In March the UK Government delivered its Budget for 2013, announcing a number of tax and other initiatives designed to encourage investment in the exploitation of UK shale gas resources. The Department of Energy and Climate Change’s ‘Gas Generation Strategy,’ published in December, announced Government support for the advancement of shale gas development, recognising its economic potential and prospective contribution to domestic energy security. The recent Budget demonstrates this support, proposing a variety of tax incentives as well as non-tax initiatives to encourage investment.
The Budget proposed the following tax initiatives:
- a new shale gas field allowance;
- a consultation on tax measures to encourage exploration and production of shale gas; and
- an extension of the number of accounting periods for which the “Ring Fence Expenditure Supplement” (RFES) can be claimed for shale gas costs, from 6 to 10.
Legislation to implement the new measures is to be introduced in the Finance Bill 2014.
The form of the field allowance is not yet known, but a consultation on details will be published in the next few months. It is expected that the field allowance will mean that profits from shale gas production up to the amount of qualifying expenditure should be effectively exempt from the supplementary charge (SCT), and therefore only subject to the ring fenced corporation tax rate applicable to a company’s UK oil and gas profits, currently at 30 percent. SCT is an additional charge, currently at a rate of 32 percent, on a company’s ring fenced profits (but with no deduction for finance costs) arising from UK oil and gas production.
The aim of the RFES is to help companies that are involved in exploring for oil or gas, or in the development phase in the UK or on the UK Continental Shelf, that do not yet have any taxable income against which to set off their costs and permitted capital expenditure. The RFES adds a compounded 10 percent (6 percent for accounting periods starting before 1 January 2012) per annum supplement to the value of unused expenditure carried forward from one period to another, to maintain the time value of permitted exploration, appraisal and development costs. At present, a company can claim RFES on unused expenditure for a maximum of six accounting periods, which need not be consecutive. The Budget proposals would extend the number of accounting periods to ten for shale gas.
Extension of the number of periods of RFES is something that the broader UK oil and gas industry has been calling for. Whilst an industry-wide extension was not forthcoming in this Budget, the proposed grant of an extension for shale gas projects is still welcome and could potentially lead to a similar extension for the whole industry if the Government is persuaded that there are sufficient new projects to merit opening up this incentive to all oil and gas projects. Given that the proposed extension of the number of RFES periods remains exclusive to shale gas project costs, a separate cost pool would need to be maintained by companies for these costs if a company has other ring fenced activities.
Although the specific details of the shale gas tax regime remain subject to this summer’s consultation, the current expectation of the Budget proposals is that expenditure in connection with the appraisal and development of a shale gas project should be fully deductible against existing ring fenced profits that a company might have. The field allowance could also be available to shelter the SCT liability (if not entirely relieved) on those profits in the absence of sufficient shale gas profits.
In addition to the proposals to provide a favourable tax regime for the development of shale gas, a number of other objectives referenced in the Gas Generation Strategy were also given support in the Budget, including:
- establishment of a new Office for Unconventional Gas and Oil;
- preparation of guidance on the planning rules as they relate to shale gas development for publication to the industry;
- a review of whether the largest shale gas projects should have the option to seek planning under the major infrastructure planning regime; and
- proposals for benefits to local communities in the vicinity of shale gas projects.
The Office for Unconventional Gas and Oil will seek to connect regulatory responsibilities for shale gas development across Government to provide a single point of contact for investors and ensure a regulatory process that is safe yet simple. At present, regulatory responsibility is divided across a number of departments and authorities, including the Department of Energy and Climate Change, the Department for Environment, Food and Rural Affairs, the Environment Agency (and its Scottish and Welsh equivalents), the Health and Safety Executive, and local planning authorities. Details of the objectives and responsibilities of the new Office will be released over the coming months.
In the UK, an onshore petroleum exploration and production licence does not carry with it any rights of access to the relevant land. Such rights need to be acquired from surface landowners by commercial agreement. Nor does a licence offer or imply any permission to construct a drill site. The necessary planning consents for such sites must be sought from the local planning authority. As the shale gas industry develops, the Government is seeking to ensure that an effective planning system is in place to ensure the planning system dovetails effectively with the licensing and regulatory regimes. Later this year the Government will publish its guidance on the application of planning rules to shale gas projects. The Government will also consider whether to allow large shale gas projects to apply for planning consent through the major infrastructure regime. If it does, it means that the process will be dealt with at a national rather than local level, divesting local authorities of control over major shale projects that have national significance.
These financial and regulatory initiatives, if implemented as expected, will be welcome news for companies entering the UK shale gas industry both as an operator or a licensee in the course of the next year, providing real tax incentives to invest in the industry whilst streamlining and clarifying the regulatory regime for shale gas projects which, up until now, has dealt with unconventional gas and oil development under the same regime as conventional oil and gas exploration and production.