Tax capital gains only after discovery, says oil, gas industry

An oil rig. Kenya’s ability to attract investments in oil and gas exploration could be affected by a plan by the government to impose capital gains tax (CGT) on profits made from selling exploration blocks. PHOTO | FILE 

By KENNEDY SENELWA Special Correspondent

In Summary

• The government expects to earn Ksh9 billion ($102 million) annually from the CGT, which had been abolished 36 years ago in 1978.
• This is likely to make prospecting blocks less attractive as CGT on transfer of shares before discovery of oil or gas increases the risk profile. The amendments will also see the withholding tax on dividends from mining operations rise from 10 per cent to 20 per cent.

Kenya’s ability to attract investments in oil and gas exploration could be affected by a plan by the government to impose capital gains tax (CGT) on profits made from selling exploration blocks.

The National Assembly’s Finance Trade and Planning Committee on Wednesday amended the Finance Bill 2014, requiring that a CGT of five per cent be charged on earnings from property transactions from January next year.

“Income on which tax is chargeable is the whole gain that accrues to a company or an individual on or after January 1, 2015 on the transaction of property situated in Kenya,” reads the amended Finance Bill, which is awaiting assent from President Uhuru Kenyatta to become law.

The government expects to earn Ksh9 billion ($102 million) annually from the CGT, which had been abolished 36 years ago in 1978.

This is likely to make prospecting blocks less attractive as CGT on transfer of shares before discovery of oil or gas increases the risk profile. The amendments will also see the withholding tax on dividends from mining operations rise from 10 per cent to 20 per cent.

Eduardo and Associates, a consulting firm, said CGT and windfall taxes may discourage investors from prospecting in other parts of the country, as commercial oil exists only in the Lokichar basin in northwestern Kenya.

“During farm-in (buying) and farm-out (sale) of interests in exploration blocks, there is no gain. Capital gains tax is applicable only when either commercial oil or gas has been discovered, and the amount quantified,” Eduardo’s managing consultant Patrick Obath said.

He added that the meaning of CGT and windfall taxes needs to be well defined with clear rules on when the taxation regimes come into effect without being applied retrospectively.

Windfall tax is influenced by changes in the international market such as when the price of a barrel of crude oil increases from $100 to $200. Investors need to be cushioned when prices fall.

Windfall taxes

Oil and Energy Services Ltd, a consulting firm, said since 2005, windfall taxes have been included in production sharing contracts (PSCs) that companies negotiate and sign with the Kenyan government.

“There is no gain in farm-in or farm-out as it covers exploration costs. CGT and windfall taxes ought to be well structured as the sector is nascent,” said Oil and Energy Services chief executive Mwendia Nyaga.

Introduction of CGT and windfall taxes would enhance government revenues in the short term. The impact on the hydrocarbons sector is still unclear but it could be disruptive if the interests of investors and the government are not balanced.

Africa Oil Corporation is working with joint venture partners and the government to ensure the range of taxes does not hamper the exploration phase of the industry’s development in Kenya. 

The discussions are being held parallel to a World Bank- supported project to develop a petroleum master plan for Kenya that will ensure that such decisions are focused on maximising long term benefits to the country.