Reduced gas royalty tax to increase investment, stimulate domestic production and improve Ukraine’s energy security

7/13/15

Today, at the U.S.-Ukraine Business Forum Conference taking place in Washington, D.C., Ukraine’s Finance Minister Natalie Jaresko announced new royalties for private gas exploration in Ukraine developed by the Finance Ministry and submitted to the Cabinet of Ministers of Ukraine. The proposal is to be submitted to Parliament immediately after the Government’s approval of the relevant draft law.

This strategic step forward follows significant action on diversifying gas import routes and eliminating corruption in the sector overall. It aims at unleashing the substantial potential of domestic production by ensuring the competitiveness of the Ukrainian gas exploration market, making sure investors can reasonably achieve expected rates of return. Current royalty levels are some of the highest in the world, discouraging increased levels of domestic extraction.

“By properly unleashing the potential of our domestic resources we can improve national security and create more competition which in turn will create more jobs in the energy sector and put less pressure on our balance of payments” said the Finance Minister. “What we are putting on the table is a carefully thought through proposal: we have made considerable effort to hear what business needs, expects and requires to make these investments. We have balanced these business expectations with our own fiscal needs. And we have looked carefully at what has worked in other markets”.

Based on best international practices, the new law proposes to reduce royalty rates from 55% for wells less than 5,000 meters, and 28% for wells deeper than 5,000 meters to 29/14 as of October 1, 2015 – the date coinciding with the date of effectiveness of the relevant law on Natural Gas Market. Furthermore, for investments in new wells, the Ministry proposes as of January 1, 2016 a 20/10 royalty rate, maintaining the existing corporate income tax rate, but adding an additional corporate surcharge tax at a 30% rate.

The October action to reduce royalties will have an immediate impact to make it profitable to invest and produce from existing wells. The new regime coming on line in January will encourage new investments. By 2025, the Ministry believes these measures can increase private production of natural gas to 8.5 bcm annually from current levels of 3.5 bcm per year. By 2035, the Ministry aims to bring private production to 11 bcm annually. "The government is doing its part." said Minister Jaresko, "to create conditions that will attract private investment and technology, and take Ukraine out of the energy stalemate it has endured for decades."

Estimates show that if Ukraine can provide stable and competitive royalty rates, a competitive market, and an improving business environment overall -- coupled with reverse gas flows and extensive effort on energy efficiency -- Ukraine could move to natural gas self-sufficiency within a decade. Ukraine's gas imports from Russia would depend on price -- whether Russia offers the cheapest alternative. These measures announced today complete the framework for a strategic roadmap of efficiency, investment and diversification that will make Ukraine energy secure and economically more competitive.

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