Chancellor of the Exchequer, Rishi Sunak, recently announced a new tax on the profits of oil and gas companies operating in the UK and UK Continental Shelf. The announcement of this new “windfall tax” has sparked a conversation within the wider energy and utilities industry about the value and aptness of this measure.

Background to the introduction of the “windfall tax”

At the start of April 2022, the UK Government announced the national energy security strategy - a framework well-timed in light of ever-increasing global energy prices resulting from the pandemic and Russia’s invasion of Ukraine.

Following this backdrop, the Government have been under growing pressure from campaigners and opposition parties to introduce measures to support millions of people in the UK who are, as described by CNN Business, “struggling with the worst cost-of-living crisis in decades”.

On 26 May 2022, in a U-turn on the Government’s previous position dismissing the measure, the Chancellor introduced a new 25% tax on the profits of oil and gas companies within a new Energy Profits Levy (the “Levy”).

As explained by the Chancellor, the Levy aims to raise £5 billion over the course of the next year, providing funds to assist families with the current cost of living without the Government needing to increase borrowing and therefore our national debt. Overall, the revenue from the Levy will help fund a £15 billion package from the government which, among other things, will provide a £650 one-off payment for eight million low income households.

How is the Levy being implemented? 

Before the Levy, the oil and gas sector paid a 40% headline rate tax on their profits. The Government report that, in recent years, fewer than 35 groups in the sector made tax payments each year in a backdrop of their “extraordinary profits”. Under the Levy, the 25% tax will act as a surcharge i.e., applying on top of the 40% headline rate of tax meaning that the combined rate of tax is 65% on all profits made on and after 26 May 2022. The Levy will be legislated for within a Bill expected to be introduced shortly.

In his speech to Parliament announcing the measure, the Chancellor stated that this tax will be phased out once oil and gas prices return to historically normal levels (therefore meaning this tax will be a one-off or a “windfall tax”). The legislation, once introduced, is anticipated to include a sunset clause which will remove the Levy after 31 December 2025.

Pros and cons of the Levy

Many stakeholders in the oil and gas sector have commented on the Levy with some viewing this measure to be a much needed revenue source in the current climate and others criticising the Levy, concerned of the impact it may have within the sector.

In support of the Levy, campaigners and opposition parties have commented on the real need and urgency for the Government to provide financial support to households as energy prices and national inflation figures continue to rise. For instance, Shadow Chancellor, Ms Reeves, commented that “[t]he chancellor has finally come to his senses” in adopting the measure, adding also her concern that there is no long term plan to grow the economy.

On the other hand, so-called critics of the Levy, such as Sir Ian Wood of economic development body Opportunity North East, raise concern for energy security and stability and investor confidence. As described by Deirdre Michie, chief executive of the industry body Offshore Energies, “There are swings and roundabouts in this sector, we know that, which is why… having the rules of the game changed by the government could be a step backwards for the sector”. Following, Offshore Energies have referred to the Levy as a “disappointing and worrying development”.

In response to the Levy, BP announced “…we will now need to look at the impact of both the new levy and the tax relief on our North Sea investment plans”. This reaction from a prominent player in the UK’s oil and gas industry, who weeks earlier had announced they plan to invest £18 billion into the UK by 2030, has further fuelled critics concern about the impact the Levy will have on investment into the sector. Ultimately, if investment is pulled, this could have wider ramifications on the method and pace of our transition to net zero.

Possibility of a new “windfall tax” on energy companies

Following the introduction of the Levy, there have been reports that the Chancellor could extend it to renewable energy companies to raise further funds for use tackling the cost-of-living crisis.

SSE chief executive, Alistair Phillips-Davies, has commented that “[g]iven that we have got very well-developed plans to invest lots in [energy] networks, lots in renewable generation, it’s very clear from the share price reaction that they are affecting investor confidence and that is unhelpful for us”.

Time will tell exactly how the Levy impacts our energy and utilities sector. With the price of fuel in the UK reaching an all-time high earlier in May, it is highly likely that this conversation is not yet over.  

This article was written by Lloyd James, Ross Howells and Kayla Urbanski.