Explanatory Memorandum
(Circulated by the authority of the Minister for Industry, Tourism and Resources, the Hon Ian Macfarlane, MP)General outline and financial impact statement
General outline
This Bill, together with the Customs Tariff Amendment (Greater Sunrise) Bill 2004, puts in place the framework necessary for Australia to meet its obligations arising under the Agreement between Australia and the Democratic Republic of Timor-Leste relating to the unitisation of the Greater Sunrise petroleum resource. The Agreement, known as the Greater Sunrise unitisation agreement, was signed by Australia and East Timor in Dili on 6 March 2003.
Where a petroleum resource, whether comprised of one or more pools, straddles a boundary between administrative systems or straddles a border or straddles production rights, sound resource management often requires the resource to be developed as a single unit. This is known as the unitisation of a petroleum resource. In the absence of unitisation, production from one part of a resource could be to the detriment of the resource as a whole or could be to the detriment of those with an interest in the resource on the other side of the boundary.
In 2003, Australia and East Timor agreed to the arrangements to govern the unitisation of the Greater Sunrise petroleum resource. This resource straddles the border of the Joint Petroleum Development Area, which is the area of shared jurisdiction between Australia and East Timor established by the Timor Sea Treaty, and an area of sole Australian jurisdiction located within the Northern Territory adjacent area.
The Greater Sunrise unitisation agreement will be ratified by Australia and East Timor once both countries have put in place the required domestic arrangements to enable them to fulfil their obligations under the Agreement. This Bill and the Customs Tariff Amendment (Greater Sunrise) Bill 2004 do this for Australia.
Two general principles underlie the framework of this Bill.
First, Australia and East Timor have agreed, in effect, that development of the Greater Sunrise resource should, to the extent necessary, be subject to consistent administrative requirements. As a result, there will be a consistent legislative regime for petroleum operations throughout the unit area in relation to safety, occupational health and environmental protection. Annex II of the Greater Sunrise unitisation agreement specifies the Australian legislation that is to apply throughout the unit area. In some cases, such as for the purposes of the Navigation Act 1912, no amendment of that Act is required to give effect to Australia's commitment. In other cases, such as for the purposes of the Radiocommunications Act 1992, amendment of the Act is required to apply the law to the part of the unit area contained within the Joint Petroleum Development Area. This Bill, and the associated Customs Tariff Amendment (Greater Sunrise) Bill amend Acts to enable Australia to meet the obligations that will be imposed by the Greater Sunrise unitisation agreement, once ratified.
Second, Australia and East Timor have agreed, in effect, that the essential elements of the petroleum licensing regime on each side of the boundary will be maintained. Quite different regimes are in place in the Joint Petroleum Development Area and the area of sole Australian jurisdiction. In the former, a contractual licensing regime is in place, while, in the latter, a legislated licensing regime is in place. As neither system is to prevail in relation to essential licensing issues, persons conducting petroleum activities in the unit area will have to meet the requirements of both regimes. Those persons will need to hold rights, deriving from contract, to undertake activities in the part of the unit area which is within the Joint Petroleum Development Area (labelled, in this Bill, as the Western Greater Sunrise area) and to hold licensed rights, deriving from a legislated regime, to undertake activities in the part of the unit area within sole Australian jurisdiction (labelled, in this Bill, as the Eastern Greater Sunrise area).
Such a parallel system can work only if the administrators of the two regimes act in concert. The Greater Sunrise unitisation agreement provides for this to occur through consultation and information sharing.
Petroleum activity in the Eastern Greater Sunrise area is currently administered by the Australian and Northern Territory Governments. Petroleum activity in the Western Greater Sunrise area is administered by the Timor Sea Treaty Designated Authority which operates with the oversight of the Timor Sea Joint Commission. The Joint Commission, in turn, reports to the Ministerial Council established by the Timor Sea Treaty.
For Australia, to ensure that administrative arrangements for the Eastern Greater Sunrise area will be in concert with arrangements for the Western Greater Sunrise area, some modifications are required to the framework applying to petroleum administration in the Eastern Greater Sunrise area. This area forms a small part of the Northern Territory adjacent area. Petroleum operations in this adjacent area are administered under the Petroleum (Submerged Lands) Act 1967. The administration is effected through a Joint Authority (composed of the responsible Commonwealth Minister and a counterpart Northern Territory Minister) and a Designated Authority (composed of the counterpart Northern Territory Minister). As the Commonwealth Minister is the Australian member of the Timor Sea Ministerial Council which has ultimate oversight for operations in the Joint Petroleum Development Area, including the Western Greater Sunrise area, this Bill provides that the responsible Commonwealth Minister, alone, will discharge the duties of the Joint Authority and the Designated Authority in the Eastern Greater Sunrise area. As a related measure, the Bill makes provision for administrative arrangements in relation to an adjacent area to be capable of being applied to a part of an adjacent area.
The Bill makes one change that applies throughout all the adjacent areas: it restricts, to employees of the Australian, State and Northern Territory Governments, the class of persons to whom a Joint Authority or Designated Authority can delegate powers. This change is made to ensure that appropriate accountability mechanisms are in place for the exercise of these powers. This legislative action accords with current practice and will not affect the usual administration of offshore petroleum activity.
The Bill also makes a small number of technical corrections to rectify editorial defects arising from amendments to the Act made in 2000.
Petroleum resource rent tax aspects
The following is an explanation of how the Commonwealth petroleum resource rent tax (PRRT) applies to the Australian apportionment of Greater Sunrise projects, as a result of the implementation of the Greater Sunrise unitisation agreement. Specifically, this explains the adjustments to the PRRT which ensure that it extends to all Greater Sunrise projects and how the PRRT is adjusted according to the apportionment ratio. Also explained is how the relationship between petroleum projects that are, and those that are not, Greater Sunrise projects, is maintained so that provisions relating to the transfer of expenditure between projects and between taxpayers operate consistently with that apportionment. It further identifies some potential matters that are not adjusted by this Bill, on the basis that they need be dealt with only should they actually arise.
The Petroleum Resource Rent Tax Assessment Act 1987 levies tax on a taxpayer for the recovery of petroleum from a petroleum project in offshore areas subject to the tax. The tax is payable once deductible expenditures for the project, carried forward in real terms, and a notional return for most expenditures have been fully offset by assessable receipts. Unlike royalty and excise arrangements that are based on production, PRRT is profit-based. Only genuinely profitable projects pay PRRT. Each taxpayer's interest in assessable receipts from a petroleum project will be subject to the provisions of the Act. In essence, each taxpayer's interest in a project becomes a "taxing entity".
PRRT is only applied to the part of a project which recovers petroleum (including gas) and produces a particular product from petroleum, referred to as a marketable petroleum commodity (MPC), which includes:
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- stabilised crude oil;
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- sales gas;
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- condensate;
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- liquefied petroleum gas (LPG); or
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- ethane.
A petroleum project will include the functions normally associated with initial extraction and production of petroleum, so as to include the treatment processes, transport, storage and other facilities and operations that are integral to production of petroleum up to an MPC or any earlier sale. The PRRT assessment does not extend beyond the MPC production and on-site storage stage to downstream activities such as further refinery processes and further transport, storage or facilities.
PRRT is levied on the PRRT profits of a petroleum project at a rate of 40 per cent. The taxable profit of a project is the excess of assessable receipts over the sum of the deductible expenditure of a project (maintained in real terms, and including a compounding minimum return) in a financial year and any exploration expenditure (similarly compounded) permitted to be transferred to the project from other projects held by a taxpayer (if a company, from wholly-owned companies of the same group).
All eligible project expenditures are tax deductible for PRRT purposes in the year incurred. There is no distinction between 'capital' and 'revenue' expenditures for this purpose.
Eligible expenditures include exploration and project development and operating expenditures, subject to the specific exclusions contained in section 44 of the Petroleum Resource Rent Tax Assessment Act 1987. Expenditure in closing down a project, including offshore platform removal and environmental restoration, is deductible in the year it is incurred, with a refund of any previous PRRT payments where receipts in that year are inadequate to cover the expenditure.
Undeducted exploration expenditure incurred after 1 July 1990 is transferable to other projects with a notional taxable profit held by the same entity. In the case of a company in a company group, the expenditure is also transferable to other PRRT liable projects held in the group.
All undeducted expenditures are carried forward and eligible for compounding. The expenditures can be compounded annually at set rates, and the compounded amount is deducted against assessable receipts in future years. Because the compounding maintains the real value of the expenditure and includes a compounding real return on that expenditure, actual financing costs are not included in eligible expenditure; they are effectively imputed by way of the compounding real return on the expenditure.
The PRRT is extended by this Bill to all Greater Sunrise projects. The tax applies to each taxpayer's interest in a project, on the same basis as for any other application of the PRRT, but is adjusted according to the apportionment ratio as determined in accordance with the Greater Sunrise unitisation agreement. Therefore Australia's secondary tax share of Greater Sunrise projects is the portion set by the Greater Sunrise unitisation agreement, and is collected as PPRT.
The Greater Sunrise unitisation agreement treats all projects recovering petroleum (including gas) from a Greater Sunrise unit reservoir alike. Otherwise some Greater Sunrise projects could have been governed only by the Petroleum (Submerged Lands) Act 1967, and only Australian law including the PRRT would apply; other Greater Sunrise projects could have been governed only by the Timor Sea Treaty and secondary taxation in accordance with that Treaty; and yet all Greater Sunrise projects would be recovering petroleum from the same unit reservoirs. This could have created different secondary taxation for Greater Sunrise projects depending on where recovery took place.
The provisions of this Bill extend the PRRT to all Greater Sunrise projects, whether they are covered by a production licence under the Petroleum (Submerged Lands) Act or not, by extending the meaning of production licence to include rights to recover petroleum in the Western Greater Sunrise area from a Greater Sunrise unit reservoir. Much of the area in which Greater Sunrise projects can recover petroleum is covered by the Petroleum (Submerged Lands) Act and the PRRT. But some of the area in which Greater Sunrise projects can recover petroleum is not covered by the Petroleum (Submerged Lands) Act; that area is covered by the Timor Sea Treaty. So rights to recover in the Western Greater Sunrise area are treated as production licences in relation to which there is a petroleum project for PRRT purposes, provided they are rights to recover from a Greater Sunrise unit reservoir.
Because of the way secondary taxing methods differ between the Australian and Joint Petroleum Development Areas, the PRRT would take account of all the deductible expenditure of a taxpayer in relation to a Greater Sunrise project but, without new law, not all of the assessable receipts. That would collect the wrong PRRT and at the wrong point, compared to the point when the taxpayers with an interest in the project have actually fully recovered their real costs and their minimum return. Hence the Bill extends the assessable receipts of a taxpayer by treating the recoverer of petroleum from a Greater Sunrise project as the owner of all the petroleum. This does not mean that such projects pay too much PRRT - the PRRT liability is based on the taxable profit of the taxpayer for the project, adjusted as below.
The PRRT is calculated on the basis of the taxable profit of the year. For Greater Sunrise projects, that taxable profit is reduced according to the apportionment ratio provisions under the Greater Sunrise unitisation agreement. The provisions take into account any change in the ratio during the year, in effect averaging changed rates for the year. However, the taxable profit is not adjusted retrospectively, so the provisions of this Bill leave any retrospective adjustment that may be made under the unitisation agreement as a matter between the Governments and not a matter affecting the PRRT liability of taxpayers. Any PRRT closing-down credit is correspondingly adjusted according to the current apportionment ratio.
This mechanism has been preferred to separate adjustments to deductible expenditure and to assessable receipts because it provides for both a correct application of the PRRT, while allowing for simplicity in the case of reapportionments. The PRRT is designed to apply neutrally between projects on the basis of the threshold at which effective recovery of costs and imputed returns has occurred. If separate adjustments of expenditure and of receipts change that threshold point for PRRT purposes, this would distort the economic effect of the PRRT. Separate adjustments will change the threshold point unless they are retrospectively readjusted to reflect any changes to the apportionment ratio, and will thus produce a different (and therefore incorrect) incidence of PRRT.
Under the PRRT, certain exploration expenditure is transferable between projects (and, for group companies, between companies). Transferable expenditure must only be transferred to the extent that it can be used in relation to the current PRRT year. The provisions of this Bill ensure that where expenditure is transferred by a Greater Sunrise project the amount received by a petroleum project that is not a Greater Sunrise project is adjusted down according to the current apportionment ratio. Correspondingly, where expenditure is transferred by a petroleum project that is not a Greater Sunrise project, the amount received by a Greater Sunrise project is adjusted up according to the current apportionment ratio. These rules ensure that transferable expenditure does not become more or less valuable as it is transferred.
The provisions of this Bill do not deal with the consequences of petroleum projects sharing the processing, treatment, storage or transport of their petroleum. Under Article 17 of the Greater Sunrise unitisation agreement, the economic use by a project of petroleum from another project is not to be impeded, but this will only happen in relation to Greater Sunrise projects when Australia and East Timor have agreed on applicable taxing arrangements.
Financial impact statement
The development of the Greater Sunrise petroleum resource is expected to yield Australia
$8.5 billion in revenue over the life of the project.