Ukraine: Budget Law 2008 for Oil and Gas companies

The new Ukrainian law “On the State Budget of Ukraine for the Year 2008” (the “Budget Law 2008”) was adopted on 28 December 2008. The majority of articles of the Budget Law 2008 came into force on 1 January 2008. State budget laws have a priority over existing and adopted legislation, which may be consequently cancelled, suspended or amended. The budget law sets out fiscal, tax and financial sources that form the state budget for a specific year, thus, of course, having some impact on each sector of the Ukrainian economy, including the oil and gas industry. Set forth below you will find an overview of novelties and changes introduced by the Budget Law 2008.

1. The Mandatory Sale of Hydrocarbons Produced with the Participation of State Owned Entities
Article 3 of the Law of Ukraine “On the State Budget of Ukraine for the Year 2007” (the “Budget Law 2007”) was “copy-pasted” into the Budget Law 2008. Article 3 of the Budget Law 2007 provided that:

• (a) all enterprises, in which the State owns more than 50%;
• (b) companies, more than 50% of the ownership of which has been contributed to charter funds of other companies, where the State is a majority shareholder;
• (c) subsidiaries, representative or branch offices of enterprises and companies listed above in items (a) and (b);
• (d)participants of joint activities and/or representatives of joint activities, established with the participation of enterprises and companies listed above in items (a) and (b), shall be obliged to sell on a monthly basis:
  • (i) A) all the crude oil and gas condensate, which they produce, except for volumes required to satisfy their technological needs, and B) liquefied gas exclusively at stock exchange auctions, as per the procedure established by the Cabinet of Ministers of Ukraine; and
  • (ii) all natural gas (including wellhead gas), which they produce, to a special entity, authorised by the Cabinet of Ministers, in order to form a reserve of natural gas for residential customers, at a price, which shall not exceed the maximum wholesale price for natural gas, which is sold to residential customers, exclusive of any extra charge, transportation and supply tariffs.

This year Article 3 was amended. In particular, item (ii) above, now provides that all natural gas shall be sold to residential customers at the price established by the National Energy Regulation Commission (“NERC”) for each of the entities mentioned in items (a) to (d) inclusive, instead of the maximum wholesale price. There is an assumption that the Government will be trying to compensate gas producers for the gas sold to residential customers in such a way, but it is unknown to what extent. The precise level of prices is subject to NERC’s approval.

Moreover, the Budget Law 2008 provides a clarification to item (d) listed above. In particular, it clarifies that the Article 3 of the Budget Law 2008, inter alia, applies only to that joint activities, in which:

• (a) entities listed in items (a) to (d) above participate; and
• (b) the value of the contribution made by any of the entities listed in items (a) to (d) above exceeds 50% of the total contributions.

2. Royalty Tax (Rent) for Produced Natural Gas, Oil and Gas Condensate

• 2.1 Royalty Tax (Rent) for Produced Natural Gas In the year 2008 the amount of rent applicable to natural gas produced will depend on the precise category of end customers to which natural gas is to be supplied to, e.g.

(i) if the natural gas (including oil and wellhead gas) is to be sold to a body authorised by the Cabinet of Ministers of Ukraine to further supply residential customers - the rent shall amount to:

• UAH 50 for 1,000m3 of natural gas extracted onshore from the depths above 5,000 m;
• UAH 40 for 1,000m3 of natural gas extracted onshore from the depths below 5,000 m;
• UAH 10 for 1,000m3 of natural gas extracted offshore (UAH 0 in 2007).

(ii) if the produced natural gas is to be sold to other categories of customers (e.g., industrial and commercial), including natural gas sold for the purpose of forming reserves in underground storage facilities - the rent shall amount to:

• UAH 200 for 1,000m3 of natural gas extracted from the depths above 5,000 m;
• UAH 100 for 1,000m3 of natural gas extracted from the depths below 5,000 m.

• 2.2 Royalty Tax (Rent) for Produced Oil and Gas Condensate: According to the Budget Law 2008 the rent for oil and gas condensate produced shall remain the same at the level of the year 2007, i.e.

• UAH 1090 for 1,000m3 of oil and gas condensate extracted from the depths above 5,000 m;
• UAH 404 for 1,000m3 of oil and gas condensate extracted from the depths below 5,000 m.

The application of the market adjustment to rent rates for oil was retained in the Budget Law 2008. As of 1 January 2008 the same market adjustment will be applicable to gas condensate.

3. Royalty Tax (Rent) for Transportation of Natural Gas, Oil, and Oil Products
Currently the rent for transportation of natural gas, oil and oil products has not been changed since 2007 and amounts to UAH1.67 per 1,000m3, UAH4.5 and UAH4.5 correspondingly.

4. Tariffs for Geological Works, Carried out at the Expense of the State
Pursuant to the Budget Law 2008 the multiplier, which is applied to tariffs for geological works carried out at the expense of the State shall be changed from 2.11, which was set for the year 2007 to 2.27.

5. Base Tariffs for the Subsoil Use and Extraction of Minerals
In 2007 the base tariffs for subsoil use were established separately for each of the following minerals: oil (UAH13 per ton), gas condensate (UAH13 per ton) and natural gas (UAH3.21 per 1,000m3). In 2008 these base tariffs have been increased to UAH50 per ton for oil and gas condensate and UAH3.67 per 1,000m3 for natural gas (including oil gas and wellhead gas).

6. Extra Charge on the Natural Gas Tariff
Please note that the following novelty has been introduced by the Resolution of the Cabinet of Ministers, rather than the Budget Law 2008. Nevertheless, we believe it is essential for the oil and gas companies. So, as of 1 January 2008 the extra charge on the natural gas tariff, which is sold to budget, industrial and commercial customers shall be increased from 2% (2007) to 4%.

7. Subsoil Use
According to the Budget Law 2008, special permits for subsoil use shall be sold to applicants exclusively at auctions, except for cases determined by the Cabinet of Ministers of Ukraine. Back in 2004, creation of a list of such cases was reassigned to the State Committee of Natural Resources. However, the respective Order of the Committee (No 199, dated 25 October 1999) was cancelled by the Ministry of Environmental Protection in 2006. As of today, these cases have still not been determined by the Cabinet of Ministers.