In November 2022 the UK Government announced a new, temporary 45% levy on “exceptional” receipts generated from the production of wholesale electricity and published a “technical note” on the operation of the levy. The EGL replaced the earlier proposal from the UK Government to introduce the “Cost Plus Revenue Limit” for low-carbon generators not covered by a CfD contract which were announced in October 2022.
Despite heavy criticism of the move by many clean energy market participants, on 20 December 2022 the UK Government confirmed its intention to press ahead with the EGL by publishing a supplementary technical note and draft legislation outlining the details of how the new tax would operate. The EGL has been introduced from 1 January 2023 and will have an impact on existing and potential investors in the UK clean energy market.
In more detail
The scope of the levy
Key features of the EGL are as follows:
- It is intended to be a temporary measure: the EGL will be introduced from 1 January 2023 and will remain in effect until 31 March 2028.
- It will apply to nuclear, renewable (including biomass) and energy from waste generators, but not revenues from storage. Specifically, “innovative storage technologies such as hydrogen” have been excluded from the scope of EGL.
- It will be focused on the largest generators: it will apply to corporate groups, or, where relevant, standalone companies, that operate assets generating more than 50 GWh per year of electricity in the UK (both sold in the UK and exported) which are connected either to the UK national transmission network or to local distribution networks. It will only apply to exceptional receipts exceeding GBP 10 million in an accounting period.
- Revenues from the sale of electricity that is generated under a Contract for Difference (CfD) entered into with the Low Carbon Contracts Company Ltd are excluded.
- The EGL will be administered in the same way as Corporation Tax: details of the levy will need to be self-assessed in company tax returns and amounts will become due and payable in alignment with Corporation Tax.
- There are provisions in the draft legislation that counteract avoidance arising from arrangements the main purpose, or one of the main purposes, of which is to reduce or avoid the EGL or the effects of the legislation.
Calculation and administration of the levy
- 45% levy will apply on all “exceptional generation receipts” calculated as:
Generation receipts – Electricity generation x Benchmark price– Allowable costs – Allowance.
- When calculating generation receipts, the regulations allow for payments and receipts under arrangements whose principal purpose is to act as a hedge of the exposure to changes in the price of electricity where those arrangements relate to generation covered by the regulation (a key element for generators that have entered into long term financially settled hedges for output with corporate buyers).
- A single benchmark price of GBP 75 per MWh has been set for all electricity generation models and will remain in place until April 2024. From April 2024 the benchmark will be adjusted in line with the Consumer Prices Index. The portion of generators’ receipts below this level will not be subject to the EGL.
- The EGL technical note contains a very limited list of allowable costs (i.e. the increased costs of generation fuels, revenue sharing for access to sites such as landfill, and the costs of buying back electricity from the grid to replace contracted output that is not generated) and sets the allowance at £10m per annum for the group.
- The EGL will not be deductible from profits subject to Corporation Tax.
- Special rules will apply to JVs and companies in which there are significant minority shareholders.
- The Corporation Tax rules that require large companies to make quarterly payments will apply to the EGL but no payment will be required until the Spring Finance Bill in which the EGL is legislated receives Royal Assent.
- Payments of the EGL will depend on the taxpayer’s accounting reference date. For large companies with a December year end, the first quarterly instalment payment that includes an EGL payment is expected to be on 14 July 2023. Those companies would need to file their first tax returns including the EGL on or before 31 December 2024. It will be important to ensure that systems and processes for determining and paying tax liabilities and filing returns are ready to meet these additional requirements.
- Taxpayers that are subject to the EGL will need to ensure that their systems, policies and processes for computing and paying the levy are ready for the upcoming introduction.
- HMRC will provide further guidance on the interpretation and application of the EGL legislation in early 2023.
Energy Market Impact
- There are no simple solutions when it comes to a delicate balancing act between the UK’s net zero ambitions, its energy security and rising cost of living. The side effect of this balancing act is that the EGL introduction may impact on the reputation of the UK as a market where change in law risk is less likely than other jurisdictions. However, it should be noted that the UK is not the only country in Europe effectively imposing windfall taxes on clean energy generators. At the September 2022 Energy Council, a political agreement was reached on a Council Regulation on an emergency intervention to address high energy prices – the regulation requires all EU Member States a mandatory cap on revenues of inframarginal electricity producers exceeding €180/MWh (among other measures and noting that a Member State may elect to set a lower threshold). As these interventions are implemented across Europe, we see increasing concerns from developers and investors with different Member State approaches creating uncertainties for existing and future assets across Europe.
- For those with existing relevant generating capacity in the UK, the levy is likely to have an impact on project economics, with a focus on the low level of the benchmark price and the non-deductibility of the EGL as being a more harsh intervention than Europe. For financed projects, the impact on financial ratios will need to be considered, as well as the ring-fencing of liabilities given that EGL liabilities will be joint and several for members of the same group.
- As mentioned, calculation of revenues does account for financially hedges such as long term ‘virtual’ PPAs with corporate buyers. This addresses a key concern for developers here. However, the introduction of the EGL, along with the wider consultation Review of Electricity Market Arrangements has caused a pronounced focus on change in law risks under long term contracts.
- Finally, the EGL is likely to have at a knock on effect on the UK’s emerging clean hydrogen market which is dependent upon low cost renewables. Those effects may be positive in that the EGL creates an incentive for long term renewable electricity supply arrangements for hydrogen projects to be priced at or below the benchmark price.