CHAPTER 17 FOREIGN PARTICIPATION IN MINERAL DEVELOPMENT AND OPERATIONS IN INDONESIA

• Jurisdiction: United States

International Minerals Acquisition and Operations
(Oct-Nov 1974)
CHAPTER 17
FOREIGN PARTICIPATION IN MINERAL DEVELOPMENT AND OPERATIONS IN INDONESIA
David E. Herron, Counsel
Mochtar, Karuwin & Komar
Jakarta, Indonesia

TABLE OF CONTENTS

SYNOPSIS

MINING LEGISLATION AND REGULATIONS

THE CONTRACT OF WORK

THE PRODUCTION SHARING AGREEMENT

FORMATION OF AN INDONESIAN SUBSIDIARY

LABOUR LAW

THIRD PARTY CONTRACTS

CONTRACTS OF INSURANCE

CUSTOMARY CLAUSES

POLLUTION CONTROL AND OFFSHORE REGULATIONS

TAXATION

CORPORATION TAX

PERSONAL INCOME TAX

SALES TAX

TAX ON INTEREST, DIVIDENDS AND ROYALTIES

STAMP DUTY

MARKETING

BANKING REGULATIONS

CONCLUSION

———————

[Page 17-1]

This paper is an introduction to the principal legal aspects of foreign participation in mineral development and operations in Indonesia today. The available English literature on this broad subject has increased substantially in recent years. A Guide To Mining In Indonesia,¹ containing basic information for investors interested in hard mineral mining, is the latest official publication of the Ministry of Mines. Mining Law,² a report by Professor Mochtar Kusumaatmadja, is aimed specifically at the foreign investor and describes the basic philosophy, concepts and institutions of mineral development in Indonesia as well as the regulatory framework. Pertamina Indonesian National Oil ³ is a complete history of the Indonesian oil industry which describes the legal background of the production sharing agreement. The U.S. Embassy Jakarta publishes annually very helpful reports on petroleum and mineral developments. This paper will discuss briefly the current economic situation in Indonesia, mining legislation and regulations, the two basic contractual documents used in foreign mining activities, pollution control and offshore regulations, the formation of an Indonesian subsidiary, labour regulations, taxes, third party contracts, marketing and banking regulations.

Indonesia has made substantial progress in development since the enactment of the Foreign Investment Law of 1967.⁴ Much of this progress has been due to mineral

[Page 17-2]

development, particularly in the petroleum sector. Oil export revenues for the first eight months of 1974 increased to US$ 3.12 billion. Indonesia's trade balance during this period recorded a surplus of US$ 2.38 billion⁵ , a very significant amount in a country where the government budget for the fiscal year 1974 is less than US$ 4 billion. Despite this progress, severe economic problems and attendant poverty remain in the country. Thirty percent of the working force of forty two million are unemployed. About one million more workers enter the labour force each year. Very substantial quantities of rice and fertilizer have to be imported annually and the country's infrastructure is still inadequate.

The Government is currently reviewing the role which it is willing to allow foreign capital to play in meeting these economic challenges. Whatever decisions are made, the vehicle for their implementation in the mineral sector of the economy will be the contract of work for hard minerals and the production sharing agreement for petroleum and petroleum products. An understanding of the terms and conditions of these two forms of agreement requires a basic familiarity with the legal framework in which they are used.

MINING LEGISLATION AND REGULATIONS

In Indonesia only the State may hold mining rights.⁶ Indonesian individuals and juridical entities may conduct mining activities on the basis of mining authorizations issued by the Minister of Mines on behalf of the Government.⁷ Foreign mining companies may not acquire mining authorizations, but may participate in the development of mineral

[Page 17-3]

resources as contractors for the Government or for holders of mining authorizations.

Indonesian mineral development legislation and policies depend in large part on the classification of minerals. The Mineral Law of 1967 defines and classifies minerals in three categories : strategic, vital, and all other minerals.⁸ The minerals in each category are further specified by government regulation.⁹ The Minister of Mines has authority to regulate mining operations for strategic and vital minerals, while all other minerals are left to the supervision of the regional governments. The Minister is authorized to delegate the regulation of certain vital minerals to the regional governments.¹⁰ The Mining Law lists entities entitled to carry out mining operations. Strategic minerals, which include oil, tin, nickel and radioactive minerals, may in principle be mined only by the Government itself or by government mining corporations. However, the Minister of Mines is authorized to permit specified private Indonesian entities to mine strategic minerals where for economic and mining development considerations it would in his opinion be more profitable for the Government to do so.¹¹ Special legislation has been enacted for two categories of strategic minerals, oil and gas,¹² and radioactive minerals.¹³ Vital minerals can be mined by Indonesian private parties as well as by state enterprises. The same is true for all other minerals such as clay and limestone.

The Foreign Investment Law contains a broad reference to cooperative mining ventures between the Government and foreign investors by methods to be later formulated.¹⁴ The Mining Law specifically provides that the Minister of Mines is authorized to select third parties as contractors.¹⁵

[Page 17-4]

In the event that the contract of work involves foreign capital investment, consultation with Parliament prior to execution is required.¹⁶ The Oil and Gas Law is substantially similar to the Mining Law, particularly with regard to the fact that oil and gas are considered strategic minerals, therefore their mining is under the exclusive control of state enterprises.¹⁷

The Pertamina Law of 1971 gives Pertamina, the state oil company, authority over all petroleum minerals. Pertamina is specifically authorized to enter into production sharing agreements, subject to the approval of the President, which approval must be communicated to Parliament.¹⁸ The preamble of the Radioactive Minerals Law recites that it is the State that owns and administers radioactive minerals. The Law provides for a policy making Atomic Energy Board and a National Atomic Energy Body to implement policy. The latter is authorized to cooperate with foreign organizations "...as long as the national interests are not harmed."¹⁹

Foreign mining companies should be aware that despite this relatively simple Indonesian statutory framework, the transitional provisions of the Indonesian Constitution of 1945 give continuing life to Netherland Indies colonial regulations not specifically abrogated by new legislation. In the field of mining regulation in particular, these regulations contain detailed provisions affecting all phases and aspects of mining operations.²⁰

[Page 17-5]

THE CONTRACT OF WORK

The terms and conditions of the contract of work have not been statutorily defined but are left to the discretion of the Minister of Mines. The first contract of work under the Foreign Investment Law was executed on April 7, 1967. Since that date, 16 more have been signed, the last one in June, 1972.

The basic concept underlying the use of the contract of work is that the mining company conducts all operations on behalf of the Government or the state enterprise.²¹ The mining company has full responsibility for its operations and assumes all related risk. Unlike the situation with production sharing agreements, discussed below, the mining company has full control and management of its operations.²²

The April 7, 1967 contract of work is popularly known in Indonesian mining circles as the first generation contract, the sixteen following as second generation contracts, and those now under discussion as third generation contracts.²³ Some 22 foreign companies now await the resolution of points at issue with the Government in connection with the terms of the proposed third generation contracts of work. The principal matters now being considered by the Government are whether mining companies should continue to be exempt from the general rule requiring initial repatriation to Indonesia of all export sale proceeds,²⁴ termination of the period for duty free imports at the tenth year of operations, increased tax incentives for processing prior to export, the imposition of export taxes, and subjecting mining companies to variable land taxes.²⁵ New regulations

[Page 17-6]

on the points in issue and a new draft of the third generation contract of work are now being prepared by the Government.²⁶ Because of the beneficial impact of increased oil revenues, it is not likely that the Government's position on these matters will weaken

There are several steps leading up to the negotiation of a contract of work. First, through preliminary inquiries at the Department of Mines the applicant determines what minerals and areas are available. Inquiries should be directed to Ir. Christian Situmorang, Head, Capital Investment Bureau, Department of Mining, Jalan Merdeka Selatan 18, Jakarta. Foreign mining companies will generally be excluded from projects capitalized at less than US$ 5 million and from projects smaller than US$ 10 million in Java and Bali. No further contracts will be negotiated with foreign mining companies for coal and tin, lateritic mining (bauxite and nickel) or iron sands, nor for alluvial, eluvial, non-metallic and manganese mining in Java, Madura, and Bali. In projects still open to foreign mining companies, it is likely that Indonesian equity participation in the local subsidiary of the foreign mining company will be required.²⁷ Second, a Reconnaissance Permit²⁸ may be obtained to facilitate the study of mineral occurrences. The application must specifically identify the expert who will undertake the investigation...