To leave ministerial office is a serious matter at any time. For me to step down as Chancellor while the world is suffering the economic consequences of the pandemic, the war in Ukraine and other serious challenges is a decision that I have not taken lightly.
However, the public rightly expect government to be conducted properly, competently and seriously. I recognise this may be my last ministerial job, but I believe these standards are worth fighting for and that is why I am resigning.
Rishi Sunak, former UK Chancellor of the Exchequer
The above statement was made in the midst of the recent political turmoil in the United Kingdom that has seen more than 60 Ministers and top officials of the government resigning in protest against Prime Minister Boris Johnson’s handling of the affairs of the State, among other issues. Mr. Johnson has since stepped down as the leader of the Conservative Party but will remain in office until a new Prime Minister is elected, which is some time in autumn. The Opposition parties have, however, called for his immediate resignation. It was only last month that Mr. Johnson faced a vote of no confidence in him over the “Partygate” scandal and the apparent lack of public trust in his leadership.
Over in Sri Lanka, protestors stormed the President’s residence in the capital Colombo, resulting in the President fleeing to an unknown destination. The protests were sparked as a result of the severe economic crisis facing the country that led to a severe shortage of essential food items as well as fuel. The protestors blame the crisis on President Rajapaksa whose older brother resigned as Prime Minister in May following violent protests. He also fled the capital and sought refuge at a naval base. Earlier, three other Rajapaksa relatives resigned from their Cabinet posts. According to the new Prime Minister, the country’s economy has collapsed, and negotiations with the International Monetary Fund (IMF) have been complex, given the state of bankruptcy of the country. He has since agreed to step down. The Rajapaksas have been at helm of the government for most of the past two decades. (See https://www.cnn.com/asia/live-news/sri-lanka-protests-07-09-22-intl/index.html.)
In our articles of 5 February and 26 February 2018, we had discussed the key provisions of the Petroleum Agreement between Exxon’s subsidiary Esso, CNOOC and Hess, and the Government of Guyana dated 27 June 2016, including the issue of taxation. We had concluded that when one assesses the financial implications in terms of the net benefit to the country (i.e. royalty plus net share of profit oil minus the value of the exemption from various taxes), the inescapable conclusion is that Agreement is overwhelmingly a one-sided affair. Four years on, our conclusion still remains valid, and we are on record as having called for a renegotiation of the Agreement.
In today’s article, we revisit the taxation provisions contained in the above agreement, which provisions have been the subject of intense discussion and debate recently.
Exemption from taxation from petroleum operations
In accordance with Article 15.1 of the Agreement, Exxon and its affiliated companies (hereinafter referred to as the Contractors) are exempt from any tax, value-added tax (VAT), excise tax, duty, fee, charge or other impost in respect of income from petroleum operations or from property held, except for:
(a) Import duties;
(b) Taxes, duties, fee, etc. for specific services performed for public or commercial enterprises that are unrelated to income derived from petroleum operations;
(c) Rent due to the Government for any land rights granted;
(d) Annual licence charges;
(e) Local government rates and taxes (not calculated by reference to income); and
(f) Stamp duties, registration and licence fees or other taxes on a minor nature.
The Property Tax Act is also not applicable to the Contractors. Article 15.2 nevertheless requires expatriate employees to honour their tax obligations in accordance with tax laws of Guyana, including filing of returns and the maintaining records and books of accounts.
Exemption from import duties on equipment and supplies
By Article 21, the Contractors are exempt from ‘duty, VAT or other duties, taxes, levies or imposts, all equipment and supplies required for Petroleum Operations including but not limited to drillships, platforms, vessels, geophysical tools, communications equipment, explosives, radioactive sources, vehicles, oilfield supplies, lubricants, consumable items as well as items listed on Annex D’. The annex contains a list of items covering seven pages without quantities being stated. However, fuel imports attract a ten percent excise tax.
Minister to pay Contractors’ income and corporation tax
The most important aspect of the Agreement on taxation, and indeed the most contentious one, is contained in Article 15.4. Despite the extremely generous tax exemptions granted to the Contractors under Article 15.1, the Minister is required to pay to the Guyana Revenue Authority (GRA), the income and corporation tax on the Contractors’ taxable income based on the GRA’s assessment. Payments are to be met from Guyana’s share of profit oil and is to be considered income of the Contractors and hence included in their taxable income. (Emphasis added.) The Contractors are to submit their tax returns to the Minister who in turn presents them to the GRA for the relevant receipts to be issued attesting to the payment of income and corporation tax. Within 180 days following the end of the year of assessment, the Minister must submit to the Contractors the relevant tax certificates.
On the one hand, the Agreement provides for the exemptions from the various taxes, including income and corporation tax; on the other, the Government has to discharge the Contractor’s income and corporation tax liabilities to the GRA. These two provisions obviously contradict each other, and it would appear that the latter was inserted to enable the Contractors to claim a tax credit in their home countries, thereby boosting their after-tax profits. However, in a technical report dated April 2019, the IMF stated that there is nothing wrong with this Pay On Behalf (POB) arrangement, as it is called, that has been used by over 20 oil producing countries. While this may be true, the arrangement ought not to be looked at in isolation of the tax exempt provisions contained in Article 15.1.
The IMF further stated that the provisions of the Petroleum Agreement supersede Guyana’s tax laws by virtue of an Order issued by the Minister of Finance dated 2 August 2016 for those laws not to be made applicable to oil companies. Article 15.8 of the Agreement states that ‘[a]n Order shall be made giving effect to the provisions of this Article in statutory form and language as specified in section 51 of the [Petroleum (Exploration and Production)] Act’. We will leave this matter for the legal experts to determine whether this section of the Petroleum Act, which was promulgated in 1986, can override the country’s current tax laws. That apart, if Guyana’s tax laws are not applicable to the Contractors, one wonders why is the GRA involved in relation to the POB arrangement and in the issuing of receipts attesting to payments made by the Government on behalf of the Contractor.
In its report titled “Financial reporting in the oil and gas industry”, PricewaterhouseCoopers (PwC) stated that the crucial issue in the POB arrangement is to determine whether such arrangement is akin to a tax holiday, or whether the foreign entity has the obligation for the income tax. If the former is the case, the POB arrangement represents a tax holiday, and the foreign entity ‘presents no tax expense and does not gross up revenue for the tax paid on its behalf by the government entity’. (Emphasis added.) If the latter is the case, the amount involved is included in gross revenue and tax expense. Since the Contractors are exempt from the various taxes, the POB arrangement represents a tax holiday. Despite this, Article 15.4 provides for the amount of POB to be included in the Contractors’ taxable income. Is it not a case where the Contractors are receiving a double benefit? See https://www.pwc.com/gx/en/services/audit-assurance/assets/pwc-financial-reporting-in-the-oil-and-gas-industry-2017.pdf.)
Stability of the Petroleum Agreement
In accordance with Article 32, after the signing of the Agreement, the Government is precluded from imposing any new arrangements, including the promulgation of new laws or the amendment of existing laws, which will adversely affect the economic benefits accruing to the Contractor. If this were to take place, the Government must take prompt and appropriate measures to restore such benefits. While the rest of the country, and indeed ordinary citizens, will have to bear the burden of the imposition of any new taxes, the Contractors are exempted from such burden.
Impact of the POB arrangement
The obvious impact of the Government paying the Contractor’s income and corporation tax liabilities to the GRA is that Guyana’s share of profit oil will be reduced by the amount of the payment. Profit oil is computed at the end of each month after the deduction of 75 percent of cost oil. The remaining 25 percent is to be shared equally between the Contractors and the Government of Guyana. According to the IMF, Guyana has failed to increase its share of profit oil which should have been higher than 50 percent. (Emphasis added.) It could also very well be that amounts involved in the POB arrangement may exceed the two percent royalty that Guyana is receiving.
Guyana’s share of profit oil is paid into the Natural Resource Fund (NRF) Fund, and all withdrawals from the Fund are to be deposited into the Consolidated Fund. This means that no direct payment can be made to the GRA from the resources of the NRF to satisfy the requirements of Article 15.4. Additionally, Article 218 of the Constitution prohibits the withdrawal of funds from the Consolidated Fund without an appropriation from Parliament or as specifically provided for by the Constitution or an Act of Parliament. Therefore, in order for the Government to honour its commitment under the POB arrangement, the related amounts have to be reflected in the Estimates of Expenditure under the Ministry of Natural Resources. However, a review of the Estimates of Revenue and Expenditure for 2022 and earlier years indicates that no amount was budgeted for payments to be made to the GRA in respect of the Contractor’s liability for income and corporation tax. Then, how are the payments to be honoured? Or, will the POB arrangement be paper transactions, with the GRA issuing official receipts for sums it did not receive?
Given that the Contractors are exempted from various taxes, there should not have been the requirement for the Government to pay the income and corporation tax on behalf of the contractor. In this way, the Government’s share of profit oil remains intact and not reduced by the amounts involved in the POB arrangement.
What do the international accounting and reporting standards say about offsetting transactions?
It has been argued that if the Government pays to the GRA the Contractor’s liability for income and corporation tax, such payments have no implications for the balance on the Consolidated Fund since the GRA is required to pay over to the Fund all revenues received by way of taxation. The net effect is the same and therefore there is no need for the Government to make any payments. That argument, however, appears lacking in merit for three main reasons.
First, the GRA cannot issue a receipt if there is no flow of funds as such action is likely to be viewed as an act of irregularity, to put it mildly. Second, generally accepted accounting principles and practices as well as the International Financial Reporting Standards (IFRS) prohibit the netting off of transactions, except in certain defined circumstances. According to IAS 32, a financial asset and a financial liability should be offset when, and only when, an entity: (i) has a legally enforceable right to set off the amounts; and (ii) intends either to settle on a net basis, or realise the asset and settle the liability simultaneously. Third, both the Government’s revenue and expenditure would be understated by the amounts involved in the POB arrangement.
One may be tempted to also argue that the POB arrangement is not dissimilar to that where a loan agency, say the Inter-American Development Bank, makes an overseas payment on behalf of a government agency. In this case, once the Bank provides documentary evidence of the disbursement made, funds are withdrawn from the Consolidated Fund for the transaction to be recorded as expenditure. At the same time, the government agency draws a cheque for the exact amount payable to the Accountant General for deposit into the Consolidated Fund to give recognition of the transaction as revenue. The key difference, however, is that the proceeds from the disbursement are reflected in the Estimates of Revenue and Expenditure and are recognized as both revenue and expenditure in the public accounts of the country. One may wish to note that several years ago, the Government had agreed to implement in a phased manner the International Public Sector Accounting Standards as a replacement to the cash-based system of accounting which had been in place in Colonial times. Regrettably, there was no evidence of IPSAS becoming a reality in the near future.
