UK lobby raises the red flag over possible loss of tax billions from oil

Tuesday May 24 2016

UK exploration firm has discovered oil traces in Kerio Valley, raising hopes of boosting Kenya's oil reserves. PHOTO | FILE | NATION MEDIA GROUP

UK exploration firm has discovered oil traces in Kerio Valley, raising hopes of boosting Kenya's oil reserves. PHOTO | FILE | NATION MEDIA GROUP 

EDWIN OKOTH
By EDWIN OKOTH
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Kenya could lose billions of shillings in tax revenue from oil production because 85 per cent of the firms awarded licences have subsidiaries registered in tax havens.

Thirty multinationals holding stakes in the 41 petroleum blocks given by the government have a presence in tax havens, according to an Oxfam report released earlier this month.

The British non-profit lobby group has asked Kenya to put in place extra measures to collect revenue from the black gold given the possibility of tax avoidance.

“The overwhelming majority of the companies that hold rights to petroleum blocks in Kenya have at least one subsidiary listed in a tax haven or low tax jurisdiction,” the report says.

“In fact, only five companies listed appear not to make use of tax havens or low-tax jurisdictions as part of their corporate structures.”

The report titled, The use of Tax Havens in the Ownership of Kenyan Petroleum Rights dampens hopes of increased revenues for Kenya, which is already struggling to meet a huge funding bill for infrastructure and striving to achieve double-digit economic growth.

PARENT COMPANIES

Each of 35 different companies hold varying percentage stakes in at least one of the 41 active petroleum licences in Kenya.

These firms are ultimately owned by 27 separate parent companies. Out of these, 17 own petroleum rights in Kenya directly through a subsidiary registered in a tax haven.

This complex arrangement has prompted fears that Kenya may not collect any taxes from the companies since the government has yet to make public the exact production sharing contracts it has signed with the firms.

Oxfam says most of Kenya’s opportunities of reaping from the petroleum wealth fall outside of the government’s control, save from taxation as an emerging petroleum producer.

Other sources covered in production sharing contracts rely heavily on the volume of commercially recoverable oil in the country and the price for that oil when it reaches international markets. 

Such terms establish the broad framework that determines how much of the divisible, or “after-cost” revenue will be allocated to the company and how much to the government.

“During the exploration phase, the interest of the companies and the government are broadly aligned – both sides are hoping that exploration success can be rapidly converted into large-scale petroleum production. Once production begins, however, tensions between the parties could arise as both sides seek to maximise their share of project revenues,” says Oxfam.

Kenya could find itself buried in the resource curse that afflicts many oil-rich developing countries in Africa, where companies employ aggressive tax avoidance strategies to increase their share of divisible revenue.

The scenario painted in the case of Kenya’s oil exploration is a perfect replay of a key strategy that companies use to minimise their revenue payments to governments — the use of subsidiaries registered in tax havens.

Zambia provides a concrete example where billions of dollars in revenue were lost due to copper being sold on paper to a subsidiary of Glencore registered in Switzerland, a low-tax jurisdiction.

A large number of the firms Kenya has licensed have subsidiaries in Mauritius, Jersey, Delaware, Bermuda, Cayman Islands, British Virgin Islands and the Netherlands.

Delaware is widely acknowledged as having the lowest level of corporate disclosure in the United States, explaining why the one million businesses incorporated there outnumber the population of the state.

BLEAK FUTURE

The revelation paints a bleak future for Kenya’s oil exploration journey that has been slippery and full of confusion with expected dates for commercial oil production remaining shifty.

During last month’s visit to Germany, President Uhuru Kenyatta hinted at a distant date of 2022. Earlier projections had indicated September 2016, as the production date.

“President Kenyatta said while Kenya would start exporting crude oil by 2022, the country has no intention of abandoning commercial agriculture and other traditional economic activities,” read a statement from the presidential strategic communication unit.

Earlier in January, the government had kept a stronger push to have the first oil off the ground by September this year even as a report issued by UK’s Tullow Oil Plc indicated that the company was looking at 2017 to make a final decision on investment in production for both Kenya and Uganda.

The September dates were cemented in December 2015, as Kenya made clear plans to sell crude oil in nine months despite expert advice that the earliest the Turkana oil fields could be commercially exploited would be 2020.

A State House-based team was given a month to work on the logistics of the evacuation that would see crude moved by trucks from Lokichar to Kitale, from where it would be transported to Mombasa in specialised rail wagons for storage. 

Potential tax leakage in the oil sector now dims Kenya’s dream of catalysing its GDP growth from the wealthy discoveries made in March 2012.

Uganda’s recent change of mind and decision to build its oil pipeline through Tanzania instead of the earlier commitment to Kenya has also left the country frustrated.

Missed tax revenues will only add to financial hardships associated with the oil prospects.

Energy Cabinet Secretary Charles Keter has already said that the country will solely bear the Sh420 billion burden to build an oil pipeline from Lokichar to Lamu via Isiolo.

The country — which has over Sh210 billion annual infrastructure funding gap, according to the Africa Infrastructure Country Diagnostic report — is also torn between exporting crude oil to other countries and importing refined products or reviving her own refinery.

Oxfam also faulted Kenya for being economical with details about the firms licensed to carry out petroleum extraction, contrary to international best practice in extractive sector governance that recommend disclosure of corporate structures and the ultimate beneficial owners of extractive sector rights.

Not all is lost though, the report says Kenya still has a chance to position its taxation structure to arrest the tax leak since the country is yet to commence production.

However, Kenya, which has been making efforts to sign double taxation agreements with countries and entering Multilateral Convention on Mutual Administrative Assistance in tax matters to promote tax transparency across borders has more to do to curb this potential revenue miss.

Among the measures highlighted is keeping a keen eye on the companies’ books to increase public transparency on potential profit shifting.

“Care should be taken to review existing Double Taxation Agreements in order to ensure that benefits are not flowing to conduit companies that are not among the intended beneficiaries. Multinational oil companies should be required to publish financial results for each country where they have a presence,” the report says.

It also recommends that Kenyan subsidiaries be required to publish their annual financial statements.

“While petroleum production is still some years away, priority should be given to building tax administration capacity in both the Ministry of Energy and Petroleum and in the Large Taxpayer Office of the Kenyan Revenue Agency,” Oxfam says.