Tax

On 5 March 2025, the Government launched a consultation regarding the potential form of a new tax mechanism in times of “unusually high” oil and gas prices entitled Oil and Gas Price Mechanism (the “New Mechanism”). This New Mechanism is framed as a replacement for the Energy Profits Levy (“EPL”).

The EPL was introduced in 2022 as a temporary “windfall” tax on high prices; initially set at a rate of 25% with an end date of 2025. However, it was extended several times and is now set at 38%, with an end date in 2030 (or earlier under the “Energy Stability Investment Mechanism” (“ESIM”), if prices drop below a certain level). Faced with concerns from investors over the unpredictability of the tax regime, the Government expressed a commitment to provide long term certainty for the industry, whilst preserving its ability to collect taxes from the sector when it benefits from high oil and gas prices.

The consultation paper outlines two alternative models for imposing tax, and the considerations for determining when oil and gas prices are “unusually high”. It does not propose a rate of taxation nor a price trigger or threshold.

The Government intends the New Mechanism to be a long-term tax measure to: (i) raise additional revenue in times of price-shocks; (ii) be predictable and with minimal administrative burden; and (iii) recognise oil and gas markets (and therefore prices) as distinct.

Proposed Models

Two permutations for the New Mechanism are considered in the consultation paper: (i) a revenue based model (“RBM”) which would tax revenue arising as a result of the achieved price for selling oil and gas exceeding the “threshold price” (as determined under the New Mechanism); and (ii) a profit based model (“PBM”) under which a percentage of adjusted ring fence profits equal to the percentage by which average market prices for oil and gas exceed the threshold price would be taxed.

Under the RBM, tax would attach on a transaction-by-transaction basis to revenue arising because a “true price” achieved exceeds a stated threshold. The PBM, by contrast, would impose tax on the proportion of ring fence profits which is equal to the proportion by which a stated price threshold exceeds “average market prices” for oil or gas. A profit model would make it difficult to delineate between oil and gas (because it is not always possible to distinguish costs relating to one from the other). The Government proposes to use relative revenue as a proxy for determining profits attributable to oil versus gas and to avoid complexity in apportioning capex/opex costs to either oil or gas.

The consultation indicates that the Government prefers an RBM because: (i) it applies independently of profitability; (ii) it allows tax to be determined at the point of sale, whereas taxable profits under a PBM cannot be determined until historic average market prices are calculated (similar to the current ESIM which applies to “switch off” the EPL where an average market prices floor is breached); (iii) it expects “fewer distortions” from an RBM; and (iv) of its relative administrative simplicity and ability to differentiate between oil and gas markets. However, the Government has invited responses on whether an RBM or PBM better targets additional gains as a result of unusually high prices.

Of course, an RBM would not take account of a scenario where, although prices are high, expenditures are also high for the industry. An RBM therefore could apply tax to companies where profit margins are low or even where they are lossmaking.

How will it be determined when prices are “unusually high”?

The consultation paper requests feedback on inputs for calculating threshold prices, but does not set out a specific mechanism. Factors the Government intends to consider include: (i) historic prices; (ii) future prices; and (iii) operating costs. The EPL’s sunset clause under ESIM currently only considers historic prices and, additionally, will be disapplied only if both oil and gas prices fall beneath a threshold, whereas the New Mechanism could apply if either of oil or gas prices exceed a threshold price.

Next Steps

The consultation will remain open until 28 May 2025. Since the EPL sunsets at the earlier of the triggering of the ESIM trigger or 31 March 2030, we expect that the proposals will be developed throughout the later part of the year.