Overview
The proposals in respect of the energy sector – oil and gas, power and renewables were as
anticipated; the roll forward of the income tax holiday for power by a year, denial of tax holiday for
the ongoing round of NELP and indirect tax concessions for renewables. These were quite
predictable.
Bold initiatives hoped via policy announcement such as diesel decontrol, were notable by their
omission. The budget subsidy for under recovery of petroleum prices is woefully inadequate and will
fall short unless reforms are undertaken rapidly.
Key budget proposals
Direct tax
Oil & gas
Sunset introduced for income tax holiday for certain undertakings engaged in commercial
production of mineral oil. Income derived from blocks licensed under a contract awarded after
March 31, 2011 shall not be eligible for the 7 year income tax holiday.
Power
The period for commencing operations to be able to claim tax holiday has been extended by
one year to March 31, 2012.
Other proposals
The rate of Minimum Alternate Tax ("MAT") increased from 18 percent to 18.5 percent;
Alternate minimum tax for Limited Liability Partnerships introduced (similar to the concept of
MAT for companies).
Surcharge on corporate tax reduced from 7.5 to 5 percent for domestic companies; from 2.5 to
2 percent for foreign companies.
Notified infrastructure debt funds set up as special vehicles to enjoy tax exemption. Interest
paid by these funds to non-resident lenders to be subject to withholding tax at the reduced rate
of 5 percent.
Indirect tax
Oil & gas
Effective excise duty rates on petroleum products have not been changed. Tariff heading of
motor spirit would be impacted with effect from January 1, 2012 as a consequence of inclusion
of editorial changes in the Harmonized System of Nomenclature ("HSN").
Basic Customs Duty ("BCD") has been exempted for import of specific items for bio based
asphalt road construction.
BCD on carbon black feed stock and petroleum coke is reduced from 5 to 2.5 percent.
Exemption from BCD on import of coking coal of ash content of 12 percent or more has been
withdrawn, and exemption has been restricted to coking coal having a mean reflectance of
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more than 0.85 and swelling index or crucible swelling number of more than 2.
Option to pay excise duty at the rate of 5 percent or 1 percent has been made available on
manufacture of
coal, lignite, peat.
coke and semi-coke of coal, lignite and peat and tar distilled from coal, lignite and peat.
The option to pay 1 percent excise duty has been made subject to restrictions on availment of
CENVAT credits. The CENVAT credit cannot be claimed either by the manufacturer or by the
purchaser from such manufacturers.
Power
The exemption of excise duty extended to machineries and equipments required for
development of auxiliary facilities such as ash disposable system, water intake, treatment and
storage facilities and coal transportation facilities of such project, whether located inside or
outside the Power Plant. Benefit also extended to power cables connecting generator to the
transformer within the power plant.
Similar exemption from customs duty mentioned in the explanatory notes to customs. However,
unlike excise no formal notification has been issued in the context of customs yet.
The customs explanatory note clarifies that no exemption on steel and cement required for
construction of Power Project shall be available. However, no specific notification/ circular has
been issued in this regard.
Excise exemption granted on goods required for brownfield expansion of Mega Power Project.
While recently a concessional rate of customs duty was prescribed for goods required for
expansion of brownfield Mega Power Project, no corresponding exemption was provided under
excise. Vide Notification 6/ 2011-CE, complete exemption from excise duty has now been
provided for such goods.
Credit on goods used in a captive power plant outside the factory specifically allowed.
Exemption of excise duty on goods supplied to 'ultra mega power projects' and 'mega power
projects' delinked from customs duty exemption; however benefit still restricted to goods
covered under Chapter 9801 of Customs Tariff.
Renewables
BCD rate reduced from 10 percent to 5 percent on import of solar lantern/ lamps.
BCD exemption is being provided on import of toughened glass and silver paste imported for
manufacture of solar cells / modules subject to actual user condition.
Nil Additional Customs Duty ("ACD") on Light Emitting Diodes (LED) imported for manufacture
of LED lights or fixtures.
Reduction in excise duty from 10 percent to 5 percent on LED used for manufacture of LED
lights and light fixtures, subject to actual user condition.
Common impact areas
Point of taxation rules, to be effective from April 1, 2011, would inter alia change levy of service
tax from receipt to accrual basis. This may significantly impact the working capital and
compliance requirements for the businesses.
The definition of input and input service have been amended to exclude goods and services
used for setting up factory of a manufacturer/ premises of a service provider, except when such
goods/ services are being supplied by a sub-contractor to a main contractor. This may enhance
the input tax cost resulting into higher capex cost for Project Owners.
Credit in the hands of main contractor, providing services under works contract category and
opting to pay service tax under the composition scheme, restricted to 40 percent when subcontractor does not claim any abatement/ deduction and pays service tax on the entire value of
the contract after claiming credit on inputs.
Cement, which hitherto was liable to excise duty at specified rate, is now subjected to both
specific rate and ad-valorem rate.
CENVAT credit has been allowed on services provided to SEZ developers/ units; this was a
longstanding industry demand to ensure tax parity between goods and services supplied to
SEZ units/ developers.
CENVAT credit on ship breaking industry restricted to 85 percent of the CVD. Ship breaking
being a significant source of steel for infrastructure sector, this may adversely impact the cost
of procurement of steel.
Changes in the SEZ Scheme for claiming benefit of service tax exemption
Currently, SEZ Units and Developers enjoy an exemption from the payment of service tax on
services used in authorized operations. The exemption is effectuated through mechanisms of
refund of service tax for services which are not consumed wholly within the SEZ. Due to issues
faced in determination of services consumed within the SEZ, the relevant framework has been
rationalized.
Pursuant to the above, the phrase 'wholly consumed' has been streamlined in terms of the
Export of Services Rules, 2005 (Export Rules). Thus, a service provider may opt not to pay
service tax on the following:
Services in relation to immovable properties within an SEZ.
Services listed in second basket of the Export Rules in case these are performed within
the SEZ.
Services other than those covered above, in case the SEZ Unit/ Developer does not have
any other business / operations in the Domestic Tariff Area.
The SEZ Unit/ Developer is required to carry out certain documentary and procedural
compliances to enable service providers to avail of the benefit.
Consequent upon the above, CENVAT Credit Rules have been amended to carve out an
exception for service providers claiming the aforesaid exemptions. The exception carved out
allows the service provider in such a case to avoid segregation of output services into exempt
and taxable for availment and utilization of CENVAT credit.
Policy announcements
Direct transfer of cash subsidy to people living below poverty line in a phased manner in order
to overcome existing inefficiencies in the distribution system for subsidized fuels (fuels include
kerosene and LPG); proposed to be effective by March 2012.
National Mission for Hybrid and Electric Vehicles to be launched: to provide green and clean
transportation for the masses.
Launching environmental remediation programmes; Government to allocate INR 2 billion from
the National Clean Energy Fund.
Recent regulatory developments
Oil & Gas
Overview
The Economic Survey 2011 is muted on reforms in the oil and gas sector. The Survey
highlights the significance of the sector in augmenting economic growth and in particular, the
risks the sector poses to the growth potential. In the previous Economic Surveys the reforms
needed in the sector were emphasized, albeit the Government has been unable to implement
these in its entirety. In June 2010, the Government merely deregulated petrol prices leaving
other sensitive petroleum products (vis diesel, domestic LPG and PDS kerosene) under price
control, the current prices continue to cause under-recoveries to oil companies, especially the
Public Sector Undertakings ("PSUs").
As economies across the world jump-start this fiscal, growth in emerging economies is
expected to be even stronger and inflationary pressures are likely to further exacerbate. The
risk of surge in commodity prices, in particular crude oil, continues to prevail around with
baseline projections estimated at USD 90 per barrel.
Indian economy is expected to grow at 8.6 percent this fiscal and in the next fiscal, growth is
expected to exceed the 9 percent mark. As a result, energy needs of the country, especially oil
and gas is slated to further increase. To say the least, efficient and reliable energy supplies will
undoubtedly be a prerequisite for sustaining this growth momentum. Oil and gas constitute
around 45 percent of the total energy consumption. At the same time, today, the dependence
on imports of petroleum is 80 percent of the total oil consumption in the country. Any
disproportionate spike in the price of petroleum can adversely impact the growth target.
Exploration and Production
The year 2010-11 saw consolidation with increased production of crude oil and natural gas
after two major discoveries went into production. The current natural gas production from KG
D-6 field is about 53 million standard cubic meters per day and crude oil production from
Barmer field is about 125,000 barrels of oil per day. Crude oil production which was stagnated
at around 33 million metric tonnes is expected to be higher by about 10 percent. The natural
gas production which used to be around 80 million standard cubic meters per day has
increased to 140 million standard cubic meters per day.
To address the concerns of growing dependence on import of crude oil several initiatives were
taken on the domestic front. Out of the estimated sedimentary area of 3.14 million sq km, so
far only 11 percent of the basins have been explored. In order to boost domestic exploration,
this year, the Government announced the ninth round of NELP. 34 exploration blocks (8
deepwater, 7 shallow water, 11 onland and 8 Type-S) have been offered. In June 2010, 31
exploration blocks were awarded under the eighth round of NELP with the signing of
Production Sharing Contracts ("PSC"); 7 blocks were awarded for exploitation and production
of CBM in July 2010.
In order to augment new potential resources, exploration, research and development on other
gaseous fuels – Underground Coal Gasification and gas hydrates were carried out. Shale gas
is being explored as a new potential source of energy in the country. In this regard, the
Government has initiated steps to identify prospective areas for shale gas exploration,
assessment and development.
Policy changes
Pricing reforms were partially initiated during the year in the light of highly volatile crude oil
prices globally. Keeping in view the recommendations of the Kirit Parikh Committee, the
Empowered Group of Ministers ("EGOM") decided to deregulate petrol prices in June 2010. An
in-principle decision was taken for deregulation of diesel prices alongwith marginal hikes in
LPG and kerosene prices.
The price of natural gas sold under the Administered Pricing Mechanism ("APM") was
increased in June 2010 to USD 4.2 per MMbtu (less royalty), similar to the price of natural gas
produced by NELP operators.
In November 2010, the Government implemented the Ethanol Blended Petrol ("EBP")
programme to the extent of the ethanol made available by the domestic ethanol producers at
the ex-factory declared price decided by the Government. As per the Government decision,
after ascertaining the actual availability of ethanol in the country, percentage of blend (from 010 percent) would be recommended area-wise by the working group of officers constituted for
the purpose. The Government fixed provisional price of ethanol at INR 27 per litre.
Supreme Court decision on pricing of natural gas
In a major judicial development, the Hon'ble Supreme Court in May 2010 upheld the
Government's decision and jurisdiction in respect of the pricing and allocation of the natural gas
produced from the giant KG D-6 field.
Power
Till date, reforms in the power sector in India have made significant varying progress across the
value chain. Some of the major reform initiatives in the power sector in the past include – introduction
of the Electricity Act, 2003 and related regulations; unbundling of generation, transmission and
distribution; entry of private independent power producers; tariff-based award of power projects;
trading and merchant power sales, development of national grid; open access; spot and futures
market and so on. The reforms, nonetheless, remain incomplete.
Given the massive investment requirements and the critical role of the power sector in sustaining
growth, the Economic Survey 2011 has called for some bold reforms in this sector. The Survey
emphasizes the need for reforms in the following three directions:
Strengthening of independent regulators to ensure and promote adequate competition,
balancing interests and enhancement in the working of the market.
Improving distribution and opening bulk supply to competition (ie PPP mode) with open access,
long term concessions to private distribution companies; distribution franchisee mode where
ownership of asset remains with the State; defining performance standards for State
distribution companies.
Revising electricity tariffs to reflect economic levels and reducing subsidies and crosssubsidies.
Renewables
As the Economic Survey 2011 set in motion the state of the Indian economy and its prospects
on the one hand, at the same time it acknowledged the apprehension on rising greenhouse gas
("GHG") emissions and the far reaching implications of climate change, particularly at a time
when India was confronted with development imperatives. This Survey reiterates the
Government's resolve in addressing climate change as outlined in its domestic mitigation goal
(ie by reducing emission intensity of the GDP by 20-25 percent of 2005 level by 2020 through
proactive policies). All actions to address climate change would involve significant costs and
the Survey emphasizes the need to mobilize resources from multiple sources to achieve this
objective. The Government had announced a National Action Plan for Climate Change in 2008.
In order to implement these effectively, State Action Plans are likely to be announced soon.
The strategy of the Government for addressing climate change involves:
Diversifying energy fuel mix such as setting up 20,000 MW of solar power generation
capacity by 2022.
Doubling the share of nuclear power in the energy mix over the next decade.
Delivery of a major market-based programme to stimulate energy efficiency.
Levy of clean energy cess on coal for funding R&D of clean energy technologies to
continue and play a key role in future energy strategy.
Aggressively increase use of natural gas in power generation.
Renewable Energy and Climate Change
Renewable energy is central to climate change mitigation efforts. Broad estimates indicate that
mitigation from existing renewable energy portfolio is equivalent to around 4-5 percent of total energy
related emissions in the country. Further, the vast market potential and well-developed industrial,
financing and business infrastructure, has made India a favorable destination for Clean Development
Mechanism ("CDM") projects, with renewable energy projects having the major share. National
renewable energy plans offer ample opportunity for CDM projects and technological innovations.
In October 2010, India had 534 registered CDM projects, which is around 22 percent of worldwide
registered projects. With 347 projects, renewables constitute around 65 percent of Indian CDM
registered projects. Within renewables, wind energy sector has the maximum number of projects with
119 projects, followed by hydro sector with 68 projects and solar energy which has only 3 projects (2
are photovoltaic and 1 is solar thermal). In addition, there was a CDM project pipeline of around
1200 projects, of which around 750 projects were pertaining to the renewable energy sector.
Implementation of first phase of the Jawaharlal Nehru National Solar Mission
One of the eight National Missions outlined in National Action Plan on Climate Change, the
Jawaharlal Nehru National Solar Mission ("JNNSM") specifically focuses on solar energy and its role
in minimizing future emissions. The first phase of the mission was implemented by the Government in
2010-11 by awarding grid solar power projects of 800 MW capacity.
Roll out of Renewable Energy Certificates ("REC") mechanism
The CERC has notified the 'Terms and Conditions for recognition and issuance of Renewable
Energy Certificate for Renewable Energy Generation Regulations' in January 2010 as well as their
first amendment in October 2010.
The REC is a market-based instrument to promote renewable energy and facilitate Renewable
Purchase Obligations ("RPOs"). It can make the renewable electricity market stable and predictable
by maximizing the benefits of renewable generation while reducing costs. It could also be used by
those States that do not have substantial renewable energy resources to meet their RPOs. The
CERC and SERCs have created the necessary regulatory and institutional framework and rolled out
the scheme from November 2010. The REC mechanism sets the way forward for encouraging
competition and eventually mainstreaming renewable energy.
Regulations for tariff determination for renewable energy sources
The CERC amended the Terms and Conditions for Tariff Determination from Renewable Energy
Sources Regulations 2010 for increasing the visibility of the generic tariff determined for solar
photovoltaic ("PV") and solar thermal projects. The capital cost and other norms applicable for the
year 2010-11 shall also apply for solar PV projects during the year 2011-12; for solar thermal
projects during the years 2011-12 and 2012-13, if the power purchase agreements in respect of the
solar PV and solar thermal projects are signed on or before March 31, 2011, and the entire capacity
covered by the power purchase agreements is commissioned on or before March 31, 2012 in respect
of solar PV projects and on or before March 31, 2013 in respect of solar thermal projects.
BMR comments
The policy announcements and tax proposals carry limited impact for the energy sector.
Many of the reform initiatives, especially those relating to regulations and tariffs, are hoped to be
addressed outside of the budgetary process. The de-control of diesel prices is critical given the
inadequate budgetary support of INR 230 billion; budgetary support of INR 350 was required in
2010-11. The upward movement in crude prices in the past months will necessitate an increase in
the support unless de-control is rapidly announced and implemented.
Whilst announcing the roll forward of the tax holiday for power by just a year and the denial of such
tax holiday to production sharing contracts signed after March 2011, the Government has clearly
indicated the migration by 2012 to the framework of the draft Direct Taxes Code. Certainly, in view of
the significant life cycle in the development and delivery of energy projects, the contours of the draft
Direct Taxes Code assume greater significant as these set the fiscal framework which will impact the
material life of the energy projects and investments therein. Fiscal stability is critical.
The budget proposals are accompanied by a statement of revenue foregone. This statement reflects
an analysis that in 2009-10 the projected revenue foregone was nearly INR 730 billion, of which the
amount attributed to power sector was approximately INR 75 billion and oil and gas tax holiday was
INR 10 billion. In 2010-11, the estimate is approximately INR 90 billion and INR 13 billion respectively
of the total projected revenue foregone of INR 880 billion. Thus, the revenue foregone projection
reflect that the high risk and high capital intensive energy industry consumes just about 10 percent of
the tax relief, whilst the national oil companies carry the majority burden of petroleum subsidies
aggregating nearly INR 370 billion.
The road map for tax reforms, whilst providing sunset for tax holidays, needs to equally remove the
subsidy burden for the industry.
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