Windfall Tax

Windfall Tax Introduction

The government has imposed a windfall tax on domestic oil producers. Oil producers have recorded steep revenues in recent months amid record-high international crude oil prices. Tarun Bajaj, Revenue Secretary, has said that the windfall tax will be re-evaluated on a fortnight basis, based on foreign currency rates and international oil prices. The windfall tax is set to increase the government’s earnings and will set off its burden of excise duty cuts on fuel. While the name ‘Windfall’ is pretty cool for a tax regime, the ethicality of the same has been debated amongst experts for years. Let’s understand what is windfall tax and how it works.

Why did Government impose Windfall Tax?

Windfall tax is levied on windfall profits – the profits that a company makes from something that they are not responsible for. Domestic oil producers and refiners earned huge from the crude oil selling at a record USD 114 per barrel in the international market when the Ukraine-Russia war broke out this year. Currently, the three Indian upstream oil companies — ONGC, Oil India and GAIL have all declared an all-time high net profit in the FY 2021-22. ONGC announced a net profit of 258% higher than the preceding year, to reach INR 40,306 crore; Oil India 123% higher profit, with a net profit of INR 3,887 crore; and GAIL has reported a 112% higher profit, with a net profit of INR 10,364 crores. This surge in profit occurred because crude oil and gas prices shot up following the Russia-Ukraine conflict. Domestic crude oil producers were selling oil to domestic refinery companies at international prices when the fuel costs were rising, thus, they were making huge gains. Meanwhile, Indian refiners were also making profits by importing discounted crude oil from Russia and selling them outside the country. The domestic refiners earned far more by selling their oil overseas where they fetched better prices than selling in the domestic markets. Therefore, the government has now slapped a charge of INR 23,250 per tonne on crude oil as a windfall tax. An export tax of INR 6 per litre tax on petrol and ATF and INR 13 per litre on diesel has also been introduced. Therefore, the move will also ensure that the fuel companies prioritise the domestic market over the international market.

How will the Windfall tax help the Government?

After the beginning of the Ukraine-Russia war, the cost of fuel had hit record highs. The cascading impact pushed up the prices of food and other daily needs and thereby, triggering high inflation. Therefore, on May 23, the Government announced an excise duty cut of INR 8 and INR 6 per litre on petrol and diesel respectively. Nirmala Sitharaman, Union Finance Minister, had then announced that the relief for the public will affect the tax revenue of about INR 1 lakh crore per year. To compensate for this hit in its revenue, due to the cut in Central Excise Duty, the Government has introduced a windfall tax, a smart way to handle the situation. According to estimates, the export tax on fuel and the windfall tax will help the government raise INR 52,000 crore for the remaining nine months of this financial year. Thus, the windfall tax will give the government more room to spend on critical sectors and also help to close India’s current account gap. The move may also, in turn, reduce domestic prices, if the benefits of cheaper oil from Russia are passed on to domestic customers.
Which other countries have imposed Windfall tax?
Italy and the United Kingdom are the two other major economies that have levied windfall taxes. Early in May, Italy announced that it will tax the profits of energy companies at 25% to fund the support package for the consumers and businesses hit by the soaring energy costs. Meanwhile, on May 26, the United Kingdom also announced a new tax, increasing the tax rate to 65% from 40% for the oil and gas companies. This tax would apply only to profits arising on or after May 26, 2022. The UK Government has also announced that the same is temporary and will be phased out when prices return to normal levels.

Are Windfall Taxes ethical?

While windfall tax is an economically efficient way to tax companies who have struck gold, it has been despised by the industry. Such taxes have always been a contentious issue between the shareholders of the companies and the rest of society. The proceeds of windfall taxes are directly used by the governments to fund social programs. This is the biggest benefit of the windfall tax. While windfall profits encourage the companies to lower prices for the benefit of society, it also reduces the investment of such companies. Experts claim that they reduce corporate initiatives to seek out profits. Profits are expected to be reinvested by companies to promote innovation which can in turn benefit society over the long term. Windfall taxes are also unfair to companies who have made investment decisions based on the existing tax system and then are retrospectively expected to pay up more, bringing uncertainty that discourages investment. Businesses often run into losses in some years, and profits in others, because of business decisions and economic conditions. Therefore, taxing the profitable years is considered unfair to the investors.

Why do only Energy Companies face Windfall taxes?

Energy companies are paying windfall taxes due to their war-fueled profits in many countries. But what about tech firms like Apple and Amazon who benefited massively from pandemic-induced lockdowns? Amazon, the e-commerce behemoth, experienced an increase of more than 80% in 2020 when lockdowns closed the brick and mortar shops. Apple also benefited from the record sales during the pandemic as people used its devices and services during the pandemic. The companies experienced unusual economic success while the Government incurred large costs to support society. Vaccine makers like Pfizer and BioNTech and also medical equipment producers also made enormous profits during the pandemic. However, Governments around the world have usually chosen energy companies to pay the windfall taxes, probably because their profits are more tangible and visible to the public than the profits made by the others.