Member Article

Since our last update (in June 2013), progress has been made on the key outstanding issues we identified; namely, geology, taxation, community benefits and planning.

Geology – on 27 June, the British Geological Survey (BGS) published its estimates of the gas initially in place (GIIP) within the Bowland-Hodder Shale formations in Central / North England (being the area between Wrexham and Blackpool in the west, and Nottingham and Scarborough in the east) – the prospective Jurassic Shales in the Weald Basin of southern England are the subject of a separate review, which will be published in due course. The BGS estimates of GIIP are 822 tcf (low), 1329 tcf (central) and 2281 tcf (high). The central estimate is approximately double previous estimates. A copy of the BGS' report can be viewed here.

Taxation – on 19 July, the UK Treasury published a consultation in respect of proposed changes to the tax regime applying to shale gas production. Currently profits from oil and gas production within the UK are subject to three taxes:

• Ring-Fence Corporation Tax (RFCT) – calculated in the same way as UK corporation tax but with the addition of a "ring fence" (to ensure that losses from other activities are not set against profits from oil and gas production) and more favourable allowances for capital expenditure. The current rate of RFCT is 30%
• Supplementary Charge (SC) – an additional tax charge (at the rate of 32%) on a company's adjusted (to exclude finance costs) ring-fenced profits
• Petroleum Revenue Tax (PRT) – a further tax (at the rate of 50%) charged on profits from certain oil fields which were given development consent before 16 March 1993. PRT is deductible as an expense in computing profits for RFCT and SC purposes.

The combination of these three taxes results in current marginal rates of 81% (on profits on PRT-paying fields) and 62% (on profits from other fields), with these marginal rates being reduced on any portion of income covered by field allowances to 65 per cent (PRT-paying fields) and 30 per cent (other fields).

In addition, companies can benefit from the Ring Fence Expenditure Supplement (RFES). RFES allows companies in the ring fence to uplift their losses (or pre-trading expenditure) by 10 per cent for up to six accounting periods to maintain their time value until they can be offset against future profits.

The Treasury's two proposals are as follows:

Pad allowance – the introduction of a new pad allowance, as follows:

- Nature of pad allowance – the Treasury considers that the current field allowances regime is  not well suited to unconventional oil or gas production. Field allowances for conventional production assume the existence of a clearly defined field. Unconventional resources tend not to have such clearly delineated field boundaries. Accordingly, the government is proposing a new pad allowance. The pad allowance would operate in a similar manner to existing field allowances, by exempting part of the production income from the SC (resulting in an effective rate on that part of the production income of 30%). The amount of production income which would be exempt from the SC would be a proportion of the capital expenditure incurred in relation to the pad. Any part of the pad allowance not used in a particular accounting period can be carried forward. Additionally, shale gas would remain within the UK upstream oil and gas tax ring fence, so companies would continue to benefit from first year allowances for capital expenditure and the RFES. The allowance, when activated, would be available to be used against all of a company's adjusted ring fence profits (and not just those arising from shale gas production).

- Level of pad allowance capital expenditure – the Treasury is consulting on the proportion of  capital expenditure that would set the pad allowance.

- Extension of pad allowance to other onshore unconventionals (and possibly all onshore  production) –the Treasury proposes to extend the pad allowance to other onshore unconventional production and is consulting on whether the pad allowance should be extended to all onshore production.

- Availability of pad allowance – the shortest period during which current field allowances can be used is five years. The Treasury is consulting on whether a shorter period should apply to the pad allowance, given the likelihood of more rapid rates of decline in unconventional production.

- Allocation of pad allowance – rather than allocating the pad allowance by equity share in the  PEDL, the Treasury proposes that it be shared amongst participants by reference to their own  respective capital expenditures on the pad.

• Extension of RFES – the RFES is to be extended from its current six years to ten years and this extension will apply to all onshore unconventional production (not just shale gas).

A copy of the Treasury consultation can be viewed here.

Community benefits – on 27 June the UK Onshore Operators Group (UKOOG) published a document entitled the "Community Engagement Charter - Oil and Gas from Unconventional Reservoirs", which sets out:

• the general approach which onshore operators (who are UKOOG members) will take in developing resources
• the benefit schemes which those operators will put in place for local communities that host operations at the different phases of development . In summary, operators will provide:

- benefits to local communities at the exploration/appraisal stage of £100,000 per well site  where hydraulic fracturing takes place

- a share of proceeds at production stage of 1% of revenues, approximately two thirds of which will be allocated to the local community with the remaining third being allocated at the county level

A copy of the charter can be viewed here.

Planning – on 19 July the Department for Communities and Local Government published new planning guidance applicable to England (but not other parts of the UK). In summary:

• responsibility for planning decisions with respect to onshore operations remains with the relevant local authority (being the County Council in two-tier parts of the country, the Unitary Authority or the National Park Authority), who should make decisions in accordance with their local plans and the National Planning Policy Framework
• the guidance explains when / why planning permission will be required in respect of the various stages of onshore exploration, appraisal and development
• the guidance seeks to clarify the relationship between the planning regime and the other regulatory regimes applicable to onshore operations
• guidance is provided on pre-planning application engagement by operators with the relevant local authority and with statutory and non-statutory consultees
• guidance is provided on when Environmental Impact Assessments may be required – stated to be unlikely in the case of an exploration well involving no hydraulic fracturing
• local authorities should not take into account the possible future environmental impacts of the production phase when considering the exploration phase
• local authorities should not consider demand for, or consider alternatives to, oil and gas resources when determining planning applications. Government energy policy makes it clear that energy supplies should come from a variety of sources
• local authorities should give great weight to the benefits of minerals extraction, including to the economy, when determining planning applications
• operators should look to agree their programmes of work with the relevant local authorities which take into account, as far as is practicable, the potential impacts on the local community and local wildlife, the proximity to occupied properties and legitimate operational considerations over the expected duration of operations
• the guidance confirms that responsibility for the restoration and aftercare of hydrocarbon extraction sites lies with the operator and, in the case of default, with the landowner. In this connection, local authorities are to ensure the proper restoration and aftercare of a site through imposition of suitable planning conditions and, where necessary, through section 106 Agreements. For hydrocarbon extraction sites where expected extraction is likely to last for a short period of time, it is appropriate for the local authority to impose a detailed set of planning conditions as part of the planning application. The guidance also confirms that a financial guarantee to cover restoration and aftercare costs will normally only be justified in exceptional cases.

A copy of the guidance can be viewed here.