Rystad Energy - Energy Knowledge House
Rystad Energy - Energy Knowledge House

Commentary

Norway tax proposal: Better economics for new projects, but explorers may suffer

The Norwegian government on 31 August proposed a revamp of the country’s petroleum fiscal regime. The changes are primarily related to how the petroleum tax is calculated, and the new system tries to be more cash-flow based. Rystad Energy has estimated how this new tax regime would affect the field economics for new projects, and our conclusion is that this would be a positive change for the industry as it would lower the breakeven price for new projects. At the same time, the removal of cash-back on exploration expenses would hit companies that focus mainly on exploration.

The Norwegian government on 31 August proposed a revamp of the country’s petroleum fiscal regime. The changes are primarily related to how the petroleum tax is calculated, and the new system tries to be more cash-flow based. Rystad Energy has estimated how this new tax regime would affect the field economics for new projects, and our conclusion is that this would be a positive change for the industry as it would lower the breakeven price for new projects. At the same time, the removal of cash-back on exploration expenses would hit companies that focus mainly on exploration.

The Norwegian petroleum fiscal regime has been subject to several changes over the past decade. Back in 2013, changes were made to the uplift of investments, and last year the government introduced new temporary rules for both depreciation and uplift. The 2020 changes affected investments made in 2020 and 2021, and the industry was prepared to revert to the old rules next year. That was before the government this week proposed new changes to the fiscal regime which, if approved, would take effect from 2022. The suggested regime would be a continuation of the rules introduced in 2020. The key proposed changes are:

  • The number of depreciation years used for calculating the petroleum tax is reduced from six to one. The number of depreciation years used to calculate the corporate tax is unchanged at six years.
  • The current uplift system is abandoned.
  • The corporate tax is currently deductible against the petroleum tax. As the government wants to keep the effective tax rate unchanged, the petroleum tax would be increased to 71.8%. The effective tax rate would remain the same at 78%.
  • Companies in a negative tax position would get cash back on the petroleum tax.
  • The current cash-back on exploration is abandoned.

20210901_Upstream_Norway tax change_Fig1.jpg

In many ways these changes would make the petroleum tax rules in Norway simpler. By allowing all investments to be deducted in the year they occur, the need for uplift is removed. At the same time, the cash-back on negative petroleum tax partly removes the need for the cash-back on exploration.

The government proposed that the new rules should take effect from next year. However, the proposal needs approval from a majority in parliament – and with a general election coming up on 13 September it is currently unclear which constellation of parties will command a majority in parliament and which parties will form a new government post-election. Even so, the initial feedback from some key opposition parties is positive, which gives the proposal a chance to be approved.

Implications of the proposed new regime
The Norwegian petroleum fiscal regime is based on a profit tax model, with almost zero gross taxes. This system has created a very competitive regime where the profit and risk are shared between the companies and the government. One challenge with the old system has been the six-year depreciation rule, which has caused companies and the government to pay the costs at different points in time. This has had a negative impact on the commerciality of the assets from a net present value perspective. To compensate for this, the uplift system was introduced.

Two key dimensions are important when benchmarking different fiscal regimes:

  • How much of the profit goes to the government?
  • How does the tax regime influence the decision to develop the project or not (commerciality)?

An ideal system ensures that the government gets a large part of the profit, while the breakeven price is kept low.

Figure 2 summarizes these two dimensions for different offshore fiscal regimes. Here we have used the same oil field and calculated the government take and free cash flow for different offshore fiscal regimes. With the current fiscal regime in Norway (excluding the temporary tax relief introduced in 2020), the breakeven price is $43.5 per barrel and the government take is 83%. With the new proposal, the same metrics would be reduced to $37.5 per barrel and 79%. This implies that the proposed new fiscal regime is even more tax neutral, while at the same time keeping a high government take.

20210901_Upstream_Norway tax change_Fig2.jpg

A unique feature of the current fiscal regime is the cash-back on exploration. This benefits pure exploration companies and enables them to get a 78% refund of the exploration costs, even if they are not yet in a tax position. There are still some uncertainties around the details of the new proposal, but it seems like the new regime would lower the cash-back on exploration from 78% to 71.8%. This would affect the cash flow situation for pure exploration companies.

The new proposed fiscal regime for the Norwegian oil and gas industry tries to simplify the current rules and put tax on cash flows. Looking at how these changes will affect field economics, Rystad Energy sees this as a positive change as new fields would become more commercial.