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Canada's oil sands get a tax reprieve

The slump in crude prices has nixed Alberta's plans to raise royalties. The province retains its generous investment regime

After eight months of uncertainty in Canada’s oil sands, Alberta’s recently elected New Democratic Party (NDP) government shocked nearly everyone with its decision on a new royalty regime. The surprise conclusion: it will change nothing.

 After campaigning last year on a promise to ensure that Albertans “get their fair share” of resource rents, most expected the left-leaning NDP to raise royalty rates. But the 29 January decision to leave the regime largely unchanged shows the government now believes Albertans are indeed getting their due from the oil patch, despite a C$6bn ($4.3bn) shortfall in the public accounts from low oil prices.

Plunging oil prices made thoughts of clobbering producers less viable. “Now is not the time for a wholesale cash grab” on the oil industry, Alberta premier Rachel Notley said in Calgary, effectively reversing what had been a key campaign plank in the run up to last May’s elections, when the NDP toppled a 45-year Conservative dynasty built on petrodollars. 

Essentially, the status quo remains with a few tweaks. Nominal rates for oil sands and conventional oil and gas stay as they were. Wells drilled before 2016 will see no change at all for ten years. From 2017, new wells will be subject to a 5% flat rate before payout based on gross revenue, benchmarked against industry-average cost comparisons. Companies that beat the curve will be entitled to credits.

Tweaking the system

The government hopes the change will dovetail with its climate-change policies by spurring investment in new technologies to make oil production more efficient. It’s no secret Canada is home to some of the highest-cost barrels in the world. The aim is to encourage companies to reduce costs to increase revenues, and so escalate royalties. Notley admits this could take years to materialise.

The distinction is subtle. In the oil sands, royalties had previously been calculated on net profits after deducting capital costs. As long as companies kept building and spending, royalty payments were deferred. Critics said this rewarded inefficient growth and inflated the cost numbers.

The review sought to address this criticism. The government aims to create a more transparent process for benchmarking those costs and driving them down. But the NDP admits that much work remains to be done and more details are expected. It won’t be easy. Companies have been reluctant to open their books and provide detailed cost accounting, but the government has vowed to make those numbers public.

For all the hand wringing in the lead up to the review, the response was anti-climactic. Oil companies heaved a huge sigh of relief, while the NDP’s labour-union base and environmental activists cried foul, seeing a sell-out. For oil companies expecting a crackdown it was the best of all possible outcomes. Most galling for green activists is that the new regime will allow companies to deduct from royalty payments any carbon tax levies, which will now be deemed “allowable costs”.

The Alberta Federation of Labour, a union lobby group, complained that the NDP’s royalty regime could have come from a right-wing government. Indeed, earlier Conservative governments often took a harder line with Alberta’s oil patch. A royalty review in 2007 saw royalties rise by 20%, albeit with a corresponding drop in rates in 2014. It proved extremely divisive and set the stage for the present confrontation. Unlike that earlier dispute, though, this one took place during a severe oil-price downturn that brings its own threats to Alberta’s oil patch. Squeezing the producers again would only have worsened the outlook.

For the foreign investors that remain crucial to developing the oil sands, the new royalty framework provides a layer of certainty and opens up new opportunities for investment in Canada’s oil patch - and not just for upstream oil production. By focusing on the revenue side of the ledger, the new royalty framework encourages investments in new technology as well.

As part of the royalty package and to boost diversification, the province also announced new incentives to invest in petrochemical plants. Builders of new facilities will be entitled to collect royalty credits that can in turn be sold to natural gas producers to a maximum of C$500m. The move is expected to create some 4,000 new jobs at a time when the oil sector has been devastated by layoffs.

In isolation, these are small steps. But combined with Alberta’s climate-change initiatives, they amount to the largest transformation of Canada’s energy sector since the 1970s.

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