TAXATION ASPECTS OF SOLE RISK, OR, HOW TO MAKE THE TAX SYSTEM WORK FOR YOU

Abstract

Two of the problems currently facing the petroleum industry are the cost of funding petroleum and the relatively few major discoveries. Without major discoveries it is difficult, and will become more difficult, to attract new money into the petroleum exploration business.

With these factors in mind it becomes more necessary for few companies to spend more money to fund major exploration programs and for the costs to be adequately shared by all participants in a venture.

As currently drafted, the sole-risk provision in a Joint Operating Agreement acts as a rationer of scarce resources (i.e. money) for the finding of major new reservoirs. However, by restructuring the sole-risk premium clause it is possible to increase the financial cost (through income tax, resource rent tax, or resource rent royalty, as applicable) upon a party allowing another party to conduct a sole-risk project. This increased penalty might be a major factor in reducing the incidence of sole-risk programs without reducing the number of programs brought forward outside of permit work programs commitments.

To achieve this end the sole-risk clause should be restructured to require the sole-risk party to own the project (information, wells, completion, deepening, etc) and then for it to create undivided interests on the sole-risk project for disposal to the non-sole-risk party. In this way, the premium would be received as consideration on sale of an interest in the project and not a disproportionate allocation of product.

If this restructure were conducted then the interaction of income tax, and where applicable resource rent tax and resource rent royalty, might well induce all parties to agree to participate in non-work program operations leaving all work programs subject to sharing.