Revenue from the Oil and Gas Sector: Issues and Country Experience

1. Revenue from the Oil and Gas Sector: Issues and Country Experience

2. Key issues • Why should countries adopt a fiscal regime specific to the petroleum sector? • What are the advantages and disadvantages of alternative fiscal instruments? • How do the fiscal regimes for the petroleum sector vary across countries and over time?

3. Why sector specific fiscal regime? • A valuable asset in the ground, that can be exploited only once. • Leads to generation of economic rent. • Fundamental conflict between government and investor over the division of risk and reward. • Aim for fair and rising government share of rent, without scaring off investors.

4. Which fiscal instruments are typically used to tax oil and gas operations? • The government share can be achieved by different instruments. • Multiple objectives may require multiple instruments: • Product based instruments • Profit based instruments • Bonus and rental payments • Fiscal stability clauses

5. Tax/royalty regime • Royalty—secure minimum payment. • Regular income tax. • Resource rent tax—capture a larger share of the most profitable projects.

6. Royalties • Up-front revenue stream; regular minimum payment. • Assessed on volume or value of minerals. • Often considered disincentive to investment. • Typically only deductible in home jurisdiction.

7. Corporate income tax • Often taxed at a higher rate. • Tax incentives: immediate recovery of exploration costs, accelerated depreciation, investment credits, and tax holidays. • Transfer pricing, “earning stripping”, and inflated expenditure deductions. • Restrictions on interest deductions; transactions assessed on arms-length basis.

8. Resource rent tax • Rate of return based—the tax is assessed when accumulated real cash flow turns positive. • RoR: investor’s opportunity cost of capital; country-specific mark-up on risk-free asset. • If discount rate and RoR are close, investment distortions will be reduced. • Problems: setting RoR and tax rate; revenue back-loaded or zero.

10. Choice Between Tax/Royalty Regime and Production Sharing

11. State equity • Working interest, concessional, carried interest, “free” equity. • Secure higher government share in up-side. • “Ownership”, technology transfer, know-how, control over development. • Often large cash-calls for working interest. • Conflict of interest: role of regulator vs. shareholder.

12. Indirect taxes • Gas and oil projects often receive special treatment. • Specialized equipment for exploration and development often exempt from customs duty and VAT. • Russian export duty.

13. Cross-country experience • Most countries have both production-based and profit-based levies. • Royalties—5 to 10 percent. • Corporate income tax rate—higher for oil and gas sector or resource rent tax. • Production sharing widespread—two-thirds of countries surveyed. • State equity—countries frequently retain the right to take an equity interest.

14. Evolution of selected fiscal regimes • Norway, Kazakhstan, Indonesia and Angola • Fiscal terms influenced by oil price developments. • Fiscal terms influenced by home country tax policies. • Revenue regimes become more progressive as the petroleum fiscal system matures.

15. Conclusions • Broad range of fiscal instruments available to secure a reasonable share of economic rent. • Most countries have both profit-based and production-based levies. • Tax/royalty regimes and production-sharing regimes can lead to similar sharing of risks and rewards. • Market test for each country’s fiscal regime.

16. Questions • How do we reconcile the academic literature with actual practice? • If the goal is contract stability, under what conditions should contracts be renegotiated? • Afghanistan—a land-locked, war-torn country—what would induce companies to explore for oil and gas? • Would a production-sharing regime offer advantages over a tax/royalty regime?