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Tax move by Venezuela's President Hugo Chavez

Chavez boosts state's take from the oil patch

PRESIDENT Hugo Chavez has unveiled a revamp of the Venezuela’s upstream regime, hiking the already-hefty 60% tax rate on oil exports to as much as 95%. But the massive rise is not as onerous as it looks and may not prompt an exodus from the nation’s oil patch.

Under the new regime, a 95% tax will be levied on oil exports when prices exceed $100 a barrel. The price is based on the Venezuelan basket, an average price of six domestic crudes, rather than international benchmarks such as Brent.

The progressive tax kicks in when prices hit $70 a barrel, with an 80% rate applying to the excess, increasing to 90% when the basket price goes over $90/b, and hitting 95% when the $100/b threshold is reached.

Venezuelan oil typically trades at a discount to Brent. But like other international crudes it has spiked well above $100/b in recent months. On 10 May the Venezuelan basket was trading at $108/b.

That’s boosted income for many international oil companies – and politicians, such as Chavez, see an opportunity to pounce. “The government argues that prices are more than sufficient to cover production costs and it sees the taxes as fair,” said Gregory Wilpert, editor of Venezuelanalysis, an online information service covering the country. The last time the government raised taxes on oil production was in 2008, points out Wilpert, and prices were spiking then, too.

Struggle

Industry may struggle with the new fiscal regime. But the new tax will not affect oil supplied to the domestic market, nor to projects boosting crude, syncrude and refined products output from existing projects or costly heavy-oil developments in the Orinoco Belt until operators have recouped their total investments.

The change also exempts exports under international cooperation or financial agreements, such as PetroCaribe, which provides subsidised refined products to Caribbean states, and oil-for-loan deals with China). According to US Energy Information Adminstration (EIA) data, Venezuela exported more than 2 million barrels a day (b/d) in 2010. A quarter of this was under the PetroCaribe and Chinese agreements.

Despite these exemptions, Carlos Bellorin, an oil and gas analyst at IHS Energy, said he believed the tax could further damage Venezuela’s reputation. “It is a very regressive tax. It will be tough, especially for existing investors, and it could be perceived as another example of the country’s volatile fiscal regime,” he said.

Bellorin added the new tax could hit Caracas’s plans to finance planned production increases to arrest years of declining output. According to the BP Statistical Review, Venezuela’s reserves cache of 211 billion barrels of oil puts it second only to Saudi Arabia. But production in the past decade has not lived up to such riches.

From output levels just shy of 3 million b/d in 2000, production now stands at just over 2.2m b/d, according to the International Energy Agency. Opec quotas may account for some of this fall, but sustainable output capacity is now just 2.35 million b/d, says the agency. Declines rates of up to 25% in some of Venezuela’s mature fields mean investment of around $3bn a year is needed just to maintain even this diminished capacity.

Yet, following the nationalisation of the sector in 2006, foreign firms have become reluctant investors. Some international oil companies, including US supermajors ExxonMobil and ConocoPhillips, abandoned the country’s play in the wake of the move. And PdV, the state company in charge of the industry, has often seen its budget plundered for spending programmes elsewhere in the economy.

The new fiscal regime will hit oil companies’ excess profits harder than the old system, under which a 50% tax applied when the average monthly Brent price exceeded $70/b. The burden is exacerbated by a change in the tax base, including a 20% tax applied to the difference between a price set in the national budget and the 70/b threshold.

Steep

This makes a big difference to the duty companies will pay. “Assuming a Brent price of $124/b, a basket price of $110/b, and a budget price of $40/b, the taxes under the 2008 Act would be $29.40/b, said Jaime Martínez Estévez, a partner at Caracas-based law firm Rodner, Martínez & Asociados. But under the 2011 Act, the taxes would amount to $48.50/b.

It won’t be quite as steep as that. The increased burden on company profits will also be mitigated by another change that affects royalities, which are now taxed at 30%. Under a new royalties regime, no more tax will come due once the price exceeds $70/b. Taking this into account, Martínez estimates that, under his example the total tax increase would only be $7.10 for each barrel.

That probably won’t be sufficient to push foreign oil companies out of the country.

Foreign oil companies that remained in the country despite the forced reorganisation in 2006 "are not likely to leave because of the new taxes”, said Martínez. “The repetitive changes of the rules confirm the high political risks that new investments will have to take into account.”

Wilpert pointed out that the tax will only affect added profits when prices are high. “I doubt companies will leave because of this,” he said. “If they felt they couldn’t make a profit, they should have left a while ago.”

Silent

Speaking after the change was announced, Venezuelan oil minister Rafael Ramirez said: “Oil companies are doing well … this windfall tax is not going to hurt them.” But it would yield a large slug of cash for the treasury. Without revealing his calculaturion, Ramirez said the new regime would deliver $9 billion to government coffers this year if oil prices remained over $90/b and $16 billion if prices stayed at $110/b.

While the oil industry has been silent on the reform, the opposition is concerned that the new revenue will go into a national development fund, rather than the national budget, and will not be accessible to local government. That would put most of the cash in Chavez’s hands to spend – and not leave much for his opponents. “The main criticism is not the tax per se, but the way it’s going to be used,” said Wilpert.

The government is unlikely to back down on the reform, however, as oil revenue has underpinned Chavez’s social programme to help Venezuela’s poor. This is especially important given next year’s elections and Chavez’s plan to build 150,000 new homes this year, one of many policies that have bolstered the president’s approval ratings.

“Chavez is very popular,” said Teresita Acedo Betancourt of Venezuelan law firm Mendoza, Palacios, Acedo, Borjas, Páez Pumar y Cía. “One of the factors that increase his popularity is the Misiones, which are ad-hoc social programmes regarding health, education and food. Supporters of Chavez seem to appreciate the Misiones, regardless of where the money comes from and how efficiently they are run.”

“The government has stressed that the oil income is to be used for social expenditures,” said Martínez. “It is expected that there will be high government expenditures in anticipation of the 2012 presidential elections.”

This article was written in collaboration with International Tax Review.

See also: Battlelines drawn over UK tax | Big Oil set for Senate show-down

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