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How the windfall tax could impact the UK fossil fuel industry

business-articlesHow the windfall tax could impact the UK fossil fuel industry
After months of pressure and political scandal, the UK government introduced a windfall tax on North Sea oil and gas at the end of May 2022.

The move was a major U-turn after Boris Johnson and Rishi Sunak repeatedly pushed back on calls for a levy on bumper profits in the fossil fuel industry.

But industry leaders are concerned the new tax could dent investment. So, what was the policy and how could it impact businesses?
 


The windfall tax

To help fund its cost-of-living support package, the Treasury introduced an additional 25% levy on oil and gas profits, expecting to raise around £5bn.

In an attempt to incentivise investment, Chancellor Rishi Sunak also announced a tax-relief ‘super-deduction’ of 91% for firms that reinvest their profits in UK fossil fuels.

However, rather than being a one-off tax as many expected, the ‘energy profits levy’ will last until oil and gas prices return to more typical levels or until December 2025 – whichever comes first.
 


How could the energy profits levy impact business?

 

Dent investment

One key criticism of the levy is that it will deter investment. In fact, this was one of the reasons the Conservative government opposed the policy for so long. Boris Johnson only appeared to warm to the idea when BP CEO Bernard Looney said that a one-off windfall tax would not affect the company’s UK investment plans.

After the tax was announced, however, British supermajors Shell and BP both said they would review their investments. Meanwhile, Centrica – the parent company of British Gas – said that the levy would ‘damage investor confidence’.

Why the change of tune?

The issue with Rishi Sunak’s levy is that it is open-ended. Rather than a one-off tax raid, the levy could last for three and a half years, making the investment landscape unpredictable.

A Shell spokesperson commented: ‘in its current form the levy creates uncertainty about the investment climate for North Sea oil and gas for the coming years.’

Meanwhile, BP said: ‘Today’s announcement is not for a one-off tax – it’s a multi-year proposal. Naturally, we will now need to look at the impact of both the new levy and the tax relief on our North Sea investment plans.’

 

Tax super-deduction

Sunak tried to sweeten the deal and fuel investment through a generous 91% tax relief. However, by the time companies are ready for new investment plans the tax break could be over.

Those most likely to benefit from the super-deduction are companies who have development-ready discoveries but have been hesitant to move forward amid an increasingly hostile business climate. We could see a flurry of investment in the short term, as companies seek to capitalise on the favourable tax scheme.

There are concerns, however, that companies could take advantage of the generous tax breaks, which could see unprofitable investments propped up by public money.

Stuart Adam, a senior economist at the Institute for Fiscal Studies, said: ‘The new super-deduction means that investing £100 in the North Sea will cost companies only £8.75, with the remaining cost paid by the government. So a massively loss-making investment could still be profitable after tax. It is hard to see why the government should provide such huge tax subsidies and thereby incentivise even economically unviable projects.’

 

Deter renewables

Energy companies – and environmentalists – are also disappointed that the tax relief doesn’t cover investment in renewable energy, only oil and gas.

Climate campaigners argue this just encourages more extraction of fossil fuels, which the UK should be phasing out. Meanwhile, those in the industry understand that green energy is a huge investment opportunity. By not extending the investment tax break to renewables, the government is making it less economically viable to fund vital green-energy projects.

Shell commented: ‘longer term, the proposed tax reliefs for investment don’t extend to the renewable energy system we want to drive forward in the UK and invest in very substantially. When making plans for the next decade and beyond, we need certainty.’
 


The lasting impact of the energy levy


All in all, Sunak’s windfall tax is a mixed policy for businesses.

It could boost short-term investment, although firms may put-off longer-term projects.

It could raise vital funds to help the government alleviate the cost-of-living crisis – hopefully boosting consumer spending – or it could pour taxpayers’ money into economically unviable developments.

It could help to boost the UK oil and gas industry, while hamstringing the burgeoning renewables sector.

In short, the main impact of the windfall tax will be further uncertainty in an industry already facing market volatility, technological disruption and regulatory changes.
 
 
Currencies Direct

Currencies Direct

Currencies Direct is one of Europe's leading non-bank providers of currency exchange and international payment services. Since we were formed in 1996, we've maintained our focus on providing innovative foreign exchange and international currency transfer services to corporations of all sizes, online sellers and private individuals. We have also expanded our services to provide dynamic and pioneering "business to business" solutions to help companies, tier 2/3 banks and other non-bank financial institutions to process their international payments. Our headquarters are in the City of London (United Kingdom) and we have operations in continental Europe, Africa, Asia, and the United States. Currencies Direct is jointly owned by private equity firms Palamon Capital Partners and Corsair Capital.

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