In the Chancellor’s Autumn Statement, the UK government announced a new measure relating to oil and gas bareboat charters. The proposal impacts corporation tax for the oil and gas industry in two ways:
- setting a hire cap of 6.5% per annum on the deduction available for contractors on bareboat leases, derived from 4% for the asset’s life expectancy plus 2.5% for financing costs; and
- creating a ring fence on contractors’ profits where the bareboat cap applies.
A liaison group was created to respond on behalf of the industry consisting of relevant trade associations and the big four accounting firms.
Through meetings with Government Ministers, MPs and senior officials, and a meeting of the Fiscal Forum on 22 January 2014, HM Treasury has postponed the publication of draft legislation to consult with the industry until 28 February 2014.
The hire cap
The hire cap limits the amount a contractor subject to UK tax can claim as a deductible expense for leasing payments it makes to associated companies, thereby increasing the amount of UK corporation tax to be paid. It applies to any large tangible assets subject to bareboat, or similar, leasing arrangements, for example drilling rigs, heavy lifting vessels, FPSOs, well intervention vessels, flotels, platform support vessels and seismic vessels. Assets involved in the transportation of goods, including helicopters and supply vessels, are excluded, as are small assets with a market value of £2m or less.
The cap is calculated by reference to the original acquisition cost of the asset to the contractor group, with intra-group transfers not taken into account. The definition of contractor group includes current and past connected persons as well as persons acting together with them. Additional capital expenditure incurred in refits or enhancements of the asset can be added to the original acquisition cost. However, expenditure on items that have subsequently been removed or that are no longer in use would not be included.
Where more than one contractor is a party to the lease, the hire cap will be divided between the contractors. If an asset has not been acquired by a contractor group, the hire cap will be based on the market value of the asset at the time the original lease was executed.
The ring fence
The ring fence is similar to the current separation of trading profits from oil related activities for corporation tax purposes, preventing the profit from certain activities being reduced by losses incurred from unconnected activities. The activities concerned are those carried on in connection with the exploration or exploitation of the seabed and subsoil of the United Kingdom Continental Shelf and Territorial Sea. A contractor does not have to be a licensee for the ring fence to apply; any activities carried out in connection with a third party’s exploration or exploitation are also caught.
Any contractor who is subject to the existing ring fence rules, as well as the proposed new ring fence, will be subject to both ring fences independently and will not be able to set off or surrender reliefs from one to the other.