depletion deduction claims of contract miners, who are more like employees than true investors, because they are paid fixed amounts for their work. Ocean miners will look solely to their mining enterprise to earn an income secured by a U.S. permit which will provide a return on their investment. They will have an economic interest, a depletable interest in manganese nodule deposits.

EXPLORATION EXPENSES

Treasury's testimony states that the expenses of "exploration" for mineral deposits located outside the United States are non-deductible. Although Treasury's testimony is literally correct, it should not be misconstrued to mean that tax deductions will be denied for the expenses of all activities authorized by a license for "exploration" issued under S. 2053 (if enacted). The definition of exploration in the tax code is markedly different than the definition of “exploration” in S. 2053. In fact, the expense of most operations conducted by an ocean miner under the authority of a license will be deductible as development expenses.

The expense of exploration for mineral deposits located outside of U.S. territorial waters must be capitalized and can not be deducted once a $400,000 cumulative limit has been exceeded. However, all domestic exploration expenses are deductible. Exploration expenses, foreign or domestic, are defined as expenditures "for ascertaining the existence, location, extent or quality of an ore deposit." In ocean mining parlance this would be the prospecting stage. The expense of activities conducted immediately after prospecting/exploration is fully deductible as a "development" expense, whether foreign or domestic mining is involved. After a mine becomes commercially productive it enters the "producing stage," in tax terminology. S. 2053 defines only two stages of mining activity. Commercial recovery (as defined in S. 2053) is roughly equal to a producing mine in tax terms. Activity prior to commercial recovery in the terminology of S. 2053 is "exploration." Thus the exploration stage of S. 2053 includes the "development stage" for tax purposes. For example, expenses of the detailed mapping of a mine site are deductible as development expenses if the mapping takes place after the commercial, viability of the mine had been determined. For example, the cost of core drilling designed to "delineate the extent and location of the commercially marketable ore reserves in order to facilitate development of the ore" is deductible. The expense of most activities conducted under a license would be deductible as development expenses.

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Under current law some expenses, e.g. basically early prospecting costs, might not be deductible. Additionally, foreign as opposed to higher domestic percentage depletion rates could be applied to ocean mining. The Treasury Department believes that as "a matter of tax policy any investment by a United States resident should be treated as 'domestic' so long as it is not located within the taxing jurisdiction of a foreign government." To effectuate this policy with respect to "exploration" expenses (in the tax sense) and depletion percentages, a paragraph such as section 107 of H.R. 3350 should be added to S. 2053.

ESCROW FUND

According to the Treasury, payments to an escrow fund under an international seabed authority are to be treated as a "royalty." But such payments actually bear little resemblance to a royalty which under domestic mining laws are payable to the government of a national state and usually are only a small percentage of the value of the product mined. Payments to an international authority could represent a very large percentage of the value of the assets: the determination of the percentage or amount would be beyond the control of the U.S. Government or any other single government (whether or not the U.S. views the international authority as having sovereign taxing powers). The unique nature of a corporate payment to an international escrow account, a burden no purely-domestic mining company bears, justifies its being deductible from taxes otherwise owed, a tax credit, and not merely deductible from taxable income.

On balance, ocean mining will receive tax treatment in large measure comparable to the tax treatment of domestic mining. Ocean mining will qualify for depletion allowances, investment tax credits, and full asset depreciation range allowances. The expense of most activities authorized by a license for "exploration" will be

deductible. Possible tax problems, with respect to the deductibility of prospecting expenses and the applicable rates for percentage depletion, can be solved in the manner used in H.R. 3350. No change in current tax law is required.

If the special tax burdens that the Treasury would impose by its interpretation of law are accepted, the only recourse is for a U.S. company to go abroad or, writing off its losses, to redirect its investment into activities that are not treated so unfairly by Treasury. Neither course serves the national interest if the administration is sincere when, as its representative has stated, "* the wealth of resources at the bottom of the sea must not be left to be idle.

Economists in the Treasury Department should also look more carefully at the state of the outlook for the international mining industry, including prospective market prices of minerals, DCF requirements of an investing company and bank loan criteria and practices.

Deputy Assistant Secretary Helen Junz provided a somewhat arguable statement about corporate guarantees in trying to make the point that the investment guarantees proposed in the bill are unnecessary. She stated "(Banks) require that specific investments be fully backed by the corporations undertaking them ・・・ banks will not fund projects without corporate guarantees." This is not exactly the case in the international mining industry. Say U.S. company "X" enters a joint venture with a Philippine company in a minerals project in the Philippines with 30 percent of the equity. In such investments a U.S. company usually tries to put up a minimum amount of its capital and to leverage as much as possible. The U.S. company probably would not guarantee bank loans to the joint venture even up to 30 percent on the basis of its total balance sheet. It is impractical for corporations to fully guarantee all these losses of parent and subsidiaries. Options are available. More likely the banks would only require long-term sales contracts for the output for the project that would cover interest and repayment of principal over the scheduled amortization period of the loan. Alternatively, funds or guarantees could be provided by a development bank of the Government of the Philippines. All such options are not available to a deep seabed mining company. Since the mining is in international waters there is no governmental development bank to support loans or to put up capital. Also, long-term sales contracts for the output would be difficult to negotiate since the technology is new, innovative and untried on a commercial scale. Unanticipated technological difficulties may arise in scaling up for commercial production which would raise questions about delivery date or quality of product. Unfortunately, the Treasury Department's representative misinterprets the bills' provisions concerning political risk insurance: they are designed to provide equity and non-discriminatory treatment, not preference.

As regards future changes in the tax laws, no one can predict with confidence but speculative discussion has included doing away with capital gains, elimination of DISC, reduction or elimination of depletion allowances for hardrock minerals, eliminating foreign tax deferrals or credits, etc.

These considerations raise the question: Even with a measure of assured governmental political risk insurance at what point will the bill fail to accomplish the objective of facilitating the commercial exploitation of deep seabed nodules by US companies?

The requirement for special incentives to attract capital for mining of deep seabed nodules is strengthened by the magnitude of capital investment that will have to be made in minerals projects if there is not to be a shortfall in future supply In projecting costs, account must be taken of inflationary impacts. Increasing capital needs for energy projects will make borrowing even more difficult.

In a recent internal report to the President of the World Bank, the Bank staff estimated that gross investment required in the mineral sector between 1976 and 1980 would have to be $72-$97 billion (1975 dollars) for the world, with $38.5 billion to be made in the Developing Countries, and $106 billion for the world between 1981-85, with $57 billion in Developing Countries. The figures included in these totals for the minerals found in deep seabed nodules which are located under the land area of nation states are as follows. (No estimate was made for cobalt.)

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The points to be made from these projections are as follows:

1. The prospects (are small) that such large amounts of capital for investment in mining in developing countries could be raised without more incentives and protection against uninsurable risk. For private companies, as you know, the flow of foreign direct investment to the mining industries of the developing countries has been declining because of increased barriers that have been imposed. In spite of the ambitious intentions of the World Bank, the vast bulk of the financial capital, and technical and managerial services must come from private sources. Institutions and mechanisms exist that could provide such incentives and protection for investment in land-based projects. They presently do not exist for mining projects under international water. Without adequate guarantees or insurance for deep seabed mining projects, the shortfall between supply and demand will be high. This will result in higher prices, thus contributing to inflation, and a more serious balance of payments problems. The further result will be declines in the level of economic growth that otherwise might be realized by developed, as well as most developing countries. 2. Investments that might be made in deep seabed mining projects by 1985, say 6-10 projects totaling up to $4-$5 billion would represent only about 30 of total investment requirements. There is ample room for new and expanded mine development in Developing Countries if the capital is available and committed.

3. Without investment in deep seabed nodules projects there will have to be higher levels of investment in mineral projects in LDC's. The political fragility of source countries or their disposition to pursue policies of resource diplomacy was referred to in my earlier testimony. The growing share of developing countries' in mineral output and in known reserves of minerals found in deep seabed nodules is illustrated by the following table:

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These considerations concerning large capital requirements for mining projects, increased cost incurred as projects progress, attitude of banks towards loans to high risk minerals projects, nature and extent of government programs to provide insurance and guarantees to other minerals projects outside of U.S. territory, the problems of taxation, and the many costs and delays associated with carrying out the provisions of the proposed bill, lead me to the following overall conclusions.

1. The proposed "compensation" provisions which really provide for political risk insurance paid by premiums, are too low to attract investments. The drafters ignored the eroding value of money over time. In 1985 dollars, a 1977 estimated cost of $350 million might balloon to a much higher amount. Insurance of this amount say if paid in the 1980's would cover less than 30 percent of the capital invested (equity and loans). The provisions are much less generous than programs to protect U.S. investors in foreign countries against political risks. The ceiling should be removed.

2. The rather unfortunate tax interpretations offered by the Treasury Department need to be reexamined to provide true equivalance of tax burden between a domestic mining project and a deep seabed minerals project. There is no apparent need to revise the tax laws if proper provisions such as Section 107 of H.R. 3350 were included in S. 2053.

'Before the House Committee on Merchant Marine and Fisheries, February 28, 1974.

Unless these and other changes are made in the bill in its present form, I am concerned that the U.S. will not have a viable deep seabed mining industry and will become more dependent upon and more vulnerable to uncertain foreign sources, with adverse impacts on the U.S. economy.

ADDENDUM

COMPARISON OF S. 2053 AND S. 2085 INTERNATIONAL AND OTHER OBJECTIVES

I was requested by Senator Metcalf to comment on differences in language concerning international objectives between S. 2053 and S. 2085. In general S. 2085 reflects a more optimistic view concerning the eventual prospects of a Law of the Sea Treaty and a less significant appreciation concerning the importance of the minerals in deep seabed nodules to national needs. One also notes a disinclination in S. 2085 to focus on the relationship of such minerals to U.S. security and perhaps a lesser concern about the impact of acquiring such minerals from foreign sources on the U.S. balance of payments.

For example, the world "national needs" are used in Sec. 2(a)(1) of S. 2085 in reference to United States requirements for hard minerals. In the comparable statement of objective in S. 2053, the statement of requirements is more focused and more explicit. The words "national industrial and security needs" are used. Since some "national needs" are less important than the security of the United States as an independent nation state and the industrial base required to maintain that security, the significance of the proposed legislation seems to be less important as stated in S. 2085 as compared with S. 2053. In the same statement of objectives in S. 2053 it is correctly stated that the demand for such minerals will "increasingly exceed the available domestic sources of supply." In S. 2085 these words are dropped and the words "will eventually exceed" are substituted. This greatly weakens the time urgency of legislation. The facts are well known that the United States presently is almost totally dependent on foreign sources for cobalt and manganese. The statement in S. 2085 on the relationship of dependence on foreign sources to the national balance of payments is correct. (Sec. 2(a)(2)): the acquisition of such minerals from foreign sources is a significant adverse factor in the national balance-of-payments position." It runs into billions of dollars a year. S. 2085 merely states that acquisition from foreign sources is a significant factor: the word "adverse" is dropped. This latter statement is unclear and even misleading.

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The statement in S. 2053 that the "present and future national security and economic interests of the United States require the availability of hard mineral resources which are independent of the export policies of foreign nations" is accurate (Sec. 2(a)(3)). The comparable provision in S. 2085 is not, since no time reference is provided. The words "present and future national security and economic interests" in S. 2053 are dropped in S. 2085 and the words "national interest" are substituted for them. Taken together with Sec. 2(a)(1) the impression is left that "eventually" ("happening at some indefinite future time") it will be in the national interest for the United States to be independent of the export policies of foreign nations. The time has already arrived for this situation to be faced and dependency reduced by appropriate legislation.

S. 2085, in Sec. (2)(a)(4) leaves the impression that there is doubt that the alternate source of supply of nickel, copper, cobalt and manganese in the nodules is significant in relation to national needs. The qualifying word "maybe" leads to this doubt. This is unwarranted on the basis of known findings. The unqualified statement in S. 2053 on this topic is more accurate. Also S. 2053 appropriately states that the nodules are "found in great abundance on the deep seabed." This is very different than the situation characterized in S. 2085 that the nodules only are "existing" in great abundance on the deep seabed. The impression is incorrectly left in the case of S. 2085 that much more prospecting, exploration and development is needed to find an exploit the minerals than in regard to the wording in S. 2053. S. 2053 correctly states the situation.

Also S. 2085 fails to note the difficulties in reaching an agreement on a legal order for deep seabed mining at the Law of the Sea Conferences. In Sec. 2(a)(7) S. 2085 does not take account of the fact that at some point it may be necessary in the national interest of the United States to seek other solutions to the problem of establishing an agreed legal regime for deep seabed mining, outside of the framework of a comprehensive Law of the Sea Treaty. This should be the case unless there are major concessions by Group of 77 countries that allow assured access by private companies.

Furthermore, S. 2085 tends to convey the view that acceptance of the principle that the mineral resources of the deep seabed are the common heritage of mankind can stand independent of requirements that the principle be legally defined under

the terms of a comprehensive, international Law of the Sea Treaty. Without such definition, the principle lacks operative meaning. S. 2053 properly treats this matter in Sec. 2(a)(9).

If the wording of S. 2053 are restored on this point, then the reference to the fact that it is in the international interest, not just the national interest that the United States maintain a strong and innovative deep seabed mining industry is appropriately added (Sec. 2(a)(10)).

In reference to S. 2085, Sec. 2(a)(14), it is considered inappropriate to prejudice the outcome of international agreements on deep seabed mining by stating that "deep seabed mining remains a freedom of the high seas" "until such time as an

internationally agreed regime is adopted for the United States as part of an international agreement." It is not inconceivable that the principle will not be fully abrogated by future international agreement(s) concerning deep seabed mining. S. 2085, nevertheless, is commendable to the degree it conforms in operative terms to the provisions of H.R. 3350.

Senator MATSUNAGA. We have a live quorum going on right now. Maybe they can make a live quorum without us, and we will proceed.

Dr. Logue is our next witness.

STATEMENT OF DR. JOHN J. LOGUE, DIRECTOR, WORLD ORDER RESEARCH INSTITUTE, VILLANOVA UNIVERSITY, VILLANOVA, PA.

Dr. LOGUE. I am Dr. John J. Logue, director of the World Order Research Institute, Villanova University. As background, I would say I have attended all six sessions of the Law of the Sea Conferences. It may be of some interest, I have lectured in some 14 countries on law of the sea. I have also organized a number of conferences for U.N. diplomats and others interested in the law of the sea and have organized two sails seminars on the Canadian square-rigger Barba Negra for those same diplomats and others interested in the law of the sea. The purpose of it was, if you will, to bring some of the spirit of the tall ships into the Law of the Sea Conference.

In my testimony, I will stress the potential effect of bills which you are considering on the ongoing U.N. Conference on the Law of the Sea.

As I will indicate, I believe that that Conference presented, and still presents, a marvelous, a unique opportunity to build social and economic justice, to build peace and to save the gravely threatened marine ecological system. It is my view that, properly approached, these salt water talks could do more to control strategic weapons, and to build peace, than the much publicized SALT talks. In the course of my testimony, I will present a very unconventional theory as to why the giant Law of the Sea Conference is in such great trouble and I will make a very unconventional proposal as to how it can get back on its proper course.

As you will see, I believe, it would be very unwise to pass either of these bills. But sidetracking these bills will not, of itself, get the Conference back on its course. If my view, bold and positive action is required if the Conference is not to go under. If it does go under, it would be a tragedy. And if you wish to state as succinctly as I can what is required, I would say that what is required is that we restore to the central place in the Conference the concept which inspired the calling of the Conference: the concept of the oceans as the common heritage of mankind.

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