01 May 2012

CWE May 2012 Newsletter

Farm-ins

Readers will be pleased to learn that after over two years of discussions, HMRC has finally accepted that the tax treatment of farm-ins that had been in operation for the last 20 years is in fact in accordance with the law.

HMRC have said that they will amend their manuals to make the position absolutely clear and will give industry a chance to comment on these amendments before the manuals are reissued.

Although HMRC had given industry comfort that while the discussions were continuing they would not seek to impose their new view (apart from in respect of abusive transactions), this had still left companies planning a farm-in at a later date with an element of uncertainty.

The issue that originally triggered the HMRC review of how the rules worked was an intra-group transaction in respect of a non-UK licence where relief was being obtained againstUKtax with no prospect of anyUKtax being collected from subsequent profits from the licence, presumably as a result of double tax relief.  HMRC have commented that if they see companies using the farm-in rules in a way they believe is abusive they will not feel constrained in recommending to Ministers a change in law, and in the current climate there is no reason to believe that any such change would not be made with retrospective effect.

Comment

CWE has been actively involved in the discussions between HMRC and industry in which industry has consistently set out why they believed the interpretation put forward by HMRC in early 2010 was incorrect and it is pleasing to see that our views have finally prevailed.  The change of heart by HMRC will also provide some much needed assurance for industry on the way this type of transaction is taxed.

Decommissioning Relief

Readers will be aware of the on-going discussions between industry and Government to provide for a “contract of assurance”, to effectively guarantee decommissioning tax relief in accordance with the current tax rules.  Part of this process will be to agree a definition of “decommissioning expenditure” for these purposes. 

Readers will also be aware of the restriction of relief for decommissioning costs for SCT purposes to 20%, which was announced in Budget 2011, and is being enacted in FB 2012.  Government is keen to align  the definitions of decommissioning expenditure used for the purposes of the contract of assurance and the cap on relief (and indeed the costs which when creating or enhancing a loss for corporation tax and supplementary charge purposes can be carried back to 2002).

We reported in our Budget newsletter (at Point 6) that we understood that the cap on decommissioning relief was to apply only to end of field life decommissioning.  This comment was based on the comments made to industry as part of the debate on the draft Finance Bill clauses published in December 2011.  It has however now become clear that Government intend that the cap should apply to not only end of field life decommissioning but midlife decommissioning and also exploration and appraisal wells. This is because Government believes there would be an incentive to decommission early given there is a possibility (albeit it currently looks very unlikely) that the tax rate will reduce in the future, and they don’t want companies’ commercial decisions affected by tax. Although the scope of the cap set out in the Finance Bill remains unchanged the draft legislation now includes a provision to enable Government to extend the scope of the cap by Regulation.

Comment

We continue to believe that it is fundamentally unfair for a tax system to tax profits at one rate and give relief for expenditures at another.  If this feature was not present there would be no incentive for companies to advance decommissioning.  We believe the extension of the cap to exploration and appraisal wells to be particularly unwelcome as it will clearly increase the cost of, and therefore deter companies from, drilling such wells, which is completely at odds with the other changes to the tax system that Government is making and indeed the stated Government policy of maximising the exploitation of the UK’s hydrocarbon reserves.

May 2012


Print pagePDF pageEmail page