Budget 2016 – More Questions than Answers

The changes announced by the Chancellor, on Wednesday, to the North Sea tax regime are unlikely to have a significant HWE chartimpact on investment in the near term. Further cuts were once again targeted at reducing the fiscal burden, in the form of abolishing petroleum revenue tax (PRT) and a 10% cut to supplementary charge tax (SCT) – backdated to the start of the year. As a result, the headline marginal tax rate will drop from 67.5% (PRT-paying) or 50% to an even 40%.

However, questions must be asked as to how these changes will actually benefit the United Kingdom Continental Shelf. The OBR’s March 2016 forecast estimated government revenues of minus £10 million in 2015/16, down from £2.2 billion in 2014/15. With so few companies currently paying tax to the Treasury, in this depressed commodity price environment, the impact of post-tax relief is marginal in the short term.

Looking at permanently zero-rating PRT, this simplifies the fiscal regime by levelling the playing field between late life fields and new developments. However, the reduction will have a limited effect, as only 30 fields are liable to PRT and two of these are currently shut-in. This equates to 536 mmboe and 30 individual companies (73 equity holders). Whilst a positive step to simplifying the fiscal regime, the impact only relates to 9% of current 2P reserves in the UKCS.

The reduction of SCT affects many more fields in the basin, but reducing the headline tax rate by ten percent is unlikely to stimulate significant new investment given that the Investment Allowance is already targeted at reducing the tax burden.  

In addition to the tax cuts, the budget includes measures to extend the Investment Allowance to allow tariff income on third party access to be included, designed to help to prolong infrastructure life; as well as to provide greater certainty on decommissioning tax relief; which is intended to encourage late-life asset transfers. Both measures are of course consistent with MER objectives and with the Treasury’s ‘Driving Investment’ plan. Additional measures include building on the new decommissioning powers of the Oil and Gas Authority (OGA) by undertaking further work to reduce overall decommissioning costs and deliver cost savings to the Exchequer, and a pledge of a further £20 million for seismic data acquisition.

It is worth noting that tax breaks were not universally provided to all stakeholders in the industry. The government has announced plans to reform the rules governing certain corporate carried forward losses, with legislation to be introduced in Finance Bill 2017. In something of a blow to the struggling service sector, companies will find their use of carried forward losses restricted so they cannot reduce profits arising on/after 1 April 2017 by more than 50%. This restriction will apply to a company or group’s profits above £5m. The ruling will not affect companies within the ring fence but will include oilfield service companies in the oil & gas supply chain.

Ultimately these changes simplify the fiscal regime and reduce the headline tax rate. However, given that few companies in the basin are actually paying tax, and that nearly half of fields are currently loss making, the impact in terms of stimulating investment and activity, at least in the near-term, will be negligible.   The OBR forecasts that decommissioning and carry back of trading losses repayments will exceed tax receipts by a £1bn per year through to 2021 if oil prices stay in the $40s per barrel.  Reducing industry costs and decommissioning in particular remain the biggest challenges facing both industry and Government.