UK's new windfall tax mechanism faces critical trade-off between fairness and simplicity, warns Wood Mackenzie

The UK government faces a critical fiscal challenge as it prepares to unveil its replacement for the Energy Profits Levy (EPL) in November’s budget. Wood Mackenzie analysis reveals policymakers must navigate inevitable trade-offs between administrative simplicity and fairness to operators and the nation in the ultra-mature UK Continental Shelf (UKCS).

Officials seek a system that generates fair returns from national resources during unusually high prices whilst remaining simple to administer. The stakes are high for the UKCS, where investment attractiveness hangs in the balance.

Wood Mackenzie's research shows the Brent oil price has been below the government's own threshold for EPL application, but EPL still applies to all profits, because the gas price is higher than its threshold. However, the new mechanism, will only be activated after the EPL expires on 31 March 2030. Several operators have indicated the current situation is unfair, that 2030 is too late, and the new mechanism should replace the EPL immediately.

Two mechanism options present distinct trade-offs

The government is considering two approaches for the new mechanism:

• A revenue-based mechanism offers administrative simplicity but risks penalising high-cost operators unfairly.
• A profits-based approach delivers greater fairness but introduces significant complexity.

Wood Mackenzie identifies the critical determinants of the mechanism's impact as the price thresholds that trigger "unusually high prices", and the tax rate applied. The government must carefully balance all these factors, to arrive at a fair and simple mechanism, that will also be stable and predictable.

UKCS competitiveness at stake

The North Sea operates under severe structural disadvantages that demand competitive fiscal terms. Wood Mackenzie analysis reveals that a well-designed mechanism could restore the North Sea's fiscal advantage. This would encourage investment in one of the world's most challenging offshore basins.

Only 18% of discovered resources remain, whilst unit technical costs reach US$35 per barrel. This represents nearly double the cost of comparable countries. UK projects under development have a median size of just 27 million barrels of oil equivalent. This is one-third the size of global peers, with pre-tax breakeven prices averaging US$44 per barrel compared to US$31 globally.

Global competitors offer more attractive terms

The research highlights stark differences with competing jurisdictions that intensify pressure on UK policymakers:

• The US Gulf of Mexico (GoM) offers marginal rates of 31-35%, less than half the current UK rate and below the 40% that will apply in the UK post-2030 under normal conditions. President Trump's commitment to regular Gulf of Mexico lease sales adds competitive pressure.
• Norway's 78% rate matches current UK levels, but the Norwegian industry is dominated by state ownership of resources and is significantly less explored than the UK or US GoM.
• Wood Mackenzie's calculations show the UK government's share of pre-tax profits sits near 40% at both US$80 and US$120 per barrel without the EPL. The global peer group averages 62% government share at US$120, indicating room for increases during high-price periods whilst maintaining competitive positioning.

Design details will determine mechanism success

Wood Mackenzie identifies several key design elements for an effective mechanism. Price thresholds should use historic daily price data over agreed periods. Calculations should align with existing UK fiscal system components including ring fence corporation tax and supplementary charge. The analysis emphasises preserving the UK's fiscal advantage through its legacy tax structure becomes essential under "unusually high" price scenarios.

"The UK government's move towards a more flexible windfall revenue or profit-sharing system represents a significant improvement over the current Energy Profits Levy," said Graham Kellas, senior vice president of fiscal research at Wood Mackenzie." The UK's cost disadvantage stems from operating in an ultra-mature, heavily explored basin with 90% of remaining resources already onstream or under development. A competitive fiscal regime becomes crucial to offset these inherent challenges and attract continued investment. And for many operators, 2030 will be too late to restore UK competitiveness."