Discussion Paper on Tax issues for late-life oil and gas assets
On 20 March 2017, the UK Government published “Tax issues for late-life oil and gas assets: discussion paper” (the Discussion Paper). Its publication followed a call from the UK North Sea oil and gas lobby group for a change to decommissioning tax rules that have prevented the acquisition of maturing UK North Sea oil and gas assets. Currently in the UK owners of oil and gas assets get tax relief on decommissioning expenditures, but if the assets are sold the tax relief cannot be passed on to the new owner.
The Discussion Paper examines the key issues that may be preventing the transfer of late-life assets which have been identified as a result of dialogue between the UK Government’s Treasury Department and over 40 industry stakeholders. The main focus of the Discussion Paper is on how a seller’s tax history (notably tax relief on decommissioning liability) may be transferred to a buyer in order to make the assumption of decommissioning liability less onerous for the buyer.
The purpose of the Discussion Paper is to assist the UK Government in improving its understanding of the issues and to identify areas where a change to tax legislation could facilitate the transfer of late-life assets. The UK Government’s end-goal is to increase M&A activity in the UK North Sea and to maximize the economic recovery of older fields. To that end, the Discussion Paper sets out specific questions for stakeholders relating to the issues identified from previous discussions with stakeholders and requests that stakeholders provide their submissions on the points discussed by 30 June 2017. Alongside the Discussion Paper the Government will establish an expert panel to consider the issues in further detail.
Over recent years, a range of factors has made continued production of oil and gas from the UK North Sea increasingly challenging: the UK North Sea basin is maturing with a decline in both production and reserves; it is more and more difficult to reach the remaining resources; the size of new discoveries are smaller; and the cost required to operate has become increasingly expensive. Moreover, the strong decrease in oil prices has led to many fields becoming unprofitable and added further pressure on assets previously seen as commercially viable. Nonetheless, the UK Government estimates that between 10 and 20 billion barrels of oil equivalent remain in the basin and seeks ways to maximize recovery late in the life of the North Sea. The Discussion Paper is a part of that strategy.
UK North Sea Tax Regime
In 2014, the UK Government undertook a wide-ranging review of the fiscal regime for oil and gas production on the UK continental shelf (UKCS), and made a number of changes to that regime to improve the competitiveness of the UKCS and to stimulate ongoing investment. The UK Government currently benefits from oil and gas production in the following three ways:
Ring Fence Corporation Tax (RFCT): The normal UK corporation tax regime is modified in its application to companies producing oil in the UK and UKCS: a “ring fence” applies to prevent taxable profits from oil and gas extraction from being reduced by losses from other activities or from availability of certain deductions. The RFCT rate is currently 30%.
Supplementary Charge (SC): This is not strictly corporation tax, but is charged as if it were an amount of corporation tax on ring fence profits with no deduction for financing costs. Since 2014, the SC has been reduced twice, from 32% to 20% from 1 January 2015 and from 20% to 10% from 1 January 2016.
Petroleum Revenue Tax (PRT): Historically, PRT was an additional level of tax on the profits derived from fields that received development consent before 16 March 1993. In 2016, PRT was reduced from 50% to 0%, and the Government has confirmed that PRT will never be payable again.
Means of disposing of UKCS assets and the tax implications
UKCS assets (including late-life assets) can be disposed of using one of two broad approaches – an asset or corporate/share disposal. There are variants within each approach, and each results in a different tax treatment. In the case of a corporate/share disposal, the “tax history” of the target company is acquired by the buyer. In the case of an asset disposal, however, the tax history relating to the asset remains with the seller.
The majority of M&A deals in the UKCS are either corporate/share deals or asset deals where the seller agrees (in the sale and purchase agreement) to retain liability for some or all of the decommissioning costs. In an asset sale, the extent to which the seller retains decommissioning liability is likely to be subject to extensive negotiation, and is often perceived as a “deal breaker” due to the extent of potential decommissioning costs. The UK Government’s Treasury Department has been presented with a small number of recent, potential asset sale transactions where the buyer’s lack of tax history created a value gap that either prevented the deal from completing or contributed to the deal failing.
In discussions with the Treasury Department to date, it has been stated on numerous occasions by industry stakeholders that some form of transferable tax history (TTH) could assist completing some assets deals. This would permit a seller to transfer a portion of its ring fence corporation tax payment history to the buyer, alongside the asset, as part of the deal. Currently, this is not possible as tax history is attached to the company that originally paid the tax and cannot be transferred. (This is not an issue for PRT, which is a field-based tax.)
If a TTH existed, in its simplest form, when a UK oil or gas asset is sold, it would allow the seller to pass some of its tax payment history to the buyer. The buyer could then carry back the losses it subsequently incurs on decommissioning against this TTH, allowing the buyer to receive a tax refund that it would not have received without TTH. The seller would accordingly not be able to claim a refund against the tax history that was transferred.
The UK Government has not yet made a decision to change any of the tax rules for late-life assets. The expert panel being established by the Government will consider all stakeholder responses to the Discussion Paper and will then make recommendations, which will be subject to further comment from industry stakeholders, to the Government.
For a copy of the Discussion Paper please click on the following link: