Economic Report 2012
UKCS Fiscal Regime
The offshore oil and gas industry is the most highly taxed business in the country. Fields developed since March 1993 are taxed at 62 per cent, being liable for both Corporation Tax at 30 per cent and a Supplementary Charge at 32 per cent (before March 2011’s Budget, these three rates were 50 per cent, 30 per cent and 20 per cent respectively). The marginal tax rate rises to 81 per cent (75 per cent pre-Budget 2011) for fields which received development consent before mid-March 1993, these also being liable for Petroleum Revenue Tax at 50 per cent.
Corporation Tax and Supplementary Charge
Oil and gas exploration and production companies are subject to Corporation Tax (CT) which is applied to company profits at a rate of 30 per cent. The industry has been excluded from the general reductions in the rate of CT from 30 per cent to 28 per cent in April 2008, 28 per cent to 26 per cent in April 2011 and 26 per cent to 25 per cent in April 2012.
The Supplementary Charge (SCT) was originally introduced at a rate of 10 per cent in 2002’s Budget which also saw the introduction of 100 per cent First Year Allowances for UKCS capital expenditure in recognition of the higher tax rate. Since the introduction of 100 per cent First Year Allowances, all capital costs are effectively tax deductible as incurred.
SCT was raised to 20 per cent from 1 January 2006 and, in the Budget of March 2011, it was raised again to 32 per cent. In conjunction with this latest increase, it was announced that from 2012 the Government would restrict the ability to claim tax relief for decommissioning costs, capping relief against SCT at 20 per cent, the previous rate.
Furthermore, taxable profits derived from the extraction of oil and gas from the UKCS are “ring fenced” so that losses from other activities cannot be offset against these ring fenced profits. Stringent rules are also applied to ensure that only interest relating to UKCS projects is deductible within the ring fence. However, taxable profits for SCT differ from CT in that finance costs are not deductible.
The 2009 Budget introduced a new field allowance for small fields and challenging HPHT (high-pressure, high-temperature) and heavy oil fields. These fields will be able to claim an allowance (a fixed amount depending on the type of development) which can be offset against SCT once in production, reducing the rate of tax paid. In January 2010, this allowance was extended to remote, deep water gas fields to the west of Shetland.
In July 2011, a further change was announced when the ring fenced expenditure supplement was increased from 6 per cent to 10 per cent, with effect from January 2012. This allows companies with losses arising from E&A drilling, development or operational expenditure to reduce their profits chargeable to tax in up to six accounting periods. It is designed to benefit new investors with insufficient tax cover from production and could affect 24 of the 82 companies with commercial fields in the UKCS, improving the economics of their portfolios, according to Wood Mackenzie. It does not, however, compensate for the value wiped off companies’ assets by the SCT increase in 2011’s Budget.
Petroleum Revenue Tax
Petroleum Revenue Tax (PRT) is applied to all fields which received development consent before 16 March 1993 and to tariff arrangements prior to 9 April 2003 relating to pipeline systems and other facilities which in some part service a field paying PRT. Tariff contracts arranged on or after this date are exempt from PRT, as addressed in the Finance Act 2004. PRT is applied at a rate of 50 per cent to profits, field by field, in six-month chargeable periods. If losses arise, the ability to surrender losses to other fields is extremely limited.
PRT is deductible for CT and SCT. Capital and operating costs are also deductible. No deduction is allowed for interest, but most capital incurred pre-payback (see below) qualifies for an additional deduction of 35 per cent (uplift). As most fields subject to PRT are past payback, the significance of this relief is now very limited.
“Payback” is the period in which total cumulative income exceeds total cumulative expenditure. This period not only determines the cut-off for uplift, but also dictates the number of six-month periods for which safeguard applies (see next paragraph).
“Safeguard” was introduced as a safety net for the benefit of the less profitable fields, essentially to ensure that, in the early years of a field’s life, the PRT cannot exceed an amount that would reduce the participants’ after-tax profit below a minimum return on investment in the field. It limits PRT in each six-month chargeable period to 80 per cent of the excess profits over 15 per cent of cumulative capital which has qualified for uplift. It applies to the period from the start of production to the period of payback plus half as long again. It will not apply if it calculates PRT in excess of the “normal” calculation.
An “Oil Allowance” can be applied to fields with development consent on or before 31 March 1982 which makes the first 250,000 tonnes per six month period, up to a cumulative total of 5 million tonnes, PRT free. From 1 April 1982, for southern fields the amounts are 125,000 and 2.5 million tonnes and for all other fields 500,000 and 10 million tonnes respectively.
A “Tariff Receipts Allowance” is available for some income streams. This makes the first 250,000 tonnes of throughput per six month period PRT free for each field using the infrastructure. Gas sold under contracts entered into before 30 June 1975 is exempt from PRT. Gas sold under contracts entered into before 30 June 1975 is exempt from PRT.
As mentioned above, new tariff business for transportation, processing and other services provided through the use of UKCS infrastructure which is transacted under contracts entered into on or after 9 April 2003 will be exempt from PRT, provided the infrastructure is used in relation to:
a) a field receiving development consent on or after 9 April 2003; or
b) an existing field using a new evacuation route, but only if that field has not to date made use of non-field assets which have qualified for PRT relief.
While the exemption covers new tariff business contracted on or after 9 April 2003, it only applies to income and expenditure received and incurred under such contracts since 1 January 2004.