The UK’s Windfall Tax on Gas and Oil

The Government introduced the Energy Profits Levy (EPL) in May 2022. You may have heard this referred to as the ‘windfall tax’ - a response to the unprecedented profits that UK-based oil and gas companies are reaping.

The tax aims to recoup a portion of the massive profits these companies have made due to factors largely beyond their control, such as the post-Covid demand surge and geopolitical events like Russia's invasion of Ukraine. In this article, we will delve into the details of the EPL, its impact on oil and gas suppliers and its implications for the energy sector.

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What is the Windfall Tax?

By definition, a windfall tax is a levy imposed by a Government on companies that have benefited substantially from unforeseen circumstances. In the case of the UK, the windfall tax targets profits generated by oil and gas companies by extracting natural resources within the country.

The profits of energy giants such as BP and Shell skyrocketed in the aftermath of COVID-19 and the diplomatic tension created by Russia's actions in Ukraine. BP reported a staggering £21 billion in profits in 2022, while Shell posted a historic high of £32 billion, its most substantial profit in over a century.

How Does the Windfall Tax Work?

The Energy Profits Levy, initially set at 25% when introduced by then-Chancellor Rishi Sunak in May 2022, was increased to 35% by current Chancellor Jeremy Hunt in January 2023. As of the time of writing, providing there aren't any changes to certain conditions, the EPL will remain in effect until March 2028.

Specifically, if oil and gas prices fall below a set threshold for six consecutive months, the Governemnt will scrap the windfall tax. These thresholds are $71.40 USD per barrel for oil and £0.54 per therm (100 cubic feet) for gas.

Additionally, the Government introduced a temporary 45% levy on ‘extraordinary returns’ from low-carbon electricity generators in the UK. The Government expects this separate windfall tax, known as the Electricity Generator Levy, to raise around £14 billion over six years.

How Much are Companies Paying in Windfall Tax?

In its first year, the EPL generated £2.6 billion, half of the projected £5 billion. For BP, this meant paying around £358 million, while the Government is forcing Shell to cough up £400 million. Centrica, the owner of British Gas, claimed to be paying approximately £54 million under the windfall tax.

Oil and gas companies operating in the North Sea pay a 30% corporation tax on profits, with a 10% supplementary rate. They have employed strategies such as factoring in expenses for decommissioning old oil platforms, resulting in significantly reduced tax payments in recent years.

Does the Windfall Tax Hinder Investment?

While the amount of money it generates for the treasury’s budget is not to be sniffed at, the windfall tax has raised concerns about its potential impact on investment. Companies that invest in oil and gas extraction receive significant tax benefit offers, allowing them to claim back a portion of their investments. However, the instability created by the levy has led to a slowdown in investment.

Ithaca Energy, a company working on the Rosebank oilfield project, revealed that they had reduced their investment programme due to the uncertainty, despite the fact that a £3.1 billion investment in Rosebank could qualify for up to £2.9 billion in tax relief.

The Future of the Windfall Tax

The EPL represents the Government's response to the massive profits recorded by oil and gas companies in recent years. But while it has generated significant tax revenue for the Government, it has also raised concerns about its impact on investment in the energy sector.

As the windfall tax continues to evolve, it will be essential to strike a balance between recouping profits and maintaining a stable and sustainable energy industry for the future.

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