In a recent development, the Central Board of Direct Taxes (CBDT) has given a clarification pertinent to the oil exploration and production (E&P) companies. The ‘farm in’ expenditure these companies incur is now considered an ‘intangible asset’. This classification makes it eligible for a claim of depreciation and classifies it as unamortised expenses.
Unamortised Expenses Unveiled
Before delving into the implications of this new directive, it’s useful to understand what unamortised expenses are and how they impact the financial standing of a company. These are expenses that get written off to a company’s Statement of Profit/Loss periodically. The new classification means the surplus from these expenses is taxed while the rest is allowed as a deduction. This development is expected to stimulate domestic and foreign investments and also increase the domestic oil and gas production.
Farm-in Expenditure: What It Entails
Farm-in expenditure is a term associated with the oil and gas industry. It represents the cost incurred by an entity when they acquire a Participating Interest (PI) from another entity in the oil/gas block(s). This acquisition then propels them to be part of the Production Sharing Agreement (PSC). Owning a PI can be compared to owning shares in a company. In fact, holding 20% or more shares in an undertaking is considered a participating interest.
The CBDT has also recognized that it’s common for global E&P corporations to farm-in and farm-out their PIs in PSCs to distribute the risk, introduce new expertise and technologies.
About Central Board of Direct Taxes (CBDT)
The CBDT is a statutory authority that operates under the Central Board of Revenue Act, 1963. It’s an integral part of the Department of Revenue in the Ministry of Finance. One of its key responsibilities is to administer direct tax laws through the Income Tax Department. Direct taxes include income tax and corporation tax, among others.
About Production Sharing Contract (PSC)
The term Production Sharing Contract (PSC) is common in the Hydrocarbon industry. It refers to a legal document between a contractor and the government where the contractor agrees to bear all costs related to exploration risks, production, and development. In return, they receive their stipulated share of the profit from the production resulting from this effort.
| Alias | Description |
|---|---|
| Central Board of Direct Taxes (CBDT) | A statutory authority functioning under the Central Board of Revenue Act, 1963. It is responsible for the administration of direct tax laws. |
| Direct Taxes | Taxes that include income tax, corporation tax etc., managed by CBDT. |
| Production Sharing Contract (PSC) | An agreement in the Hydrocarbon industry between Contractor and Government whereby Contractor bears all costs related to exploration, production, and development. |
Production Sharing Contracts under New Exploration and Licensing Policy (NELP)
Launched in 1997 by the government, the New Exploration and Licensing Policy (NELP) led to the widespread adoption of PSCs for enhanced exploration of oil and gas resources in the country. Under a PSC, the contractor is allowed to recover their cost before the government receives its share in the contractor’s revenues. Until the contractor makes a profit, there is no share given to the government apart from royalties and cesses.