Russian Oil Getting Ready for Biggest Tax Overhaul in 20 Years

(Bloomberg) -- Russia, one of the world’s top three crude producers, is preparing the most radical shakeup of its oil-tax system since 1999. The changes, which will allow the nation’s producers to export crude and oil products duty-free while raising their costs at the wellhead, is set to get the go-ahead from President Vladimir Putin by year-end, bringing in much-needed funds for a multibillion-dollar plan to revitalize the faltering economy.

1. What tax changes are on the cards?

Starting next year, Russia will gradually lower export duties on crude and oil products until they’re fully abolished in 2024. At the same time, it will raise oil-extraction taxes by the same amount, keeping the fiscal burden for producer-exporters steady.

For refineries, the tax shift may be more painful as it raises the price of every barrel they process. To stem losses and prevent domestic fuel-price growth, the government will offer tax breaks to several types of refineries, including Siberian plants that are far from large ports, as well as facilities investing at least 60 billion rubles ($950 million) in upgrades between 2016 and 2024.

The government will also offer relief to refineries where high-octane gasoline accounts for at least 10 percent of total output, and to the refining subsidiaries of oil producers subject to international sanctions. That means basically all major Russian oil companies will receive tax breaks for their refineries.

The tax overhaul is Russia’s second attempt to remove export duties on crude and oil products, after an earlier effort in 1996. Just three years after that move, the government was forced to reinstate the levies as it scrabbled for funds after the 1998 financial crisis.

2. Will Russia export more oil once it’s duty-free?

In the past decade, Russia has sold roughly half its oil output abroad, with 2017 exports of crude and condensate totaling 257 million tons (5.16 million barrels a day), Energy Ministry data show. That share is unlikely to change as a result of tax reform even if profits fall for refineries that don’t get relief, according to the ministry’s deputy head, Pavel Sorokin. He estimated that such refineries together process about 15 million to 17 million tons a year, and most won’t close, so just a fraction of additional crude will be freed up for export.

If international oil prices grow more than 15 percent in a month, making it more attractive for large Russian producers to sell abroad, the draft law allows for a reinstatement of export duties for both crude and oil products, with product duties set at 60 percent of the oil export tax.

3. Why change the tax system now?

Oil -- which along with natural gas is the key source of Russia’s budget revenue -- will add about 1 trillion rubles to state coffers over the next six years thanks to the tax reform, according to the Finance Ministry. That’s an appealing prospect for a government embarking on an 8 trillion-ruble plan to revive the economy. Oil-tax reform is just part of a fiscal jigsaw puzzle that also involves raising value-added tax and increasing the pension age.

More urgently, the recent rebound in international oil prices drove up domestic gasoline prices in May and June, sparking protests across Russia just weeks before the soccer World Cup. After an ad-hoc agreement with key Russian oil producers to keep fuel prices flat, the government sped up work to create a more stable regulatory framework.

5. Who wins and who loses?

“The winner is the Russian budget and the losers are consumers, primarily those in the Eurasian Economic Union, who will pay more for Russian crude and oil products,” said Alexander Burgansky, a London-based oil analyst at Renaissance Capital.

Russia’s trading partners in the EEU, mainly Belarus and Kazakhstan, currently receive Russian crude tax-free, and pay back the export duty only on fuels they subsequently produce and resell outside the union. Russia’s Finance Ministry estimates that these duty-free supplies cost Russia about 140 billion rubles a year. Once the new tax system comes into force, the customers will pay a price for the oil that takes into account the higher production tax.

For Russian oil majors, the effects of the tax changes are largely neutral, according to Burgansky, who sees “no material effect” on earnings from the reform.

The Reference Shelf

  • Tax reform is the biggest challenge for Russian oil following the country’s new deal with OPEC
  • Russia’s sovereign wealth fund may quadruple through 2021 on oil-price growth

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