Chapter 2
Clarifying the Petroleum Resource Rent Tax taxing point
2.1
This chapter examines schedule 2 to the Tax Laws Amendment (2011
Measures No. 8) Bill 2011 (TLAB 8), which amends the Petroleum Resource Rent
Tax Assessment Act 1987 (PRRTA Act) to clarify the location of the
taxing point of the Petroleum Resource Rent Tax (PRRT).
Background to the PRRT
2.2
The PRRT is a profit‑based tax levied on petroleum projects. It
was introduced by the Hawke Government and implemented by the passage of the
PRRTA Act in 1987, which commenced from 15 January 1988.[1]
2.3
The PRRT replaced the Commonwealth's royalty and excise regime for
projects in all Commonwealth waters[2]
with some exceptions. Projects in Bass Strait came under the PRRT arrangements from
1 July 1990.[3]
At present, petroleum products extracted from the North West Shelf project and
the Joint Petroleum Development Area (a region in the Timor Sea jointly managed
by the Governments of Australia and East Timor), as well as value added
products such as liquefied natural gas (LNG), remain outside the PRRT.[4]
However, through other bills which are not being examined by this inquiry, the
Government intends to extend the PRRT to cover the North West Shelf project and
onshore petroleum projects from 1 July 2012.[5]
2.4
The PRRT yielded $806 million in revenue for the Australian
Government in 2010–11.[6]
The tax applies to a small number of entities—in 2007–08, only ten projects and
nine company groups were liable to pay the PRRT.[7]
The PRRT taxing point
2.5
The PRRT is assessed on an individual petroleum project[8]
basis at 40 per cent of a project's 'taxable profit', although it is
deductable for company tax purposes. Taxable profit is calculated with
reference to the assessable receipts related to the project after eligible
project and exploration expenses are deducted.[9]
2.6
The PRRTA Act defines assessable receipts as including, among other
things, assessable petroleum receipts.[10]
In defining assessable petroleum receipts, the PRRTA Act introduces the
concepts of 'marketable petroleum commodity' and 'excluded commodity'.[11]
The definition of these terms is of key importance to determining a given
company's PRRT liability. Using this terminology, the PRRT taxing point is:
... where marketable petroleum commodities produced by a
petroleum operation become 'excluded'—normally by being sold or by being moved
from the place of production.[12]
2.7
The current definition of a marketable petroleum commodity includes any
one of five specified products (stabilised crude oil; sales gas; condensate;
liquefied petroleum gas; and ethane) as well as any other product prescribed by
regulations.[13]
2.8
An excluded commodity is defined to mean a marketable petroleum
commodity that had been sold, further processed or treated after being
produced, or had been moved away from its place of production to a storage site
or other location.[14]
Disputes about the location of the
taxing point
2.9
The location of the taxing point (and, therefore, the definitions of
marketable petroleum commodity and excluded commodity) determines the revenue
the PRRT will ultimately yield. If the point occurs early in a company's
production process, where the product is less valuable, assessable receipts
associated with the product will be lower. As a result, so will be the
company's PRRT liability.[15]
2.10
Where the PRRT taxing point occurs has been the subject of a long-term
dispute between Esso Australia Resources Pty Ltd[16]
(ExxonMobil) and the Australian Tax Office (ATO). The dispute has been running
since 1994 and relates to the joint venture ExxonMobil operates with BHP
Billiton in Bass Strait and the tax liability of that project under the PRRT since
Bass Strait was incorporated into the PRRT regime in 1990. ExxonMobil submits
that the ATO did not rule on the taxing point issue until 2004, when it
rejected ExxonMobil's objections.[17]
2.11
Following the ATO's ruling, the matter proceeded to the Federal Court in
Esso Australia Resources Pty Ltd v Federal Commissioner of Taxation [2011]
FCA 360 (Esso v CoT). The Explanatory Memorandum provided the following
summary of the taxing point issue considered by the court:
In that case, it was suggested that what constitutes a
marketable petroleum commodity could be ascertained solely through reference to
the relevant chemical compositions of particular marketable petroleum
commodities specified in section 2 of the PRRTAA 1987, without having regard to
the rest of the Act. Specifically, it was argued that a marketable petroleum
commodity should be taken to be produced at the point in the production process
where a substance first meets the specified composition component of the
marketable petroleum commodity definition (for example, sales gas or liquefied
petroleum gas), rather than the point at which processing is complete and the
product is in its intended final form (whether for sale, use as feedstock for a
downstream process, or for use as energy), consistent with how the PRRT has
applied since commencement.
Under the narrow interpretation suggested in that case, a
marketable petroleum commodity would become an excluded commodity following
either movement away from the point at which it met the particular specification,
or further modification of its composition. Similarly PRRT taxable profit would
be determined at that point rather than the point at which the marketable
petroleum commodity is in its final form, even though much of the operations to
treat, transport, produce and initially store the marketable petroleum
commodity in its final form may occur only after the point at which the
marketable petroleum commodity arguably first meets the particular
specification.[18]
2.12
Justice Middleton handed down his judgment in April 2011, rejecting
ExxonMobil's contentions about the interpretation to be given to the PRRTA Act
on the taxing point issue:
As I have stressed, the PRRTA Act imposes a tax on profits,
not on production. Section 24 itself focuses on the "consideration receivable"
(s 24(a) and (b)) or "market value" (s 24(c)). Whilst s 24 does
envisage the possibility of "insufficient evidence of that market
value" (s 24(c)), the whole basis of the liability to the tax, and in
determining one part of the equation, is based upon determining receipts
following a sale or where there is a market. This points to an actual sale or
"marketability" being a concept at the heart of the determination of
liability under the PRRTA Act.[19]
2.13
ExxonMobil has since appealed the decision to the Full Federal Court.
However, as part of the 2011–12 Budget, the Government announced it would amend
the PRRTA Act to confirm the 'existing application of the PRRT in relation to
the taxing point' to provide further statutory support for the Federal Court's April
2011 judgment and greater certainty for PRRT taxpayers.[20]
The proposed amendments
2.14
Schedule 2 to TLAB 8 repeals the current definition of a marketable
petroleum commodity and inserts a new definition. The other major change made
by the schedule is that the change will apply in relation to the 1990 tax year
onwards.
2.15
The current definition simply specifies that five products produced from
petroleum,[21]
and any other products declared by the regulations, are marketable petroleum
commodities, provided that the product is not itself produced from one of those
products.
2.16
In the proposed new definition, the same list of products is relevant in
considering what constitutes a marketable petroleum commodity (proposed
subsection 2E(2)). In a similar fashion to the existing definition, a
product cannot be a marketable petroleum commodity if it has been produced
wholly or partly from a product that was a marketable petroleum commodity
(proposed subsection 2E(3)). This maintains the current safeguard that prevents
the resource from being taxed under the PRRT more than once.
2.17
Proposed subsection 2E(1) contains the substantive amendments. This
subsection will mean that any of the five products listed in subsection 2E(2) will
be a marketable petroleum commodity if it is produced from petroleum for one of
three prescribed purposes, and is in its final form for that purpose.
The purposes are for:
- sale;
- use as a feedstock for conversion to another product; or
-
direct consumption as energy.
2.18
That is, if a product produced from petroleum has been fully processed
for its intended use, such as being in its final form for sale if it is to be
sold, then it will be considered a marketable petroleum commodity.
2.19
This definition also accounts for the production of products with
different purposes at different points within a project:
For instance, a project may produce sales gas partly for sale
to the domestic market, and partly for use as feedstock for conversion to LNG.
Where the point at which final form of these products differs (due to them
having different processing requirements), the point at which they become a
marketable petroleum commodity will also differ.[22]
2.20
This definition reaffirms the original policy intent behind the PRRT.
Alternative definitions, such as those based on the chemical composition of a
product, would vary from project to project and depending on the product, and
would mean the taxing point would occur at a much earlier point.[23]
Retrospectivity
Principles for legislating
2.21
The Government argues that the amendments give certainty about a central
aspect of the PRRT and are in line with the policy intent and the way the PRRT
has operated since its commencement. The amendments have:
... always existed, albeit implicitly, and is clear given the
structure and operation of the PRRT law as a whole. The PRRT has operated on
this basis for over 20 years. By making this existing requirement explicit, the
amendments will put the matter beyond doubt, removing any lingering uncertainty
around a central element of the PRRT.[24]
2.22
However, schedule 2 is drafted so that it applies from 1 July 1990. The
need for and desirability of this approach was questioned by some stakeholders
and tax law specialists. This issue was also considered by the Senate Standing
Committee for the Scrutiny of Bills.[25]
That committee has written to the relevant minister, the Treasurer, to seek
further advice about the approach taken.[26]
2.23
The Law Council focused on the principle of taxation legislation being
amended with retrospective effect, submitting that the utilisation of this
approach, or the possibility of its utilisation, means that 'taxpayers operate
under a veil of uncertainty in relation to the way they administer their own
tax affairs'[27]:
It is a fundamental principle that laws need to be certain,
so that people are able to understand in advance the rules and principles that
apply to their conduct and behaviour. Parliament should be loath to apply
changes made to the law retrospectively. Where Parliament does so it is not
possible for citizens to know and understand in advance, the consequences of
their behaviour, resulting in the potential for injustice.[28]
2.24
The Tax Institute argued that amendments to tax laws should, except in
some rare circumstances, be prospective rather than retrospective as:
- taxpayers enter into transactions on the basis of the law as it
is, not the law as it is rewritten after transactions have occurred;
- a significant change in tax liability may render incorrect the
inputs taken into account in calculating tax expense and current tax liability/assets
as disclosed in a company's financial accounts; and
- taxpayers have committed to investment decisions on the basis of
a particular tax profile for an entity.[29]
2.25
The Business Council of Australia referred to the principles outlined in
recent reviews of tax law design to also support its concerns with this aspect
of the proposed amendments:
The 2004 Review of Income Tax Self-Assessment – Report on
Aspects of Income Tax Self-Assessment noted:
“While ideally, tax measures imposing new obligations
should apply prospectively, retrospective start dates may be appropriate where
a measure;
- corrects ‘unintended
consequences’ of a provision and the Tax Office or taxpayers have applied the
law as intended
- address [sic] a tax avoidance issue
- might otherwise lead to
significant behavioral [sic] change that would create undesirable consequences,
for example bringing forward or delaying the acquisition or disposal of assets”
In reviewing the announcement of the proposed amendment in
the 2011 budget papers and the explanation for the amendment released with the
draft bill, it is not apparent that the proposed amendment is in response to
any of the matters identified above.[30]
2.26
However, Treasury officials pointed out that this review was commenting
on tax measures that impose new obligations. Treasury considers that
although they apply from an earlier date than the date they commence, the
amendments are 'not retrospective in the sense that they do not impose any new
tax burden'.[31]
Sovereign risk
2.27
Featuring in many arguments about the proposed amendments being
retrospective, were suggestions that such amendments may lead to perceptions of
increased sovereign risk and damage Australia's reputation and attractiveness
as an investment destination:
It is vital for a small capital importing country like
Australia to avoid creating concerns among international investors about the
stability and fairness of its tax laws.[32]
Investors value a predictable, stable and simple tax system
when making investment decisions. A predictable and stable tax system includes
the ability for taxpayers to legitimately dispute the incidence of past
taxation with executive government without the Parliament intervening to
retrospectively favour the executive. Retrospectivity can damage the confidence
of investors in the tax system and reduce the attractiveness of Australia as a
place to do business. This is particularly so in the above case where the
matter is longstanding, and there is no suggestion of fraud or mischief on the
part of the taxpayer. The retrospective amendment of tax laws some 21 years in
arrears in these types of circumstances can impact on the confidence that
legitimate taxation disputes can be ever settled.[33]
2.28
The PRRT only applies to a small group of taxpayers. Treasury stated in
evidence that the other PRRT taxpayers are operating in line with the effect of
the proposed amendment, and would not be impacted by the change.[34]
While the ATO has not issued formal guidance on this aspect of the PRRT, the
ATO also appears to have administered the PRRT in accordance with these
proposed amendments and the policy intent of the PRRT.
Committee comment on sovereign risk
2.29
As a matter of principle, whether the amendments will affect a small
number of taxpayers compared to a larger number is only relevant to a point.
However, while the arguments which focused on the broader principles associated
with retrospective amendments to taxation laws may have merit, the committee
does not consider the same is true for concerns about sovereign risk.
2.30
Most stakeholder concern focused on the application date of the schedule.
Other than some calls for publication of formal guidance on how the
arrangements will be administered, industry participants did not make
significant comments on the substance of the proposed amendments.
2.31
The committee recognises that taxation arrangements are clearly a factor
for companies when making investment decisions, and that the Government needs
to have close regard to how the approach taken to these issues in Australia
compares to other countries. Nonetheless, in this particular case, the small
number of taxpayers who are subject to this specific tax, along with the
objective of the schedule being to affirm the original intent of an established
tax rather than implement a significant change or impose a new tax burden,
mitigate wider concerns about sovereign risk.
Timing and integrity of the judicial process
2.32
Another issue some stakeholders had with the Government's approach was
that it could be seen as interference with the judicial process.
2.33
As noted earlier, issues with various aspects of the PRRT have been the
subject of a long-running dispute between the ATO and ExxonMobil. While a
judgment in the relevant case was handed down by the Federal Court in April
2011, this has since been appealed. ExxonMobil argued that, given the ongoing
appeal process:
Passage of the retrospective PRRT measures in these
circumstances would constitute an interference by parliament in a dispute
between the government and an individual taxpayer. It disregards consistent
advice received by governments past and present about retrospectivity in tax
legislation ...[35]
2.34
The Australian Petroleum Production and Exploration Association (APPEA) argued
that the amendments 'directly pre-empts the appeal rights of the litigants' by
denying them the ability to seek a full judicial review.[36]
A company impacted in this way would also have spent significant resources
preparing for an appeal which would now likely be unable to succeed, a point
noted by both APPEA and ExxonMobil.[37]
2.35
Such concerns, however, are not unique. The High Court has considered
similar issues and found that Parliament's legislative competence allows such
amendments to be made and applied by the courts, provided the legislation does
not usurp judicial power by interfering with the judicial process itself, or is
not otherwise unconstitutional.[38]
2.36
It is important that the ability of Parliament to legislate in the
broader public interest is not impeded because of ongoing litigation related to
specific circumstances. In this regard, it is noteworthy that the amendments
also remove uncertainty for other PRRT taxpayers about whether the original
policy intent and their long-term understanding of the tax will continue to
apply. Treasury commented on the possible impacts if the appeal of Esso v
CoT is upheld:
Those companies have argued for the scope of the PRRT to be
narrowed significantly. Essentially their argument is that the presence of a
marketable petroleum commodity should be determined in a purely mechanistic
way, having regard only to a substance's chemical and physical properties and
not the actual circumstances and objectives of the project. Such an
interpretation would run counter to the PRRT's design as a tax on actual
profits. It would greatly increase uncertainty for other PRRT taxpayers.[39]
Impact on other bills
2.37
This section comments on drafting considerations which may have an impact
on other bills being considered by the Parliament.
2.38
The definition of a marketable petroleum commodity is currently
contained in section 2 of the PRRTA Act. The new definition proposed by schedule
2 to TLAB 8 spans two sections. Once the amendments are made, section 2 will
essentially refer the reader to a new section 2E which will be inserted. The
new section 2E will contain the substance of the new definition.
2.39
While this drafting does not affect the operation of TLAB 8, it is worth
noting that the Petroleum Resource Rent Tax Assessment Amendment Bill 2011
(PRRTAA Bill), which is part of the legislative package that introduces the
Minerals Resource Rent Tax (MRRT) currently being considered by the House of
Representatives, seeks to amend the definition of a marketable petroleum
commodity to include shale oil as a specified product. However, that proposed
amendment targets the existing definition in section 2, while the definition
will take a different form if schedule 2 to TLAB 8 is passed. The likely
earlier commencement date of TLAB 8 may, therefore, require minor drafting
changes to the PRRTAA Bill.
Committee view
2.40
The committee supports the clarification of the PRRT taxing point. It is
important that the original policy intent of the PRRT is maintained and is
clear in legislation. However, the committee makes the following additional
comments about certain issues raised in evidence.
2.41
The committee is firmly of the view that legislating retrospectively
should not be an approach that is frequently used, nor one pursued without
careful consideration. Retrospective legislation can lead to potential
uncertainty and has the ability to significantly impact the rights of those
affected. In the sphere of tax laws, retrospective changes can also pose
practical difficulties for those affected in managing their affairs.
2.42
The committee understands the arguments put forward about the
fundamental principles associated with retrospective legislation, and by no
means wishes to dismiss these concerns lightly. Such an approach should always
be determined on a case-by-case basis. It is important to note that, with
respect to TLAB 8, the changes imposed by schedule 2 are not retrospective in
the sense that they do not impose any additional tax liabilities. Instead, the
change seeks to affirm and provide further statutory support for the decision
made by the Federal Court on the taxing point issue in April this year.
2.43
The proposed changes were announced in the 2011–12 Budget, after the
judgment of the Federal Court was handed down. From this point onwards, there
was certainty about the Government's intent to make amendments that would apply
from 1 July 1990. Nonetheless, ExxonMobil is appealing the Federal Court's
decision.
2.44
It is not reasonable to expect the Government or the Parliament to delay
attempts to legislate in areas which are within the legislative competence of
the Commonwealth and which are in the broader public interest. Otherwise, it could
be argued that whenever an aspect of law was being challenged in the courts,
the Parliament could not legislate until all litigation and appeals—including all
decisions on whether or not to pursue an appeal—were finalised. This would not
be an appropriate outcome for public policy.
2.45
Having said this, the committee notes that the Senate Standing Committee
on the Scrutiny of Bills is examining against its terms of reference the
appropriateness of the application date of schedule 2 to TLAB. Given that committee's
expertise in these matters, the committee believes the Senate should take
notice of any further comments from the Scrutiny of Bills Committee on this
issue. However, in the absence of strong objections from that committee, this
committee considers that schedule 2 to TLAB 8 should be passed in its
current form.
Recommendation 2
2.46
The committee recommends that the amendments contained in schedule 2
to the Tax Laws Amendment (2011 Measures No. 8) Bill 2011 be passed.
Senator Mark Bishop
Chair
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