The Hindu Business Line : Oil on the block

Fiddling with the fineprint of the Income-Tax Act or discriminating between oil and gas producers in granting tax holiday will not help in the endeavour to attract investment in risky exploration and production.

Oil exploration and production companies are faced with uncertain policy.

Raghuvir Srinivasan

Does ‘mineral oil’ also mean natural gas? Yes and no. Beats logic? Not if you are a mandarin.

For a company that bags a contract under the New Exploration Licensing Policy (NELP) Round VIII which is now open, ‘mineral oil’ includes gas. However, if you are one of those companies that has signed a contract for oil and gas exploratio n in an earlier round of NELP, then sorry, ‘mineral oil’ means only crude oil and does not include natural gas.

This is what a close reading of the fineprint in the Budget papers regarding the amendment to Section 80-IB(9) conveys. The said Section deals with tax holiday for companies engaged in exploration and production of crude oil and gas.

Confused industry

The morning after Budget 2009, the oil and gas industry was all worked up over the wording of the amendment to the Income-Tax Act and the jury is still out on whether it was just poor drafting by someone in government or was it intentionally worded this way.

The oil and gas industry’s demand before the Budget was for inclusion of natural gas under the seven-year tax holiday available to crude oil producers and refiners. What the Finance Minister, Mr Pranab Mukherjee, has done is include it only for the NELP-VIII round, bids for which will close in the next two months.

What is ‘undertaking’?

He has also added a twist to the Section by redefining the word ‘undertaking’. Given the absence of a definition for the word till now, oil producers were classifying each well as an ‘undertaking’ to claim profit deduction.

Now Mr Mukherjee has put an end to that by defining ‘undertaking’ as all exploration/production blocks awarded under a single contract under the NELP.

In other words, oil producers will now be able to claim deduction only on the basis of their contracts which may include one or more blocks and not on a ‘well’ basis.

Though it appears prima facie an innocent amendment, it holds adverse implications for oil producers. The reason why they were claiming deduction on a ‘well’ basis was because it is available only for a seven-year period from the date of commencement of production.

A block will typically take a few years to be fully developed as it will have tens or even hundreds of wells. If the oil company were to wait till the entire block begins production before it claims profit deduction, then it is likely to lose on the seven-year tax holiday period.

Not stopping with just defining ‘undertaking’ in a manner detrimental to the oil producers, the Finance Minister has amended the Section with retrospective effect from 2000-01 onwards.

Aside from the question of whether it is fair to tinker with a law with retrospective effect, there is also the issue of what will happen to the assessments already finished on the basis of each ‘well’ as an ‘undertaking’. Will they be reopened? Will the oil companies now be forced to pay extra tax?

Need for policy stability

The bottomline is that oil exploration and production companies, which have invested thousands of crores of rupees in high-risk exploration are faced with uncertain policy.

This uncertainty is not good advertisement for the NELP programme which has anyway failed to attract big foreign oil companies till now. Given the unpredictable nature of oil exploration activity, the least that those who invest will look for is stability in policy. Constant tinkering with tax laws will only serve to deter those planning to bid for NELP blocks.

Apart from the issue of policy stability, there is also the question of encouraging investment in exploration for natural gas, which is the fuel of the future.

The KG-Basin finds by Reliance, ONGC and Gujarat State Petroleum Corporation show the potential that is there in the sedimentary basins of the country. The government’s aim should be to encourage more players to invest in gas exploration by providing them incentives, fiscal and otherwise.

This is particularly important because of the projected gas deficit in the country. According to the Planning Commission, the demand for gas is projected to shoot up to 279 million standard cubic metres a day (mmscmd) by 2011-12 from 196 mmscmd in 2008-09. There is already a deficit in supply and this is projected to widen to almost 80 mmscmd in the next three years.

Good reason for the government to ensure that it frames policies that attract investment in exploration and production of gas. Fiddling with the fineprint of the Income-Tax Act or discriminating between oil and gas producers in granting tax holiday are stuff that will not help in the endeavour.

(With inputs from Richa Mishra in New Delhi.)