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Oil is regarded as a national power, an influential factor influencing world economies and a major force in international affairs. Oil is considered a finite resource, but there is much disagreement about the amount of its supply (Macmillan 2000, p. 51). International oil prices are erratic (Macmillan 2000, p. 54). Therefore, every country possessing oil resources strives for ensuring the functioning of the system working on providing the highest profit for the state based on energy production. Decisions involved in the process of oil production appear to be rather challenging, as they rely on many important issues (Suslick, Schiozer & Rodriguez 2009, p. 37). The aim of this work is to investigate the specifics of contract negotiation and taxation for the new petroleum discovery in a particular country. Uganda, a developing country that discovered oil in Albertine Graben in 2006, was chosen for the investigation. Proper analysis of fiscal regime, taxation issues, and other influential factors will help to provide recommendations of the key factors that should be considered in contract negotiations for Uganda.
A fiscal regime is aimed at providing benefits for government and companies and ensuring that investor receives the expected return. The fiscal instruments vary in every country, as all countries have specific objectives and boundary conditions, which have an impact on the development of the policy.
Petroleum activities in Uganda are governed by the country’s petroleum fiscal regime based on the production sharing (Twinamatsiko n.d., p. 2). The fiscal instruments include signature bonuses, rentals, royalty incremental, income tax (30%), withholding taxes (15%), state participation (15%), cost recovery (60%), tax credit, ring fencing, initial allowances, etc.
The contractor should be aware that under a production sharing arrangement, he/she is entitled to “cost recovery from a specified percentage of gross oil or gas production after deduction of any applicable royalty” (Uganda 2013, p. 5). The petroleum agreement regulates the process of dividing the production among the government and contractor. It takes place after deduction of royalty and cost recovery and is made on a sliding scale. The contractor must pay income tax “on the proceeds of the sale of their share of profit oil under the petroleum agreement” (Uganda 2013, p. 5). Each contract area is ring-fenced for tax purposes and is taxed as a separate taxpayer. Signature bonuses are vital for ensuring the upfront revenue received by government and have an impact on the cash flow of the companies. Royalties let the government guarantee that charges for petroleum extraction are not very high. As they have an impact on the marginal cost, in some situations they can discourage the contractors.
There are certain fiscal instruments specific for Uganda’s policy that can be considered by investors taking part in negotiating contracts as attractive and beneficial ones. Brown Tax or a cash flow tax relies on economic rent and “satisfies the criteria of neutrality and risk sharing” (Twinamatsiko n.d., p. 5). Tax Stabilisation guarantees investor confidence and reduces political risk. Immediate expensing, Reinvestment tax credits, Tax Abetment, Large Ring Fence can also be considered beneficial fiscal instruments that provide benefits for the investors.
Uganda’s petroleum fiscal regime appears to be typical for a developing country. The fiscal regime applicable to contract negotiations in the oil industry in Uganda is considered rather advantageous for investors, as it provides allowable deductions. However, contractors should be aware of all the specifics to avoid problems with government in the future. Besides, Uganda is in the process of updating its energy policy, laws and regulations (Global oil and gas tax guide 2014, p. 566). The contractor should be aware of the changes in Uganda’s legislation caused by the enacting of The Petroleum Acts 2013.
Uganda abolished taxes on its emerging oil and gas exploration industries. This step was made to encourage the growth of the industries and the development of the country. Therefore, the investors are not obliged to pay value-added and withholding taxes during the investment phase of projects. Such innovations demonstrate Uganda’s willingness to develop the potential offered by its oil and gas resources (Petroleum law in Uganda 2015, p. 1). It gives certain benefits to contractors willing to invest in the petroleum exploration in Uganda. However, they should be aware of taxation issues applicable for further process of oil production.
A contractor and subcontractor must pay corporate income tax on their taxable income at a rate of thirty percent (Global oil and gas tax guide 2014, p. 567). Taxable income includes gross income without deductions. The gross income of a contractor comprises of “the sum of his cost oil and his share of profit oil”, as well as proceeds and credits earned from oil operations (Global oil and gas tax guide 2014, p. 567). A deduction applies against tax related to the cost oil. Contract revenues and expenses are identified in different contract areas, and their consolidation is not allowed.
A contractor should disclose “all non-arm’s length transactions in return for a specified period” if required by Tax Commissioner (Global oil and gas tax guide 2014, p. 569). A contractor should maintain accounts for a contract area in Uganda shillings and in United States dollars and use the exchange rates prescribed for conversion of currencies for the purposes of taxation (Global oil and gas tax guide 2014, p. 569).
Withholding tax applicable to a nonresident subcontractor deriving income is fifteen percent. Besides, the double taxation agreements with a particular number of countries (Denmark, Mauritius, the Netherlands, Norway, etc.) should be taken into consideration.
Uganda’s government offers the beneficial system of taxation that creates favourable conditions for the development of petroleum exploration and production businesses. However, every contractor willing to ensure the effectiveness of the process of contract negotiation should be informed about the specifics of taxation issues in Uganda.
Uganda is trying to ensure the fair share of oil revenues. Uganda’s petroleum fiscal regime delivers nearly sixty-five percent of oil revenues to government and thirty-five percent to the companies (Twinatamasiko n.d., p. 9). In the first two years, the government take is about thirty percent but at the peak of production, the government takes a share of the gross revenues of about sixty-seventy percent. In the middle of production, the amount of revenue share to the government grows, while it is reduced at the end of the production. The contractor should be aware that the share of revenue heavily depends on changeableness of prices and the discount rate. The fair share is ensured by corresponding laws of the country. Uganda offers relatively beneficial conditions related to petroleum revenue share, as the government’s strategy is aimed at providing the companies with the possibility of starting the production process without serious shares required at the stage of development of the business.
The company willing to organise the production of oil after the new petroleum discovery should pay attention to the specifics of the licencing process in Uganda.
The company must apply for a petroleum exploration licence or a petroleum production licence to the Ministry of Energy and Mineral Development (Global oil and gas tax guide 2014, p. 576). Non-residents of the country can be asked to provide the information about the controlling power over the company. While applying for production licence the company should provide appropriate information, including a report on the petroleum reservoir and a development plan (Global oil and gas tax guide 2014, p. 576). Petroleum production licences are valid for 25 years and suppose annual charges and royalties paid by their holders.
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Uganda is a developing country, and its legal framework of managing revenues appears to lack certain important features. Specialists emphasize the importance of simplifying the contracts that are being negotiated with the oil companies in Uganda (Ordu 2009, p. 10). The complexity of contracts, which include numerous parameters and trade-offs makes the process of negotiating burdensome (Ordu 2009, p. 10). The analysis of fiscal regime, taxation issues, and licencing procedures related to petroleum production in Uganda helps to determine the main features of the legal framework for contract negotiation in this country. The specifics of each of these areas of regulation can be considered key factors, which influence contract negotiation. Every contractor should be aware of peculiarities related to petroleum production in the chosen country.
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Ordu, A 2009, ‘Managing oil revenue in Uganda. Policy note’, in National Seminar on Managing Oil Revenue in Uganda: proceedings from a conference, Munyonyo Commonwealth Resort, Kampala, pp. 1-19.
Suslick, S B, Schiozer, D & Rodriguez, M R 2009, ‘Uncertainty and risk analysis in petroleum exploration and production’, Terræ, vol. 6, no. 1, pp. 30-41.
Twinamatsiko, F N n.d., Is Uganda’s petroleum fiscal regime sustainable? An assessment. Web.
Uganda 2013. Web.