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Sir Robert Smith: Will the hon. Lady give way?

Ruth Kelly: If the hon. Gentleman will allow me, I want to make a little progress. We have made the changes required to put the regime on a sustainable, long-term footing. It now provides a fair share of profits for the nation, and helps to encourage long-term investment. We introduced these changes only after careful analysis, and we are being absolutely clear in our commitments. Before this year's Budget, we gave no indication that we considered the North sea fiscal regime sustainable in the long term. We are now putting it on the record that, with the Budget changes, we have a stable regime into the next Parliament. We cannot be any clearer than that.

Chris Grayling: The industry has not got the message. Lord Browne also said the following about those changes:

Ruth Kelly: I have set out what the oil industry is claiming, and our response to it. This is a long-term fiscal regime that is stable into the next Parliament—we cannot be clearer about that. As far as we are concerned, fiscal risk has reduced. Of course, it is up to individual companies to argue and decide, and to set their own fiscal risk criteria. We could never challenge an individual company's subjective assessment of fiscal risk, but if it is irrational and inappropriate, other companies will come in and make profits where profitable opportunities exist.

Sir Robert Smith: Will the hon. Lady help to restore fiscal stability by explaining why the Government chose not to consult on the draft clauses before the Budget, and why the sector was not given the same opportunity to consult as other sectors? There must be some explanation as to why the proposal was sprung on people. Will she also recognise that, whether or not it was rational, the people involved were genuinely surprised?

Ruth Kelly: We have already debated these matters at length. It was clear that, in the late 1990s—when the matter was first put out for consultation—two different regimes might apply, and we consulted on that basis. It became increasingly obvious that one of the policies was inappropriate, because of the time that had elapsed. The hon. Gentleman might agree that it is slightly odd to consult on the basis of one possible remaining regime. We have designed a regime that clearly takes into account investment needs, jobs and growth in the North sea, Scotland and the rest of the United Kingdom. Moreover, we have planned for the future with a long-term, stable fiscal regime. We cannot be any clearer about our intentions.

Mr. Salmond: On the question of people being taken by surprise and the careful analysis of the impact on jobs,

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did the Treasury consult the Minister for Energy and the Secretary of State for Scotland on this matter before the Budget, or on the morning of the Budget?

Ruth Kelly: Of course, Ministers and officials from different Departments have regular conversations about the oil industry, but I hope that the hon. Gentleman will agree that tax matters and tax changes are a matter for the Chancellor. The real issue that has rightly been raised today by my hon. Friends is the question of why we did not consult within the framework of PILOT, an organisation that was set up to encourage investment in the North sea. The Government accept that PILOT has a very valuable role to play in discussing issues of concern to the industry, but it—

Mr. Salmond: Will the hon. Lady give way?

Ruth Kelly: I have given way to the hon. Gentleman many times, and I must make progress. I will doubtless give way to him later on in my speech.

PILOT is not, and never has been, the appropriate forum for discussing tax; indeed, the position has been clearly set out. I think that it was the hon. Member for Arundel and South Downs who mentioned Steve Robson, who was present at the very first meeting of the oil and gas industry taskforce, which became PILOT in due course. At that meeting, Steve Robson made it clear that taxation was a Budget issue, and was not for consideration by the taskforce. PILOT, and the taskforce, always operated within that framework. PILOT's terms of reference refer explicitly to working within the parameters set by Government policy. Of course, PILOT sometimes deals with administration and the efficient operation of the tax system, but it was explicitly made clear that it was not for PILOT to consider the quantum of taxation of the oil industry.

Sir Robert Smith: The chair of PILOT for two years is now Secretary of Scotland, and she made it clear at Scottish questions that it was from PILOT that the tax regime was developed.

8 pm

Ruth Kelly: PILOT has always been concerned with legitimate questions of tax administration and implementation, but it was made clear in its terms of reference and set out at its first meeting that it was not the forum for discussing the quantum of taxation, which was an issue for the Chancellor that should be taken forward with the industry in the normal way.

I wish now to deal with some specific concerns that have been raised in this debate. In particular, many hon. Members raised the issue of financing costs. New clause 1 would allow financing costs to be taken into account in the calculation of the profits base for the supplementary charge. The new clause says that the costs would be allowed to the extent that the existing provisions referred to—section 494—permit them to be allowed. That is on the false assumption that that resolves the problem of manipulation of borrowings to minimise the effect of the charge. It does not.

My hon. Friend the Member for Waveney asked whether I would be able to put on record the precise arrangements that companies use to take advantage of the

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ring fence and the current disallowing of finance costs, and why we could not also apply that to the supplementary charge. I shall do my best to make the position clear, although I shall of course be willing to follow up later if he feels that I have not made the position sufficiently explicit tonight.

Section 494 restricts interest deductions against profits arising inside the ring fence to the extent that the money borrowed has been used to meet expenditure incurred by the company in carrying on its trade of producing oil or gas in the North sea. So the borrowing cannot be for downstream operations or some activity overseas. That is of course wholly sensible.

Essentially, what section 494 does is to set an upper limit on borrowing inside the ring fence based on the amount of spending in the North sea. What it does not do is to prevent the company from choosing to borrow for North sea purposes rather than other purposes. What it does not do—and neither do any of the transfer pricing rules that apply to finance costs—is to prevent a company from borrowing heavily, or even exclusively, to fund its ring fence activities, leaving other activities of the company, or the group of which it is a member, to be financed in other ways.

It is accepted that some groups, which are profitable in the North sea and unprofitable outside, will have already borrowed up to the limit allowed by the present rules. However, others will not have exercised that capacity and would be able to increase their borrowing further. With a higher rate of tax inside the North sea ring fence than outside, there will be a considerable additional incentive for companies to arrange their borrowing in that way. However, it is not just the potential for further shifting of borrowing that is of concern: it is also the current uneven distribution of debt within companies and groups.

It is clear that if new clause 1 were to be accepted the yield from the supplementary charge would be significantly eroded and the North Sea regime would fail to give a fair return to the nation from profits derived from a national resource.

Malcolm Bruce: The Minister is giving a fair explanation of why the Government would apply that regime to companies that have a wide range of interests nationally and internationally, upstream and downstream. It does not however answer the issue for those companies that do not have any of those offsets and that are investing by means of finance for marginal projects in the North sea. Those companies have no downstream and no offset, and they cannot even benefit from the full capital outlet. Cannot the Minister accept the case for varying the provisions in the Bill for those companies?

Ruth Kelly: I accept that finance costs are a cause of concern, especially to smaller companies. However, it is not possible to distinguish, company by company, those companies for which it is a real concern and those that might use the additional latitude to rearrange their borrowings. What is clear is that the solution cannot be just to allow all finance costs in computing the new supplementary charge. Any alternative approach would need to ensure that the overall yield from the North sea—both ring-fence corporation tax and the supplementary charge—is maintained.

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There are alternatives to allowing finance costs to be set completely against the supplementary charge that the Government are willing to discuss with oil companies. For example, we could try a system of apportioning finance costs so that those used for North sea purposes would be allowable against the extra charge. However, we must have a fair system that does not penalise those companies with least scope to manipulate their borrowings and does not lead to a reduction in the overall yield. We have already contacted oil companies with certain proposals that they may wish to discuss with us. I hope that that gives some comfort to my hon. Friends and other hon. Members that we take the issues very seriously.

New clauses 2 and 3 would bring the supplementary charge to an end after just three years. That is totally unacceptable. I shall not rerun the argument that that would be a windfall tax on oil companies, not the long-term fiscal regime that the oil industry needs.

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