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Mexico energy reforms become law: Part one

Oilfield Technology,

In a recent report by the Brookings Institute, Diana Villiers Negroponte described how Mexican President Pena Nieto signed into law the 21 component parts of comprehensive energy reform.

‘Eight months after introducing constitutional amendments to radically transform Mexico’s hydrocarbon and electricity sectors, private investors and Petroleos Mexicanos (PEMEX) can leave the starting gate’, she wrote.

Implications of implementation

Two categories of critical issues can be distinguished in the implementing laws, namely the tax and financial obligations; and second, the governance and political responsibilities.

Tax and financial obligations

Villiers Negroponte explained that the fiscal regime for international oil companies (IOCs) and service providers is intended to attract their investment and participation. The Mexican regime maintains flexible rates for royalties, as well as for oil and gas taxes. Differentiating between royalties, corporate tax and cost deductions, the implementing legislation provides the following:

  • Royalties: The Senate has agreed that sliding-scale royalties will exist with varying rates according to the type of field, its production and the price of oil and gas. A royalty discount will exist for the production of shale gas where profits are narrower. Royalty rates will rise if production or price goes above a certain threshold.
  • Corporate income tax: The standard 30% corporate tax will apply to all investors, including PEMEX. The tax will continue to be paid to the Ministry of Finance.

In addition, PEMEX’s cumbersome fiscal regime has been simplified. Instead of income tax plus 10 additional taxes, the law follows international practice and establishes income tax plus three additional taxes. These will apply to asignaciones (production sharing contracts) and contracts with PEMEX:

  • Profit sharing tax is reduced from 71.5% to 65% of the spot oil price.
  • Taxes on the extraction of hydrocarbons are based on a sliding scale, depending on the international price of hydrocarbons. The law specifies monthly tax of US$ 450/km2.
  • Taxes for the exploration of hydrocarbons, known as surface rental fees, are lower at US$ 110/km2 in order to incentivise companies to fulfil their exploration plans within a specified time frame.

Third, cost deductions are capped at US$ 6.5/bll of oil produced. In the case of the asignaciones, a cap of 12.5% of oil revenue exists for onshore and shallow water. A cap of 60% of oil revenue will exist for deep water production. A cap of 80% of gas and condensate revenue will also apply.

For PEMEX, this significantly increases their permitted deductions and allows it to compete with IOCs on a nearly equal basis. The Brookings report highlights that, as a consequence of the changes to this fiscal regime, PEMEX anticipates paying 36% less in taxes and royalties each year. This is expected to reduce PEMEX tax liability from US$ 5.2 billion in 2012 to US$ 1.896 billion each year for the next five years beginning in 2015.

In theory, over the next five years the Secondary laws establish that PEMEX will continue to contribute to the Ministry of Finance 11% less tax than its high average of 69% of total income. On paper, PEMEX’s tax rates are reduced, but elsewhere in the reformed laws, the Ministry of Finance retains the right to adjust tax rates to ensure sufficient revenue to cover public expenditures.

Income from the asignaciones for the exploration and extraction of hydrocarbons will go to the Mexican Petroleum Fund. The fund will act as a bank, with the directors of the fund ensuring that sufficient money is transferred to the ministry so as to assure that the national treasury does not fall below 4.9% of Mexico’s GDP.

Adapted from a report by Emma McAleavey

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