Industry welcomes UK North Sea tax review
The government has launched a 12 week consultation period on oil and gas tax rates
The energy industry has welcomed a review into UK oil and gas tax rates as part of a drive to boost investment in the North Sea. On 14 July the UK government launched a 12-week consultation period on North Sea tax rates. The aim was to seek evidence from the industry into how overhauling the UK tax regime can help to maximise recovery rates and profits from the UK Continental Shelf (UKCS). “This review offers the opportunity to put the fiscal regime on the best footing to ensure that the economic potential of the North Sea can be maximised for the UK and Scotland,” Danny Alexander, chief security to the UK’s treasury, said. “The broad and diverse UK tax base means we are able to support the industry through, for example, certainty over decommissioning tax relief”.
An urgent need
Oil & Gas UK, an industry lobby group, welcomed the review into UKCS taxation levels saying it was “now urgently needed” as investment in the North Sea will halve over the next four years. The government says there is between 11-20 billion barrels of oil equivalent (boe) remaining within the UKCS which may be economically recoverable.
Historically, oil and gas companies operating in the North Sea have been subject to multiple, complicated taxes, which can exceed 80%. This is compared to the UK’s standard corporation tax rate of 21%. The tax regime, which applies to exploration and production of oil and gas in the UK and the UKCS, comprises three elements. The ring fence corporation tax, which is designed to be similar to a corporation tax but prevents taxable profits being reduced by losses from other activities, is currently set at 30%. There is also a supplementary charge, set at 32%, on a company’s ring fence profits but with no deduction for finance costs. A field allowance, which reduces the amount of taxable adjusted ring fence profits, is available. It is designed to encourage investment is more technically challenging fields such as deep-water gasfields or ultra-high-pressure oilfields.
Then there is petroleum revenue tax (PRT), a charge on profits from oil and gas production, of 50%. This results in a marginal tax rate of 81% on income from fields paying PRT, 30% on production income from qualifying new fields if that income is wholly covered by field allowance and 62% otherwise.
The government said this tax regime is “to ensure the nation (has) a share of the profits of production”. Long-term declines from mature fields caused UK fossil fuel production to reach record lows last year. Energy imports hit their highest levels in three decades.
Total energy output in 2013 was 114 million tonnes of oil equivalent (toe), a fall of 7% on the previous year. A record low in onshore coal production and the long-term decline of oil and gas output from the UKCS were behind the drop.
Oil & Gas UK claims capital expenditure in the UKCS will fall to £13bn ($22.2bn) this year, down from £14.4bn last year. As a result revenues from production taxes will earn the treasury £3.7bn in the 2014-15 tax year, down from £4.7bn the previous year. Oil & Gas UK estimates there could be up to 24bn boe still to recover from the UKCS. But it said the reserves would remain untapped unless there was a swift change in the tax regime. The group said its members would work closely with the government, but the latest proposed changes “cannot simply be a paper exercise”. Malcolm Webb, head of Oil & Gas UK, said the tax regime should be simplified and the headline rates reduced “to send a strong signal that the UKCS is open for business”.
As UKCS production has been falling, the government has tried to encourage investment in more challenging fields by offering tax breaks, such as decommissioning relief. The government has signed decommissioning relief deeds to try to provide certainty over the tax relief available for dismantling North Sea infrastructure when production ends. These deeds are worth over £20bn to the industry.
Michael Tholen, Oil & Gas UK’s economics director, said recent tax breaks from the government were increasingly complicated and unpredictable and had temporarily halted a long-term decline in output. “While targeted allowances have successfully encouraged a wave of activity in recent years… their impact is diminishing in an ever more expensive business climate. Investors are increasingly looking to invest elsewhere rather than in the UK.”
Scotland, home to a large portion of the UKCS, is due to hold a referendum on independence in September. The division of the UK's North Sea oil and gas reserves is a key battleground for supporters and opponents of a referendum. Alexander said that an independent Scotland is unlikely to be able to provide the same level of support for the industry in aspects such as decommissioning and it risks “missing out on the economic potential the North Sea has to offer”.
Spreading the cost
The government claims an independent Scotland would have to invest around £3,800 per person to match the amount the UK government has committed to decommissioning. This is over ten times higher than when costs are spread across the UK, it said.
In April, a UK government report claimed an independent Scotland would also see increased gas and electricity bills because it would cause the break-up of the present UK-wide energy networks leaving Scotland to carry the costs of supplying remote consumers and paying for investments in renewables from its small customer-base.
On 10 July, the UK’s Office for Budget Responsibility (OBR) dealt a further blow to Scotland’s pro-independence campaigners by outlining tax revenue generated from the oil and gas industry will continue to decline over the long-term. In a report, the OBR said North Sea oil and gas revenues are expected to be a quarter less than previously predicted at around £40bn between between 2019-20 and 2040-41. This is because of expectations of lower production in the medium-term.