The BC Government tabled Bill 6, the Liquefied Natural Gas Income Tax Act, on October 2, 2014.
Bill 6 sets out the features of the new LNG tax regime. The LNG taxation proposals have been the subject of great public scrutiny, ongoing negotiations and political pressure since they were announced in the 2014 BC Budget. This tax is levied on any taxpayer involved in “liquefaction activities” at an LNG Facility in BC. This tax is also in addition to existing federal and provincial taxes.
In introducing this Bill, B.C. Finance Minister Mike De Jong used an example of a hypothetical producer that would have paid approximately $1.5 billion in taxes over 10 years under the earlier proposals, and stated that the same producer would pay only $800 million under the revised taxing regime in the proposed legislation.
The significant components of the tax scheme include a tax of 1.5% on “net operating income”, which many are referring to as the Tier 1 Tax, and a 3.5% tax (increasing in 2037 to 5%) on “net income” or Tier 2 Tax. The calculations of net operating income and net income, while starting with net income for regular income tax purposes, are subject to certain statutory adjustments.
In the calculation of “net operating income”, no deductions are allowed for capital cost allowance (i.e. depreciation) or financing costs (including interest expense). However, a special “investment allowance”, at a rate to be prescribed by regulation, will be deductible.
In the calculation of “net income” losses from prior years and a deduction for capital investment may be claimed.
Finally, with respect to the calculation of income, it is important to note that income from LNG operations is broadly defined, and includes income from the purchase and sale of natural gas, income from operating LNG facilities (e.g. tolling arrangements), income from the sale of electrical power from an LNG facility, other ancillary sources of income, as well as the purchase and sale of personal property related to LNG facilities, and the acquisition and disposition of LNG facilities themselves.
As previously announced, there is a mechanism to allow any Tier 1 Tax paid to be recovered against any Tier 2 tax payable in the current or a subsequent taxation year.
As is the case with many sophisticated tax regimes, there will be specific transfer pricing provisions setting out rules for valuation of transactions between all non-arm’s length parties – including self-dealing. This is significantly different from income tax that only apply transfer pricing rules to transactions with non-residents. It is not clear how these transfer pricing rules may be affected by income tax treaties that Canada federally enters into with other countries.
There are two other important components of the proposed legislation. First, the legislation provides for a tax credit for “eligible expenditures” incurred on the closure of an LNG facility. The amount of the credit is subject to a limitation calculation based on the amount of Tier 2 Tax paid and the maximum claim is 5% of the eligible expenditures.
Second, a tax credit that applies against ordinary provincial income tax will be provided to corporations with a permanent establishment in BC. The tax credit is based on 0.5% of the inlet cost of natural gas at an LNG Facility and may only be claimed in years when the corporate taxpayer is paying LNG income tax. Further, the credit can not reduce the provincial corporate tax paid below 8%. The number of restrictions around this credit may have a significant impact on proponent structuring decisions.
Reaction from industry has so far been positive, with several representatives lauding the government for recognizing the reality of global competitive pressures and world conditions. Proponents have also expressed relief that the government has now provided some certainty around the tax and emissions trading regimes.