Budget expectations 2014: Oil & gas sector
Tax Partner - Oil & Gas practice, EY
Oil & Gas is essential for economic development of any country and for an import dependent country like India, it plays a major role in fuelling its economic growth. India is the 8th largest oil consumer in the world and expected to be the 5th largest by 2025. The investment outlay in the oil and gas sector over the next 25 years is expected to be US$ 110 -120 billion.
As more areas and opportunities are presented for investment in oil & gas sector, hopes remain high from the newly elected government to address the key issues currently being faced by the industry and bolster the investor sentiment.
Accordingly, it will be important for the new Government to consider the followings expectations of the oil & gas sector, in their first budget scheduled to be presented on July 10, 2014 and provide the necessary impetus required by the sector.
Special tax regime for companies engaged in upstream activities
Section 42 of Indian direct tax law (DTL) provides for deduction of expenditure incurred on drilling and exploration activities in relation to the agreement entered into with the Central Government of India. Further, it also provides for deduction for unsuccessful exploration expenses only in respect of an area surrendered prior to the beginning of commercial production.
In a mission to attain energy security, some Indian oil & gas companies have directly acquired assets abroad. Clarity should be provided on the deductibility of drilling and exploration activities undertaken with respect to overseas block held directly by an Indian company as such expenditure is restricted in relation to the agreement entered into with the Central Government of India.
Deduction for abortive exploration expenses is not available in the year when expenditure was incurred and is permitted only on surrender of area. As Government of India, in its interest, would want exploration companies to fully explore the areas and not get merely induced by the deduction claim, the condition of 'surrender' of area may be deleted.
A seven-year tax holiday equal to 100% of taxable profits is available for an undertaking (subject to satisfaction of certain specified conditions) engaged in the commercial production or refining of mineral oil.
Production of 'natural gas' is adjunct to the production of oil, however, tax authorities have been denying the tax holiday claim on 'natural gas' by arguing that 'mineral oil' does not include natural gas. Therefore, express clarity should be provided on the applicability of tax holiday provisions on production of 'natural gas' to stop any unnecessary litigation on this matter.
Present tax holiday of 7 years is insufficient for the companies given that the projects incur significant exploration and development expenditure in initial few years, and the actual benefit of tax holiday does not flow to them. Tax holiday for infrastructure projects is available for a period of 10 years and undertaking is provided with a flexibility of choosing this period in the initial 15 years of operation. Similar period and tax holiday flexibility should be extended to oil & gas, so as to align it with infrastructure status.
Presumptive taxation regime
Non-resident services providers to exploration & production sector have an option to be taxed at a presumptive profit rate of 10 percent on the gross receipts (without deducting any expenditure) which results in an effective tax rate of 4.326%.
In this regard, amendment was introduced in 2010 to withdraw such regime for companies providing 'technical services', even if services are in connection with exploration / production of oil & gas. As a result, such receipts are then made to tax at a higher rate, as applicable to 'fee for technical services', resulting in tax litigation and challenging the almost settled tax position.
Clarity should be provided on continuation of presumptive taxation regime for technical assistance provided by foreign oil & gas service.
Investment linked incentive
Provisions of DTL provides for investment linked tax incentives for 'specified business' including the business of laying and operating a cross country natural gas or crude or petroleum oil pipeline network for distribution, including storage facilities being an integral part of such network. As a result, 100% deduction of pre-commencement capital expenditure is allowed.
In addition to 'cross country pipelines', the above provisions should also be extended to dedicated pipelines and intra-city & intra-state gas distribution networks.
Exemption from duties to petroleum sector
An exemption should be provided from duties / taxes levied on goods and services used in the exploration of crude oil and natural gas as excise duty and service tax paid goods and services used in exploration and extraction of these products becomes costs to the exploration companies. Exemption would help in decreasing the cost of petroleum products.
If the above expectations are endorsed by the new Government, it will not only address some of the critical tax issues but will also bolster investor sentiment in the sector.
(Views expressed are personal)