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May 31, 2022

Windfall tax risks undermining UK’s net zero progress

By Stephanie Baxter

The UK government has been urged to rethink its windfall tax proposals, amid concerns they will incentivise energy firms to increase investment in oil and gas projects, thereby slowing the country’s progress towards achieving net zero emissions.

In a major policy U-turn last week, chancellor Rishi Sunak announced plans to impose an extra 25 per cent tax on the “extraordinary” profits of oil and gas giants, to help fund a £15bn package to tackle the cost-of-living crisis.

While the proposal has received a positive reaction from many quarters, there are concerns that the so-called “investment allowance” within the policy – which would give oil and gas companies an 80 per cent tax break on profits reinvested into UK oil and gas extraction – would encourage investment into fossil fuels at a time when the transition to sustainable energy sources should be a priority.

On top of existing arrangements, this new tax break would almost double the tax relief for investing available to firms, according to the government.

There are also concerns it could jeopardise the chancellor’s plans to raise £5bn in revenue from the policy.

UK Sustainable Investment and Finance Association chief executive James Alexander warned that the policy is going in completely the wrong direction.

“We have the fantastic opportunity right now to shift towards a sustainable renewable future, and it’s an absolute necessity if we’re to achieve decarbonisation of the economy,” he said. “This was a great chance to really kickstart the renewables revolution, to get the incumbent oil and gas firms to start putting their rhetoric into practice.”

Missed opportunity

There is concern that the UK’s policy move is a missed opportunity, and one that incentivises oil and gas extraction while not supporting much-needed investment in offshore wind.

Phil MacDonald, chief operating officer at energy thinktank Ember Climate, said: “The ability to avoid the tax only comes through investment back into the oil and gas fields, instead of into North Sea wind projects, which we would argue is really necessary for the UK.”

The UK is committed to having a 100 per cent clean power sector by 2035, which will be driven by wind and solar, but particularly offshore wind in the North Sea. There is a huge reliance on offshore, which will require an “enormous mobilisation of private capital to get us there”, said MacDonald.

With their substantial profits, oil and gas companies have a lot of this capital available for such investment, even before energy prices shot up, but they are not the major players in the sector, he added. The utility companies have been leading the investment in North Sea wind, among them Orsted, SSE and EDF.

“This energy profits levy could have been a chance to twist this – but hopefully there’s still room for influence there in trying to get oil and gas companies to pull some of this capital into North Sea offshore wind,” said MacDonald.

The reinvestment tax break appears to contradict the government’s legally binding target of reaching net zero by 2050, and substantial reduction target by 2035. There needs to be a net zero lens across every bit of public policy, and this is clearly missing from this windfall tax policy, said Alexander.

“If that were to happen, it would show that this policy – with its current focus on tax breaks for fossil fuel extraction – is not consistent with the pathway that we need to go along in order to reduce emissions,” he added.

According to MacDonald, one option could be to include utility companies in the windfall tax, because steering them towards even more investment in renewables seems to be easier. “This would work long as there is a caveat allowing them to not pay the levy if they invest in renewables,” he said.

A service from the Financial Times