New Clause 1 — Supplementary charge in respect of ring fence trades: financing costs

Part of Orders of the Day — Finance Bill — [1st Allotted Day] – in the House of Commons at 6:00 pm on 3rd July 2002.

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Photo of Bob Blizzard Bob Blizzard Labour, Waveney 6:00 pm, 3rd July 2002

As I said on Second Reading, I very much welcome efforts to raise more money for the NHS, but I am concerned about the Bill's effect on future investment in the United Kingdom oil and gas industry. That is important not only to local economies in many parts of the country, such as my own, but to the country generally, because investment in the industry has amounted to about 16 per cent. of total industrial investment over many years, which means that it has generated a lot of employment.

Having listened to debates on this subject throughout the Bill's proceedings, I still find it hard to see how a big increase in tax cannot have some effect on that investment, whether it be a reduction in the cash flow from the existing fields which is available for reinvestment or an impact on the psychology of investors who have just taken a hit, perhaps shaking confidence in investment.

Behind the measure lies the argument that the oil and gas companies make big profits. They certainly do in bumper years such as 2001, when we had high oil prices, but they do not make big profits all the time, as we can see by looking at returns over the full cycle or over the full lifetime of individual projects. The return on capital employed over those periods is not greatly different from that in other industries.

Mr. Flight quoted a figure of 14 per cent. over time, before corporation tax is taken into account. That compares with returns of between 11 and 13 per cent. for other companies in non-financial sectors over, say, a decade. That has to be the case, or everybody investing in stocks and shares would just plunge all their money into oil and gas. It would be the only game in town and those companies would constantly be at the top of the stock market. No one would need to engage a financial adviser.

Oil exploration and production is a risky business, and companies find many expensive dry wells or uneconomic fields in an area before they discover the successful ones that make money. Fiscal stability is therefore an important factor when companies are making plans, and it has been seen as one of this country's great strengths. As we know, the industry is arguing that that fiscal stability is now at an end, so it has to factor a fiscal risk into its calculations for future investment, which adds to the overall risk.

The Treasury argues that fiscal stability has now been achieved and that the review started in 1997 and halted in 1998 has now concluded. The essence of its case is the argument that although it is unquestionably taking more money out of existing developments, the fiscal position for new developments is improved by the combination of 100 per cent. first-year capital allowances and the supplementary charge. The industry's figures, which I have seen and which have, I know, been presented to the Treasury, also show that to be the case, on paper. The argument is about whether the reality is more complicated.

The industry's figures also show, however, what happens if fiscal risk is factored in and corporation tax of 40 or 50 per cent. applies. In that analysis, the fields do not work at all. The Treasury says that it would never set the tax at 50 per cent. because that would kill everything off, but at 40 per cent, the fields still work.

Notwithstanding that argument, we have to consider now the key question of how we can maximise investment in what will clearly be a new regime of a 10 per cent. supplementary charge and 100 per cent. capital allowances. The key issue, which is the subject of one of the amendments, is financing costs. We know that, over the years, companies have normally been allowed to offset them against corporation tax, but it is proposed to change that so that they will not be creditable against the supplementary charge. That is absolutely relevant to new development, and we have to be extremely careful that it does not act as a disincentive that will undermine the incentive given by the Treasury in the 100 per cent. capital allowances.

I have been asking why the measure is necessary. The answer given in the Committee of the whole House was that it is important if the supplementary charge is to work; otherwise there would be scope for companies to manipulate their financing costs so that they could offset more than is justified against the new charge. The industry maintains that that is not possible under the existing regulations and the close scrutiny by the Revenue.

Will the Financial Secretary tell us exactly what loopholes the measure is designed to plug, and will she deposit that information in the Library? I realise that it is not normally the business of the Treasury to broadcast the existence of loopholes, but if the Government are introducing measures to plug loopholes, it would be helpful to know what they are. We would then be able to see clearly whether there is a need for a measure preventing financing costs from being offset against the supplementary charge.

I fear that if we have got this wrong, it will create unnecessary problems, even within the new regime, for certain types of company whose continued investment in the North sea is desperately needed. The first type is smaller companies, for which financing costs assume a greater proportion of their costs. They have a vital part to play in the development of the North sea. The experience in other mature provinces around the world is that smaller independent companies—the experts who get stuck in—are the appropriate ones to go after smaller reserves and make money by extracting them. We want to ensure that those small companies, which the Government accept have a part to play in future, are not put off by the measure.

That is particularly the case with new entrants. We have managed to attract 23 new entrants to the North sea since 1997. We know that they will not get the real benefit of the 100 per cent. capital allowances because they have no profit in the first year against which to offset them. I know that they can roll them over, but they would then have, for example, 25 per cent. allowances for four years, which is what they already have. Financing costs are an important consideration if we are to encourage new entrants.

Another reason for considering the measure carefully concerns the origin of much of the investment—parent companies or venture capitalists in the USA. There are issues of double taxation which are not yet clear. I know that the Government have written to the IRS in the hope of clearing up the matter through double taxation treaty agreements. I fear, however, that until that agreement is confirmed by the IRS, investors will not go ahead in case they are caught by the measure. Furthermore, I am told that if the financing costs are not creditable but companies take them as an expense, the measure will still make a difference of about 6.5 per cent., which might make the difference between investing here or in another country.

I ask Ministers to try to find an alternative way of protecting the supplementary charge—the Treasury introduced it, so it will want to protect it—that does not have the negative effects on smaller companies and new entrants that I have described. In addition, it would be helpful if the measure and the reasons why it is needed were set out clearly for us to see.

At the core of the issue are the integrated companies that have both upstream and downstream activities, and the fear that money might be moved between the two spheres of activity. However, new entrants, smaller companies and independents are not downstream companies; they are only upstream companies. If we carry on as we are, those companies will be hit by a measure that is presumably not designed to hit them, so we must make sure that it does not. Those who have been bitten by the supplementary charge might—rightly or wrongly; it depends on what view one takes of the argument about fiscal stability—be shy of further investment, but we cannot afford to deter new and smaller companies.

Royalty is part of the package, and it is important that we proceed quickly with the consultation that will lead to its abolition. Everyone seems to agree that it need not take long as it is a technical consultation, not a full public consultation. I worry that the longer we leave the position on royalty unattended, the longer we will hold back the investment we need, even under the new regime. It will therefore be helpful if the Minister says something about royalty tonight and confirms that once the consultation is over, the Chancellor can abolish royalty without further legislation, and can fix whatever operative date he wants—even today, if he were so minded.