ISLAMABAD: The Cabinet Committee on Energy (CCoE) which is scheduled to meet on Tuesday (Feb 6) will approve amendments to Refineries Policy 2023 to resolve implementation issues of existing Brownfield Refineries, well-informed sources told Business Recorder.
Sharing the details, sources said, the CCoE will consider a summary of Petroleum Division approved on November 22, 2023 - extension of deadline by 60 days (till January 16, 2024) - for signing of upgrade agreements by refineries to avail the incentives under the Policy. CCOE also approved that during the said period a well-informed proposal to resolve the outstanding issues will be developed for consideration of CCoE.
In order to address the concerns, the Ministry along with OGRA, held a number of meetings with the refineries.
CCoE set to approve revised ‘Brownfield Refinery Policy’
Earlier, the refineries had raised following issues, affecting viability of their upgrade projects: (i) 7.5% Deemed Customs Duty on HSD-clarification on continuation of the same, post upgradation; (ii) refineries had requested Tax Exemption on the incremental/CAPEX incentive to be deposited in the Escrow Account; (iii) Committed Output flexibility till FID; (iv) Legal/contractual issues in the Upgrade Agreement such as arbitration, Force Majeure, Termination and Relinquishment; (v) project time and cost overruns may be catered for in the policy and; (vi) Sales Tax @18% will be payable on imported and local equipment, however this could not be adjusted in the final product, as there is zero ST on petroleum products, hence the adjustment would take a long time.
To examine the proposals of refineries having financial implications, two consultants were hired by the Ministry of Energy (Petroleum Division), i.e. a financial consultant - KPMG and a legal consultant-Ajuris.
KPMG was tasked to review the financial models of the upgrade projects of refineries, prepare sensitivities/impact of 7.5% deemed duty after 6 years and taxation of CAPEX Incentive on the project economics as well as advice on the applicability of tax and way forward.
The KPMG carried out detailed analysis of financial models of the refineries upgrade projects and prepared different scenarios with and without the impact of 7.5% deemed duty and taxation on incremental incentive (Capex incentive - 25% of project cost).
As per current policy provision scenario, i.e. discontinuation of 7.5% deemed duty on HSD and taxation on Capex incentives, there is a negative impact on the upgrade projects in terms of project IRR and NPV of majority of the refineries. Whereas in the scenario of continuation of 7.5% deemed duty on HSD for the project life and taxation on CAPEX incentive, the project economics become significantly improved.
Given the quantum of upgradation CAPEX ($ 6.3 billion) and prevailing foreign exchange situation in the country, the arrangement of debt and equity would be a very challenging task for all the refineries. To make the Upgrade Projects viable, continuation of 7.5% deemed duty on HSD for the project life may be considered besides addressing the tax issue.
To address the taxation issue, KPMG has highlighted few options such as (a) characterizing the CAPEX incentive as ‘subsidy’ from the Federal Government under clause 102A of Income Tax Ordinance, or (b) characterizing the CAPEX incentive as ‘equity’ from the Government without any voting/dividend rights, or (c) characterizing the CAPEX incentive as long term ‘debt’ from the Government or (d) CAPEX incentive be made available to gross up taxation impact, which would effectively mean a higher effective CAPEX incentive quantum (41% instead of 25% on a grossed up basis).
According to Petroleum Division, since FBR has categorically clarified that tax will be applicable on the CAPEX incentive and no exemption can be granted due to IMF program, therefore options (a) and (d) are not considerable. Whereas, refineries are not receptive to the options (b) and (c) therefore, an alternate proposal has been developed in consultation with KPMG as well as Refineries to compensate the shortfall in Capex incentive by enhancing the cap limit from 25% to 27.5% and enhancing incentive period from 6 to 7 years.
Under the said option, the shortfall will be compensated to some extent. To address the outstanding legal/contractual issues in the Upgrade Agreement template finalized by OGRA, a legal firm i.e. M/s Ajuris was engaged. M/s Ajuris had detailed interaction with the stakeholders and furnished a legal opinion with specific options to address the legal issues.
The findings of the KPMG as well as Ajuris were also discussed with the refineries and OGRA in a series of meetings. The last meeting was chaired by Minister for Energy on January 15, 2024 wherein following recommendations were agreed for considerations of CCOE: (i) to compensate the shortfall in incremental/CAPEX incentive due to taxation, the cap limit of withdrawal from escrow account may be enhanced from current 25% to 27.5% of the project cost and incremental incentive period may be increased from current 6 to 7 years; (ii) the prevailing 7.5% deemed duty on HSD for sustainability shall continue after the 7 years incentive period for 20 years or till deregulation, whichever is earlier; (iii) after the completion of six year period for upgradation, the waiver shall expire and the refineries producing products below Euro V specification will not be entitled to any deemed duty on MS and HSD.
Deemed duty on HSD shall be reduced from 7.5% to 5% for refineries which do not sign the Upgrade Agreement within one month of the date of notification of amendment in the Policy; (iv) it was felt that there was no forum available to resolve the issues faced by the refineries after signing the UA, therefore the following committee shall be constituted which shall address the issues/anomalies faced during implementation of this Policy (a) Secretary, Petroleum Division (Chairman); (b) Secretary, Finance Division and; (c) Chairman OGRA.
Any refinery that has already signed the Upgrade Agreement under the original Refining Policy for Upgradation of Brownfield Refineries 2023 will have the right to opt for the amended provisions/ incentives of the Policy as a package by executing a supplemental to the upgrade agreement.
Based on legal opinion of M/s. Ajuris, and discussions with OGRA, the following proposals are made: (i) a new Section 6.1.6 may be added into the Policy, titled ‘Force Majeure’, and stating that: “In addition to any applicable Cure Period, the timelines in this Policy shall be subject to any extensions as may be provided for on account of force majeure, by way of a Force Majeure Period.
The conditions and consequences for invoking force majeure shall be as provided in the Upgrade Agreement“; (ii) other consequent amendments to other Sections of the Policy, as identified in the Annexure of legal opinion, may also be made; (iii) in view of technical constraints highlighted by refineries, the phrase “at least as provided in clause 6.1 in Section 6.1.3.1 of the Policy may be deleted and replaced by the words ’including production of Euro V compliant MS and HSD and reasonable reduction in furnace oil,”; (iv) The legal opinion of M/s Ajuris, which includes proposed amendments to the Upgrade Agreement, may be issued to OGRA and refineries to assist in resolving the outstanding issues of arbitration and Force Majeure etc; and (v) based on above, necessary amendments in the section 6 & 7 of the subject Policy are proposed.
Copyright Business Recorder, 2024