UK’s tax changes: First step to ‘restore confidence’ in oil & gas sector and safeguard energy security

After the UK government raised a windfall tax on oil and gas producers’ profits, the hike stoked fears of a collapse in investments in the sector, as many players started contemplating downgrading their UK portfolio or even exiting the North Sea to pursue oil and gas developments in a lower-tax environment. In light of this, the UK has now made adjustments to the oil and gas tax terms in a bid to protect the country’s energy security and the jobs of people in the sector.

The Energy Profits Levy, which was introduced as a part of a raft of budgetary measures aimed at shoring up the UK’s finances and tackling the cost of living crisis, put a marginal tax rate of 75 per cent on North Sea oil and gas production. At the time of the original announcement, Offshore Energies UK (OEUK) warned that the windfall ‘supertax’ proposal would risk driving out oil and gas investments from the UK waters, which could hinder the UK’s energy security along with its transition plans for a low-carbon future.

Following the windfall tax hike, OEUK underscored that these tax changes on oil and gas production were threatening to drive out investors and drive up imports, leaving consumers increasingly exposed to global shortages. In light of this, Moody’s outlook confirmed that the higher tax rate would result in lower projected positive free cash flow (FCF) generation with the related impact on cash flow lasting longer because of the levy’s extension beyond the end of 2025.

Westwood Global Energy also recently highlighted that these tax changes had the potential to not only put oil and gas investments at risk but also amplify the mass departure of rigs from the North Sea, which could lead to the point of no return for North Sea rigs. Bearing this in mind, OEUK has been calling for a trigger price for the windfall tax, so that, it would only apply when oil or gas prices are high, and a windfall profit was being earned.

Based on the new tax changes, it seems the UK government has heard these calls and decided to do something about it to give the oil and gas sector certainty to raise capital and invest in new and existing projects, securing “affordable and reliable” domestic energy supply and protecting some of the 215,000 British jobs the sector supports. While the increased windfall tax will still remain in place for the next five years when oil and gas prices remain higher than historic norms, it will fall back to 40 per cent – the previous level prior to the hike – when prices consistently return to normal levels for a sustained period.

Therefore, the government will introduce a new Energy Security Investment Mechanism to protect the domestic energy supply, however, the Office for Budget Responsibility believes this will not be triggered until before the tax’s planned end date in March 2028. The windfall tax is expected to raise almost £26 billion by this date, which will fund the measures aimed at helping with the cost of living.

According to the UK government, this is part of its strategy to support households with energy bills whilst providing certainty to investors to secure the long-term future of domestic energy production, as the Energy Profits Levy has raised around £2.8 billion to date, helping the government pay just under half the typical household energy bill last winter.

Gareth Davies MP, Exchequer Secretary to the Treasury, commented: “It is right that we recover excess profits resulting from Putin’s war and use the money to help people with their energy bills. Thanks to the revenue raised from windfall taxes on energy profits, we will have helped save the typical household £1,500 on their energy bill by July.

“While we stepped in to help, never again can our energy supplies be at the whim of petrostate despots like Putin. That’s why it’s so important that we secure investment in our own domestic supply, protecting the tens of thousands of British jobs that come with it. It would be beyond irresponsible to turn off the North Sea taps overnight. Without oil and gas from British waters, we would be forced to import even more from overseas, putting our security of supply at risk.”

Furthermore, the tax rate for oil and gas companies will return to 40 per cent if both average oil and gas prices fall to, or below, $71.40 per barrel for oil and £0.54 per therm for gas, for two consecutive quarters. The UK government claims that this level is based on 20-year historical averages. This was introduced as a result of the official forecasts by the UK government and the North Sea Transition Authority suggesting that a block on North Sea oil and gas investment would mean the UK’s dependence on imports would rise from the current 50 per cent to 80 per cent by 2033.

David Whitehouse, OEUK Chief Executive, remarked: “We’ve always been clear that when the windfall conditions go, the windfall tax should go. This is a step in the right direction, but many more will need to be taken to restore confidence to our sector. We will now work closely with the government and lenders to understand the detail of the measure and its effectiveness at unlocking investment. Enabling continued UK energy production now and in future depends on a predictable and fair fiscal environment.

“The UK must be competitive if we are to be successful in the global race for energy investment. We are proud to make a huge contribution. In 2022/23 alone we will add over £20 bn to the UK economy overall. We provide over 200,000 good, skilled jobs across the length and breadth of the UK. As we build the future there is no simple choice between oil and gas or renewables. The reality is we need both. In the mid-2030s, oil and gas will still provide 50 per cent of our energy needs.”

Offshore Energies UK underscores that the industry is still facing considerable challenges to safeguard the jobs of its 200,000-strong skilled workforce, ensure the UK’s homegrown energy security, and power the transition to net-zero and beyond with homegrown oil and gas rather than imports, thus, more needs to be done to get to grips with these challenges.

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