Wednesday’s Budget brought potentially welcome news for those involved in the North Sea’s burgeoning decommissioning industry. A review of decommissioning tax relief was announced, which may remove an effective barrier to smaller specialists taking on late-life fields.

Further details will be published in a discussion paper “on the case for allowing transfers of tax history between buyers and sellers” at the same time as will be available alongside the Finance Bill on 20 March. This will be followed by a review carried out by an advisory panel of industry experts, reporting at the Autumn Budget 2017. Such changes to the regime could be a significant step to opening up decommissioning in the North Sea, allowing specialist outfits to purchase late-life assets without effectively increasing the costs of decommissioning.

The current problem

Estimates for the cost of decommissioning oil and gas fields on the UK continental shelf have been put at around £50billion, spread over the next four decades. These costs can be carried back and set off against the historic profits of the company carrying out the decommissioning, triggering a repayment of tax. Given how high tax rates are on oil and gas activities, these repayments should significantly mitigate the cost of decommissioning.

Since HM Treasury will be making these tax repayments, all interests are aligned to carry out decommissioning efficiently while delivering maximum value from the UK’s remaining economic reserves. A natural approach would therefore be for smaller players that specialise in exploiting and decommissioning late-life fields to purchase such assets from current licensees, who specialise in producing rather than decommissioning.

The problem is that the tax relief that arises on decommissioning is only of value where there are historic profits for it to be set off against. In relation to petroleum revenue tax (which historically applied to specific older fields), contractual arrangements can allow a purchaser to benefit from tax repayments made to a previous owner. But in relation to ring fence corporation tax and the supplementary charge – the main taxes applying to O&G activities – though, the company carrying out the decommissioning must have its own historic profits to trigger a repayment.

For well-established companies that have held an interest in a producing field for some time, this is not a problem. For smaller companies without a significant tax history, however, it is likely that the full benefit of the tax relief will not be available. This can mean that the effective cost of decommissioning for a late-life asset buyer is higher than it would have been for the seller.

The potential solution

This issue has been recognised in the industry for some time, and has led to innovative structuring on M&A deals involving late-life assets to ensure that decommissioning can be carried out in a tax-efficient way (see Innovation: Making deals happen in North Sea Oil and Gas M&A). Such structures were aided by the clarification in last year’s Budget regarding tax relief for sellers that retain decommissioning liability. While the barrier described above remains, however, there will always be a limit to how economic it can be for a smaller player to take on a decommissioning liability.

This Budget suggests that the government is now seeking to address this. The details of the discussion paper and the subsequent proposals will be fascinating: the object is likely to be to seek to put a buyer in the position that the seller would have been in. Putting this simple statement into practice and managing the interests of sellers, buyers and the HM Treasury and HMRC is likely to be technically complex. The fact that the advisory panel will report in six months’ time does, though, suggest that there is some hope of this being dealt with quickly and, if successful, it could go a long way towards stimulating the already-growing UK decommissioning industry in the coming years.