1

SYNDICATE REPORT

Submitted to : Submitted By:

Shri [Link] Archana Gupta
ADG-I,NADT Drop S. Meena
Jyoti Shah
Kali Charan
Mayank MIshra
Mohan Lal
Ravikant K.C.
Acknowledgement
 2

We would like to express our deep gratitude to Shri N.

Shankaran, ADG-I, NADT Nagpur, who is our Counsellor for
his kind guidance and supervision in preparation of the
Syndicate Report.

We also express our heartfelt thanks to our Course Director,

Shri Rahul Navin, for his help in selection of the topic.

We would be failing in our duty if we do not acknowledge the

efforts and help of Shri [Link] CIT-I Nagpur, Shri R.K.
Sharma CIT Dehradun, Shri A.M.K. Mahadevan ACIT, HQ of
CIT-VI Mumbai, Shri Madhoop Shah, Deputy Manager
GGCL, Surat, for the successful completion of the report.
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CONTENTS

Chapter No. Name of Chapter Page No.

1. OVERVIEW OF THE 4 – 19
PETROLEUM AND
NATURAL GAS
INDUSTRY AND
SOURCES OF INCOME

2. TRADE PRACTICES 20-24

3. INVESTIGATION 25-30
TECHNIQUES

4. TAX PROVISIONS 32- 43

5. TAXATION ISSUES AND 44- 53
CASE-LAWS

6. EXECUTIVE SUMMARY 54-55

ACRONYMS 56
REFERENCES 57
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CHAPTER-I

OVERVIEW OF THE PETROLEUM AND NATURAL GAS INDUSTRY

 5

INDUSTRY OVERVIEW:
Oil exploration in India dates back to 1867 when oil was discovered at Makum in Assam.
However, exploration and production (E&P) took a systematic start only after the Assam
Oil Company (AOC) was formed. At the time of Independence, India’s domestic oil
production was just 250,000 tonnes per annum. Under its Industrial Policy Resolution of
1954, the Government announced that petroleum sector was given a great deal of
emphasis and was declared as a “core sector” in the country. Petroleum Exploration got
fillip only after the Oil and Natural Gas Commission (ONGC), was established in 1955.

In fact the Oil India Limited (OIL), was also set up in the same year. The two public
sector companies, ONGC and OIL are credited with large number of discoveries. The
discovery of the vast Bombay High in the western coast offshore was the most important
episode in India’s upstream petroleum sector.

Post-1991 marked liberalization in the Exploration and Government invited private

participants / companies, both foreign and Indian, to participate in the exploration of oil
and gas. Under the Petroleum Sector Reforms (PSR), the fourth, fifth, sixth, seventh and
eighth rounds of exploration bidding were announced between 1991 and 1994. For the
first time Indian companies with or without previous experience in E&P activities were
permitted to bid. In 1995 the Government announced the Joint Venture Exploration
Programme. The exploration blocks were located in those areas for which the Petroleum
Exploration Licence was with the National Oil Companies (NOCs) and these companies
were required to have a 25-40 per cent participating interest from day one. ( Source-IBEF
report)

INSTITUTIONAL STRUCTURE

Overview of the Institutional Structure and leading companies

The institutional structure of the oil and gas sector in India is given overleaf. The
Ministry of Petroleum and Natural Gas, is the primary agency for regulating this sector in
India. It is entrusted with the responsibility of handling legislation and issues related to
E&P of oil and natural gas, such as, refining, distribution and marketing; and the import,
export, and conservation of petroleum products and Liquefied Natural Gas (LNG). There
are several leading Public Sector Undertakings (PSUs) and private players across the
value chain.
 In d u s try s tru c ture 6

Indust ry St ruct ure

Expl orat i on &Product ion Nat ural G as &Pi p

e l ines Ref i ni ng & Market ing

Ref i ni ng & Market ing

Publ i c Sector G as ofDi sPetroleum
Ministry t ri bution Publ i c s ector
• O NG C • G AI L
and Natural Gas . O NG C
• O IL Downstream: Refining • IO CL
Up stream & Marketing Industry Bodies &• Hothers
PCL
HPCL(LNG Hindustan Director General
• BPCL of
ONGC
Pri vat e SectorOverseas • Proj ects ( Sh
Petroleum) el Hydrocarbon • IBP $
OVL(ONGC
( Rel i ance, Pet ronet LNG, Oil Industry • MR Safety
PL***
E&P arm) IOCL(BG , IO
Indian Cet .c)
Oil) Directorate
HOEC, Shell , BPCL ( Bharat Petrolen • NRL**
Conservation
BG, Cai rnet c. )
Oil India Limited Petroleum) • CPCL*
Research Association
Mangalore,
Pi pel i nesChennai • BRPL $
Petro, Bongaigon, Kochi,
• IO CL Petroleum Planning• K RLand#
GSPC Numaligarh refineries etc Analysis cell
• BPCL
• H PCL Pri
Petroleum and Natural
Excl
• R vat
el i ieveSecR
usGas
ance t or
efi ners
GAIL GAIL Regulatory Board
• Pet ronet I nd
ia Publ i c s ecti or
• Es sar
Private player: RIL, BG,
• G AI L CPCL*l @
• Shel
NIKO, AWL etc RIL Petro Fed
CGD companies: MGL, • K RL**
  IGL, GGCL etc • BRPL *
Engineers India Ltd.
• NRL**

ECONOMY OVERVIEW:

The Petroleum and Natural Gas sector plays a significant role in our country’s economic
growth. Our energy basket consists of oil, gas, coal, hydroelectric, nuclear, and
renewable (solar, wind and biomass). P share in the energy basket amounts to
approximately 38 % thereby making it occupy a major share therein. India is the Sixth
largest crude consumer in the world and the ninth largest crude importer. Our country
has the sixth largest refining capacity - 2.56 million barrels per day representing 2.99% of
world capacity.

India is the Fifth largest energy consumer in the world with the Primary Energy
Consumption being approximately 387.3 MMTOE. To this primary energy consumption,
Oil and gas accounts for 44%. The table below manifests the consumption for financial
years 2008-09 and 2009-10.
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Year Consumption (in MMT)

2008-09 133.599
2009-10 138.196

In terms of GDP, PNG is sized at USD 110 bn which turns out to be 15%. This sector
Contributes to about 64% of gross revenues of Government (both Central and State
together) through Taxes and Duties. A comparative analysis of the central and state taxes
for financial years 2008-09 and 2009-10 is given below

2008-09 2009-10

State Tax
State
42% Central
Taxes 39%
Tax
61%
58% Centr
al
Taxes

DEMAND –SUPPLY BALANCE OVER FINANCIAL YEAR

08-11: ( Source-KPMG—The Oil and Gas Sector Overview in India 2009)

Stagnating crude-oil production and the rapid growth have served to increase the
demand-supply mismatch for crude oil and gas in India (the gas shortage is likely to be
 8

mitigated to some extent through RIL‘s KG basin gas production). This growth in
demand is likely to be sustained over-time, creating an ever-increasing need for inputs.
Similarly, the natural gas demand in the country has far outstripped its supply in the past,
with shortfalls before RIL’s production estimated at close to 100 mmscmd. This in turn
resulted in inadequate or sub-optimal use of infrastructure: both gas based power plants
and fertiliser units were allowed to remain idle, or forced to operate using expensive
liquid fuels, such as naptha, resulting in a higher subsidy burden on the Government.

Demand-Supply Imbalance FY09 FY10

(MMSCMD)

Demand 196.4 221.9

Total Projected Supply ~153.6 ~245
Over/ under supply ~43 ~22

ACTIVITY

DOWNSTREAM
UPSTREAM
(REFINING OF CRUDE OIL INTO
(EXPLORATION AND PRODUCTION VARIOUS PRODUCTS AND
OF CRUDE OIL AND GAS ) MARKETING OF THESE PRODUCTS)

UPSTREAM:

It refers to exploration and production (E&P) of crude oil and gas by undertaking
geological / geophysical surveys on water and land. Crude oil / gas is produced both on
off / on shore areas. Off shore refers to E&P under water whereas On shore refers to E&P
on [Link] 20% of total demand met through indigenous production
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The development of the Indian petroleum industry began on a very slow note. It started
mainly in the north eastern part of India especially in the place called Digboi in the state
of Assam. Until the 1970's, the production of petroleum and the exploration of new
locations for extraction of petroleum were mainly restricted to the north eastern state in
India.

Prior to NELP, the Exploration activity was dominated by public sector units like ONGC,
OIL. The discovery of the Mumbai High fields provided a major fillip to the industry and
even toady continues to be the bulwark of production. NELP was introduced with the
purpose of getting the participation of private players into the sector.

16 Blocks already awarded with production potential of 25

MMSCMD under Coal Bed Methane (CBM) I & II rounds
Significant commercial finds in blocks held by RIL and ONGC
First commercial production of CBM by 2007-08
54 Bids received for 10 CBM blocks offered in the third round
Award of blocks in near future

NELP rounds have been conducted. The increased exploration speaks of the
success of the NELP rounds. The proportion of unexplored acreages has
significantly dropped from 40 % to 15% as per the Directorate of Hydrocarbons.

Some major discoveries in the KG basin and Mahanadi Fields and oil discovered
in Barmer will certainly be giving a boost to the oil and natural gas sector and
address the energy security issue.

The following table illustrates the increased interest in the bidding process has
received in the recent past which is symbolic of the significance of the sector.

NELP-I NEPL-VI NELP-VII

No. of blocks 48 55 57
offered
No. of blocks bid 28 52 45
for
Total no. of bids 45 185 181
received o
No. of blocks 25 52 44
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awarded

Pricing Regime in India:

PRICING

ADMINISTERED NON-
PRICE ADMINISTERED
MECHANISM(APM) PRICE MECHANISM

APM – (ADMINISTERED PRICE MECHANISM):

APM was introduced in 1974. In this price mechanism, central govt. plays key role in
determining prices by operating industry pool accounts.
 for upstream – reimbursement of operating cost plus 15% post tax return
on capital employed for indigenous crude production

 for downstream- reimbursement of operating cost plus 12% post tax return
on net worth and weighted cost of borrowings

“Although Government has dismantled the APM, it continues to set the end-consumer
prices of fuel sold at retail pumps, and upstream companies such as ONGC and OIL are
asked partially bear the burden of the under-recoveries of the Oil Marketing Companies.
In case of NELP blocks, the PSC provides for marketing freedom for the contractor;
however, the recently announced allocation policy hampers this to some extent. In fact
gas from PMT (Panna Mukta Tapti)-consortium of ONGC, BG-RIL and from domestic
Joint Venture is sold at non-APM prices.
Post-2002, Private sector has been allowed to participate in the retailing of fuel. Due to
indirect control of the Government over end-user fuel prices, the fuel retail market
continues to be dominated by PSU firms. Private players have not been able to sustain.” (
Source-KPMG—The Oil and Gas Sector Overview in India 2009)

Refining:
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India has certainly come a long way in the Refining Sector since commissioning of the
Mumbai Refinery of HPCL.. RPL’s refinery at Jamnagar is export oriented and India’s
strategic location , close to the oil rich Middle East Countries provides our country the
added advantage. Our country is aiming to emerge as a refining hub given the fact that
India is surplus in refining capacity.

Gas Transportation & Distribution:

Presently, the transmission and distribution component of the natural gas sector is under-
developed. Besides the HVJ ( Hazira Vijaipur Jagdishpur) pipeline, GAIL and private
sector have constructed pipelines for gas transportation. Several Trans-National pipeline
projects are also under consideration, including Iran-Pakistan-India Gas Pipeline Project,
Turkmenistan-Afghanistan-Pakistan-India Pipeline Project, Myanmar-India pipeline.
With increase in gas transmission and distribution through pipelines which is an
environment –friendly venture, the City Gas Distribution (CGD) players will get a boost.
The establishment of the Petroleum and Natural Gas Regulatory Board (PNGRB) will
further enhance the development of the sector. There is certainly opportunity for the
growth of this sector in the wake of development of RIL’s KG Basin.

Government regulations have evolved over time in tune with

domestic compulsions and international hydrocarbon scenario….
Implementation and award of NELP blocks
CBM policy
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KEY BODIES UNDER THE MINISTRY OF PETROLEUM

AND NATURAL GAS
Ministry has a range of other organizations working under its umbrella. These include

DIRECTORATE GENERAL OF HYDROCARBONS (DGH):

The directorate reviews exploration programmes of companies, development plans of
commercial discoveries and advises the Government on their adequacy. It also advises
the Government, on offering of acreage for exploration to companies and on issues
related to exploration and optimum exploitation

OIL INDUSTRY DEVELOPMENT BOARD (OIDB)

This Board was formed under the Oil Industry (Development) Act, 1974, to render
financial and other assistance and funding of research and development programmes for
sustainable development of the oil industry.

PETROLEUM CONSERVATION RESEARCH ASSOCIATION (PCRA)

It was set up in 1976 as a part of the Government’s response to the oil crisis of early
seventies, to undertake studies to identify the oil potential and to make recommendations
for achieving conservation of petroleum products in the economy. It sponsors R&D
activities, for the development of fuel-efficient equipment/devices and organises multi-
media campaigns, for creating mass awareness for the conservation.

PETROLEUM PLANNING AND ANALYSIS CELL (PPAC)

This cell was set up subsequent to the dismantling of the Administered Pricing
Mechanism (APM) in the petroleum

PETROLEUM FEDERATION OF INDIA (Petrofed)

PetroFed was registered in 2002, under the Societies Registration Act of 1860, to
coordinate with governments, regulatory agencies and other representative bodies in the
petroleum industry, work for global competitiveness of the petroleum industry optimise
resources promote safety, healthy environment and energy conservation and coordinate
with oil marketing companies, for ensuring compliance of ‘Good Business Practices’.
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PETROLEUM AND NATURAL GAS REGULATORY BOARD (PNGRB)

The Government has enacted the Petroleum & Natural Gas Regulatory Board Act,
2006(PNGRB Act, 2006). This Act set up a Petroleum & Natural Gas Regulatory Board,
with a objective to regulate the refining, processing, storage, transportation distribution,
marketing and sale of petroleum, petroleum products and natural gas excluding
production of crude oil and natural gas. It would to protect the interests of consumers
and entities engaged in specified activities relating to petroleum, petroleum products and
natural gas and to ensure uninterrupted and adequate supply of petroleum, petroleum
products and natural gas in all parts of the country and to promote competitive markets,
and for matters, and for matters connected therewith or incidental thereto.

GAS LINKAGE COMMITTEE

The Gas Linkage Committee (GLC), was established to manage the allocation of gas to
eligible customers. This was linked with the administered price mechanism, which
depressed domestic gas prices for certain sectors. However, new fields under the National
NELP, are already exempt from the purview of the GLC and can trade at market prices

INVESTMENT OPPORTUNITIES AND POTENTIAL

OPPORTUNITIES IN THE OIL SECTOR

Investments under NELP

Though, the recent rounds of NELP bidding are still dominated by public sector, the
Government is keen on greater foreign participation under NELP process. DGH has
indicated that 34 blocks, including those in unexplored states, will be made available in
NELP-IX

Destination India as refining hub

By 2010, the expected worldwide deficit in refining capacity will be around 112 MTPA,
because of the shutting down of some of the smaller refineries in developed economies.
Smaller refineries in North America and Europe are finding it uneconomical to invest in
cleaner fuels because of high compliance cost and cleaner fuel norms. In Japan and
Australia, oil majors have rationalised their refining assets because they are becoming
uneconomical to operate

Increased investment in fuel quality up gradations

Prompted by stringent fuel specifications in the developing countries and the domestic
“Auto Fuel Policy” which mandate Euro IV norms by 2010, significant investments have
been planned for upgrading existing refineries. IOC has planned investments of US$ 1.5
 14

billion towards upgradation of its Gujarat refinery, US$ 3.5 billion for installation of a
naphtha unit at its Panipat plant and US$ 750 million for its Haldia refinery. HPCL and
BPCL have planned similar investments for their Vishakhapatnam and Mumbai
refineries, respectively. This quality upgradation calls for adopting state-of-the-art
technology, requiring huge investments of the order of US$ 2.5 billion by way of
providing reformulated gasoline producing units, hydrocrackers, hydro-treaters,
hydrodesulphurisers, etc.

Building strategic petroleum reserve through public-private partnership

The Government has decided to set up strategic crude oil storage reserves at various
locations in the country, to provide an emergency response mechanism to mitigate any
short-term supply disruptions. Additionally, the Government is also exploring the
possibility of increasing the oil stockpile in the country through, various innovative
schemes, such as, leasing of storage space to international oil trading companies and
building of additional storage terminals through the concessions route.

Acquisition of overseas oil assets

The Ministry of Petroleum and Natural Gas has conceived a more coordinated approach
towards acquisition of overseas oil assets, through joint forays and bilateral engagements
with other countries, in order to benefit from each other’s strengths in areas of technology
transfers, R&D, safety and training and also through multilateral engagements such as,
the Asian Round Tables, International Energy Forum etc. Recently, India has signed a
Memorandum of Understanding with China, for joint bidding

OPPORTUNITIES IN THE GAS SECTOR

Domestic exploration of NG
The Government sees significant potential in domestic exploration as an option for
matching supply with demand. On an average, reserves of more than 70 BCM a year
have been discovered over the past decade. NELP provides significant benefits to private
players in terms of allowing 100 per cent FDI, a seven-year tax holiday, free marketing
rights in the domestic market etc. NELP IX is going to be announced, opening up a new
set of opportunities for investors.
After the formation of National Gas Hydrate Programme, gas hydrate exploration has
also received considerable impetus in India.

Liquified Natural Gas (LNG)

LNG is the best available option to bridge the demand supply gap. Operational LNG port
at Hazira, Shell and Dhej, PLL is live example of robust growth in this sector. Given the
shortages in domestic gas and uncertainties related to international pipelines, LNG is
 15

expected to get a boost. However, the lack of a cross-country gas pipeline to enable
transmission, the emphasis on coal as the preferred fuel for Ultra Mega Power Plants and
the gradual emergence of CBM make it difficult for LNG to compete at present.
However, in the long-term, with demand soaring even higher, LNG is likely to be one of
the most significant areas of investment in the NG sector. The most attractive areas for
investment will be those, where pipeline gas is not expected in the near future.

CBM and Underground Coal Gasification Opportunities

Government of India has awarded 7 CBM Blocks under fourth round of CBM bidding.
With proven reserves of 765 MTOE and indicated reserves of between 1,260-2,340
MTOE, CBM is expected to be a large opportunity. A related exciting technology is that
of Underground Coal Gasification (UGC), which is already being exploited in Russia, at
a small level. Given India’s large coal reserve, the UGC technology could potentially
produce volumes of multiples of India’s free

Natural Gas hydrates

Natural Gas Hydrates are a combination of gas and water in solid phase at low
temperatures. These hydrates are a potential source of natural gas. Among the locations
showing evidence of in-situhydrates, the most probable occurrence is in Indian Ocean
region. Studies are being undertaken in the Indian Ocean region to establish the potential
natural gas hydrates. Natural gas hydrates constitute a promising area, where
opportunities exist for companies to participate in exploiting this potential source of
energy.

Shale Gas
Preliminary estimates show India’s shale-gas reserves may be larger than its proven
conventional gas deposits. India plans to have a shale gas policy in place by the end of
2011, and is currently working on a resource assessment of its basins and drafting a fiscal
policy for shale gas exploration

HYDROCARBON VISION 2025

A ministerial group, set up by the Prime Minister, to give focus on a long-term energy
security for India has developed the following vision, for the next 25 years:
• To assure energy security by achieving self-reliance through, increased
indigenous production and investment in equity oil abroad
• To enhance the quality of life, by progressively improving product standards to
ensure a cleaner and greener India
• To develop hydrocarbon sector as a globally competitive industry, which can be
benchmarked against the best in the world, through technology up gradation and capacity
 16

building in all facets of the industry

• To have a free market and promote healthy competition among players and
customer service
To ensure oil security for the country, keeping in view strategic and defence
considerations
The hydrocarbon vision has been converted into prioritised action agenda for medium
and long term implementation in the medium and long term. In brief the main thrust of
the activities would be:
• Focus on oil security, through intensification of exploration efforts and
achievement of 100 per cent coverage of unexplored basins in a time bound manner to
enhance the domestic availability of oil and gas
• Secure acreages in identified countries having high attractiveness for ensuring, the
sustainable long-term supplies
• Pursue projects to meet the deficit in demand and supply of natural gas and
facilitate availability of LNG
• Maintain adequate levels of self sufficiency in refining (90 per cent of
consumption of middle distillates)
• Establish adequate strategic storage of crude and petroleum products in different
locations. Create additional infrastructure for distribution and marketing, of oil and gas
• Open up the hydrocarbon market, so that there is a free and fair competition
between public sector enterprises, private companies and other international players
• Create a policy framework for cleaner and greener fuels
• Have a rational tariff and pricing policy, which will ensure the consumer getting
the petroleum products at the most reasonable prices and requisite quality, eliminating
adulteration
• Announce a long-term fiscal policy, to attract required
• Restructure the oil sector PSUs, with the objective of enhancing shareholder value
and disinvest in a phased manner, in all oil sector PSUs
• To develop regulatory and legislative framework, for providing oil/gas security
for the country
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Key Players in the Indian Oil and Gas Sector:

 18

                        
                      

                        
                      

All the five Indian companies in the Fortune 500 list are from the oil and gas
industry
 19

Global Players in India:

Presence in both upstream and downstream
Stakeholders in Tapti gas fields and Panna/Mukta oil and gas fields,
Cambay basin block
Interests in city gas distribution through participation in Gujarat Gas
Limited and Mahanagar Gas Limited
Leverages its distribution assets to operate Broadband service,
Iqaraccc
Wholly owned subsidiary TotalFinaElf, a major player in lubricants
market
Another 100% subsidiary ElfGas India Ltd owns and operates LPG
Import Terminal at Mangalore
50% stakeholder in LPG Import terminal at Visakhapatnam

CHAPTER -2

TRADE PRACTICES IN PETROLEUM AND NATURAL GAS INDUSTRY

In the petroleum and natural gas industry in India trade practices is control and monitor
by the centre government, and for this one board is constituted for this name as The
Petroleum and Natural Gas Regulatory Board framed by the act enacted by the
parliament in 2006. An Act to provide for the establishment of Petroleum and Natural
 20

Gas Regulatory Board to regulate the refining, processing, storage, transportation,

distribution, marketing and sale of petroleum petroleum products and natural gas
excluding production of crude oil and natural gas so as to protect the interests of
consumers and entities engaged in specified activities relating to petroleum, petroleum
products and natural gas and to ensure uninterrupted and adequate supply of petroleum,
petroleum products and natural gas in all parts of the country and to promote competitive
markets and for matters connected therewith or incidental .

Function and power of the Board.

 . The Board shall protect the interest of consumers by fostering fair trade and

competition amongst the entities.

 Register entities to market notified petroleum and petroleum products and, subject
to

the contractual obligations of the Central Governmen.

 Establish and operate liquefied natural gas terminals.

 Establish storage facilities for petroleum, petroleum products or natural gas
exceeding such capacity as may be specified by regulations.
 Authorise entities to lay, build, operate or expand a common carrier or contract
carrier.
 Lay, build, operate or expand city or local natural gas distribution network.
 Declare pipelines as common carrier or contract carrier.
 Regulate, by regulations , access to common carrier or contract carrier so as to
ensure fair trade and competition amongst entities and for that purpose specify
pipeline access code.
 Transportation rates for common carrier or contract carrier.
 Access to city or local natural gas distribution network so as to ensure fair trade
and competition amongst entities as per pipeline access code.
 In respect of notified petroleum, petroleum products and natural gas.
 Ensure adequate availability.
 Ensure display of information about the maximum retail prices fixed by the entity
for consumers at retail outlets.
 Monitor prices and take corrective measures to prevent restrictive trade practice
by the entities.
 Secure equitable distribution for petroleum and petroleum products.
 Provide, by regulations, and enforce, retail service obligations for retail outlets
and marketing service obligations for entities.
 Monitor transportation rates and take corrective action to prevent restrictive trade
practice by the entities
 Levy fees and other charges as determined by regulations.
 Maintain a data bank of information on activities relating to petroleum,
petroleum products and natural gas.
 21

 Lay down, by regulations, the technical standards and specifications including

safety standards in activities relating to petroleum, petroleum products and natural
gas, including the construction and operation of pipeline and infrastructure
projects related to downstream petroleum and natural gas sector
 Perform such other functions as may be entrusted to it by the Central
Government to carry out the provisions of this Act.

Powers regarding complaints and resolutions of disputes by theBoard.

 The Board shall have jurisdiction to adjudicate upon and decide any dispute or
matter arising amongst entities or between an entity and any other person on
issues relating to refining, processing, storage, transportation, distribution,
marketing and sale of petroleum, petroleum products and natural gas ,unless the
parties have agreed for arbitration.
 Receive any complaint from any person and conduct any inquiry and
investigation connected with the activities relating to petroleum, petroleum
products and natural gas on contravention of-
 Retail service obligations.
 Marketing service obligations.
 Display of retail price at retail outlets.
 Terms and conditions subject to which a pipeline has been declared as common
carrier or contract carrier or access for other entities was allowed to a city or local
natural gas distribution network, or authorisation has been granted to an entity for
laying, building, expanding or operating a pipeline as common carrier or contract
carrier or authorisation has been granted to an entity for laying, building,
expanding or operating a city or local natural gas distribution network.

Petroleum and Natural Gas Regulatory Board (PNGRB) is one of the central
governments body who control and monitor the petroleum and natural gas, trade.
Petroleum and natural gas price mechanism has been already discuss earlier chapter, but
all other activities of petroleum and natural gas industry is decided by the PNGRB . In
India all price mechanism and licence and allocation of petroleum and natural gas block
is done by the central government, specially price is controlled by the Centre
government, and this sector has to suffer with huge burden of subsidies declare by the
government, which decreased the profit of the sector, which finally result the built the
pressure on resource, and it effect the competitiveness of the industry. In India price has
to be based on market base, or demand base, it may result initially increasing the price,
but it will improve the effectiveness and can face the global challange.

Petro Fed Initiative and Activities.

The rapidly changing dynamics in the global oil & gas sector and its impact on the
companies in the hydrocarbon and allied sectors in India demand constant watch and
evolution of new policies. This necessitates effective coordination with organisations in
the public & private sector for identification of key issues and taking them up with the
 22

Government and other agencies. To cover relevant issues, ongoing committees from
member organisations, have been set up. These committees are:

1. Executive Committee.
2. Search Committee.
3. Budget & Investment Committee.
4. Petroleum Policy & Legislations.
5. Tariffs, Duties & Taxes.
6. Inland Logistics Management.
7. Marine Cooperation.
8. Seminars, Training & Publications.
9. Planning Committee.
10. Guidelines For Retail Outlets.
11. Measures To Curb Adulteration.
12. SKO Marketing.
13. LPG Marketing.
14. Safety, Health & Environment.
15.  Natural Gas / CNG / LNG.
16. Alternative Sources of Energy.

PetroFed has developed several study reports for submission to Government and
assistance of member companies:

 Industry suggestions, to MoP&NG on the Draft Policy for Development of

Natural Gas Pipeline Networks.

 As National Working Committee member, submitted to MoP&NG report on

developing strategy to encourage global E&P technology and oil field service
providers to consider India as a hub. 
 Submitted to MoP&NG and MoF a Report on the Kerosene Distribution and
related subsidy administration and the generation and assessment of options for
improvement of the system.

 Study on opportunities in earning CERs through Clean Development Mechanism

in downstream oil & gas sector.

 Submitted to Government reports on ‘Policy for Natural Gas Pipelines and City
Gas Distribution’.

 Submitted to Government reports on ‘Regulatory Issues on Natural Gas’ arising

out of PNGRB Act 2006.

 Submitted to Government and member companies a study on ‘workforce

sustainability & talent management in the Indian oil & gas upstream industry’
covering the scenario of human resource requirements and availability in the next
 23

decade and actions needed by India to develop such resource for local as well as
global need.

 Submitted to Government a study of ‘macroeconomic impact of high oil prices’

on five selected developing countries which gauges the impact on the Indian
economy in greater detail using inter-linkages between different sectors of the
economy.

 Submitted to Government industry views and report on International practices and

Guidelines for framing Oil Regulations in India.

 PNGRB Industry comments on draft regulations on:

 Fostering Fair Trade and Competition amongst entities by sharing of

infrastructure.
 Registration for establishing Storage Facilities for Petroleum, Petroleum
Products and Natural Gas.
 .Registration for establishing Storage Facilities for Petroleum, Petroleum
Products and Natural Gas.
 Petroleum & Natural Gas Regulatory Board (Levy of Fee and Other Charges)
Regulations, 2007.
 PNGRB (Determination of Petroleum or Petroleum Product Pipeline Tariff)
Regulations, 2009 and (Guiding Principles for Declaring or Authorising
Petroleum & Petroleum Product Pipeline as Common Carrier or Contract
Carrier) Regulations, 2009.
 Submitted to PNGRB inputs on clearances required at Central and State level
to lay, build, operate or expand Petroleum, Petroleum Product Pipelines and
Identification of a Nodal Officer in every state to facilitate the same.
 Circulated Thought Leadership Paper on ‘Need of the Hour: Decontrol Pricing
of Petroleum Products’ in January, 2009.
 Submitted to Government a study of the 'Fiscal Regime for the Petroleum
Sector in the Context of Rising Input Prices, of the Changes Required in the
Sector, and of a Plan of Action to Achieve the Same' to provide inputs to the
Committee on Pricing set-up by Government under Dr. Kirit Parikh.

Environmental Issue’s in Indian Petroleum and Natural Gas Industry:

• In pursuance of the need for reduction of environmental pollution due to

disposition of solid wastes from drilling and workover operations acids from
stimulation of clogged formation corrosion inhibitors, biocides, and other
additives organics and metals from formation radionuclides in some areas, and
other contaminants in cuttings oils from oil-based muds, heavy metal
contaminants, radionuclides in some areas drilling mud reserve pit issue, leaching
 24

of contaminants, pit closur. Air emissions flaring of gases, methane, hydrogen

,sulphide, and nitrogen oxides from combustion. Conditioning of natural
gas,venting of methane during reconditioning of dehydrating medium (glycol)
release of sulfur oxides from incineration of removed hydrogen sulphide.

Chapter-3

INVESTIGATION TECHNIQUES

Techniques of investigation in Income tax proceedings is not codified in nature rather it is

an accumulation of experiences of thousands of officers/officials who have been working
 25

in the field formations . as a matter of fact, techniques of investigation to detect tax

evasion has evolved over a period of time, which are in tune with the latest developments
in field of information technology.
Techniques of investigation are broadly classified into two categories:-

Techniques of
investigation

DURING Non-
ASSESSMENT assessment
PROCEDDINGS proceedings

For the scrutiny assessment main tools of search for Assessing Officer are Return of
Income, Balance Sheet, Profit and Loss Account, Auditor’s Note( Form 3CD) etc.
RETURN OF INCOME:-
Return of income is a primary document. A return of income enables to identify key
pointers to the concealment of income. Return also throws light on various deductions/tax
incentives/ depreciations claimed. On comparison with the return of income filed, it could
be seen that there would unusual change in total turn-over as compared to profits declared
for taxation. There any also be change in the ‘Head of Income’ under which income is
shown in the return of income.

EXPENDITURE BASED INVESTIGATION

This is a common mode of concealment of income. Instances of disproportionate
expenditure claimed by the assessee provide a pointer to the suppression of profits by
inflating expenditure. In order to arrive at this conclusion, one needs to make
comparative analysis of expenditure claimed by the assessee in the immediate preceding
years as well as with other companies. In petroleum companies Scale of operation
involves huge investment as a matter of fact high expense are shown in the profit and loss
accounts to inflate expenses so that profit can be reduced.

NET WORTH BASED

Difference between the ‘assets’ and ‘liability’ is the ‘Net Worth’. Abnormal increase in
the ‘Net Worth’ of an assessee provides key to further detailed investigations.
 26

Soursec of Information for

investigation

Internal Sources External Sources

TEPs ,FIU,CIB,TDS, Newspapers,

ITDMS ,ITD, Market information,
Data Bank, Commercial Tax Department Website,
REIC and SEBI Website,
Board references Ministry of Corporate Affairs Website and
Informants

Investigation of Petroleum Companies

Petroleum companies are generally very big companies with large infrastructure and they
are spread in different places. Therefore it is quite impossible to conduct a search
operation for whole of the company. One will have to be very specific about, what he
wants to look for. Diversion of profits through inflated expenditure to private gain is one
of the issue that requires a deep investigation.
Issues
 Bogus bills/ Accommodation entries to inflate expenses
 Bogus claim of investment in palnt & machinery and diversion
of bank loan/IPO proceeds
 Calim of depreciation on the non-existent fixed assets
 Introduction of bogus share capital- Pre-IPO PLACEMENT
 27

SOURCES OF INFORMATION
- Draft Red Herring Prospectus filed with SEBI
- FINAL Prospectus filed with the RoC.
- Announcements on BSE/NSE- Bulk deal, Annual Report

PHYSICAL VERIFACATION OF FIXED ASSETS ADDITION

Asset addition is a very crucial issue because all petroleum and natural gas companies are
very big companies and each and every asset include hundred of crores of worth. Assets
can be verified by following manner :-
 By way of survey

 By intelligence gathered from market

 On the spot verification

DATA ANALYSIS
 Trend Analysis: 
Operating data for prior years is compared to evaluate current income or expense.
Analysis of trends across years, or across departments, divisions, etc. can be very useful
in detecting possible concealment.  Another useful calculation is the ratio of the current
year to the previous year.  A high ratio indicates a significant change in the totals.
Ratio Analysis:

It is a method that appraises certain income and expense by relating them to other
income or expense. Some ratios may be based on industry average.
Comparison of payroll ratios of similar organisation showed excessive payroll costs.
Investigation revealed that the cashier had been stealing each week and concealing the
theft by overstating payroll totals.
Ratio Analysis is of immense value to understand the reasons behind poor financial
position. Some of the financial ratios which can be used are:

1. Return on total capital employed.

How to calculate

                
Profit before interest and tax
 -------------------------------------------------       x 100
 Share capital + reserves + debentures

Using/interpreting this ratio

 This targets the return on capital. The figure will be set by investor expectations.
Consistent failure to hit the target would indicate that it would be better selling the
company and redeploying its resources elsewhere.
 28

 Comparisons with real interest rates in the market should account for inflation if
resources could be redeployed in different economies.
 If assets have been re-evaluated this may increase capital employed and so
reduce the return ratio.
 This ratio needs to be considered in relation to the goodwill and development
expenditure of accounting policies.

2. Net profit percentage

Identifies the affect of fixed and variable overheads on sales.

How to calculate

Net profit before interest and tax   

   -----------------------------------------------     x 100
          Sales

Using/interpreting this ratio

It requires attention to

 changes in the value of sales.

 changes in the structure of overhead costs. A company that has incurred a move
to newer, more costly premises will feel an adverse affect on net profit % .

3. Turnover Ratios

These ratios measure whether a uses the resources effectively. A company which
manages its funds/stock properly, realizes its debts in time enjoys good capital turnover
ratio. This ratio indicates the efficiency or inefficiency of employment of capital.

II. Inspection of documents and records

1. Study of ROC/RD records

Scrutiny of

a. Memorandum and Articles of Association

b. Prospectus
c. Special resolution
 29

If any of these are not filed the same should be seen in the office to check whether they
were not deliberately filed in an attempt at withholding information.

2. Record maintained by the company:

Detailed scrutiny of

a)                  Board minutes

b)                   General meeting minutes

c)                   Trial Balance and related ledger accounts.

d)                   Transaction in Properties.

e)                  Investments.

f)                    Current Assets, Loans and Advances

g)                   Stock-in trade

h)                  Sundry Debtors

i)                    Capitalisation of Profits

j)                    Miscellaneous Expenditure

k)                  Transactions in which directors are interested

l)                    High value transactions and whether directors are interested

m)                Verification of managerial remuneration, if any paid, with particulars   

referred to in Schedule XIII

n)                  Disclosures as required by Schedule VI ,CARO rules, accounting standards to

ascertain true and fair view of the affairs of the company

o)                   Various secured and unsecured loans granted and availed by the company

p)                   Fixed Deposits analysis regarding compliance of section 58A and rules
framed there under

q)                   Expenditure in foreign currency

r)                   Depreciation
 30

CHAPTER 4

TAX PROVISIONS

DIRECT TAX
India has a federal level tax structure governed by the provisions of the Income
Tax Act, 1961. It has a wide network of treaties with over 90 countries across the
globe to avoid double taxation of income. In wake of economic reforms, the
 31

taxation system has undergone tremendous changes in the past ten years. The tax
rates have been rationalized and compared favorably with many other countries.
Further, over the period of time, the tax laws have also been simplified to
ensure better compliances. The brief overview of India taxation system is outlined
below:

A resident in India is liable to tax on his or her world wide income irrespective of
the source of income. A non resident in India is liable to tax on income received or
deemed to be received in India or any income accruing or arising or deemed to be
accruing or arising in India. Taxation of a person depends upon its legal status (a
person being an individual, firm, company, etc.) and residential status Indian tax
system recognizes an entity level taxation. Loss carry forward permitted upto eight
years, however, depreciation can be carried forward indefinitely No tax on
remittance of profits by foreign companies (project office/branch office to head
office .

NEW EXPLORATION LICENSING POLICY AND TAX PROVISION

A SEVEN YEAR TAX

LEVEL PLAYING FIELD
HOLIDAY FROM THE
TO THE DOMESTIC
DATE OF
PUBLIC SECTOR
COMMENCEMENT OF
COMPANIES, PRIVATE
COMMERCIAL
COMPANIES AND
PRODUCTION
FOREIGN COMPANIES

NELP
1999
DIVIDEND DISTRIBUTION TAX (DDT)
DDT is levied at the rate of 16.995 percent on the amount of dividend declared,
distributed or paid by an Indian company. Dividend from domestic companies is
exempt from tax in the hands of recipient. DDT is payable in addition to regular
 32

corporate income tax.

Dividend from
DOMESTIC
COMPANIES is
exempt from tax in
the hands of
Levied @ 16.995% on RECIPIENT
the divided Is Payable In Addition
declared/distributed To Regular Corporate
Income Tax
/paid by INDIAN
COMPANY

DD
T
FRINGE BENEFIT TAX (FBT)
FBT is payable by an employer on the benefits provided or deemed to have been
provided to the employees. Tax is payable on value of fringe benefit as prescribed
i.e. 5 percent, 20 percent or 100 percent of the costs incurred on such benefits.

TRANSFER PRICING PROVISIONS

Transfer pricing provisions were introduced in the financial year 2001-02. Under
these provisions, international transactions between associated enterprises are
required to be computed with regard to their Arm’s Length [Link] domestic law
prescribes the information and documents which are required to be maintained by
every person who has entered into an international transaction with its associated
enterprises.

MAT
MAT is applicable to a company, if tax payable by the company on its total
income, as computed under the normal provisions, is less than 10% of its book
[Link] to the MAT regime, a company may be required to pay tax even during
tax holiday [Link] computing ‘book profits’ for MAT purposes, certain positive
and negative adjustment are made to the net profit as shown in the books of
[Link] forward and set off of MAT is available for seven subsequent years.
 33

Set off is allowed to the extent of difference between tax on total income under
normal provisions and MAT payable.
MAT IS APPLICABLE IF
TAX PAYABLE < 10 % OF
BOOK PROFIT

CERTAIN POSITIVE AND NEGATIVE ADJUSTMENT ARE MADE

TO THE NET PROFIT AS SHOWN IN THE BOOKS OF ACCOUNT

CARRY FORWARD AND SET OFF OF MAT IS AVAILABLE FOR

SEVEN SUBSEQUENT YEARS.

SET OFF ALLOWABLE =

TAX ON TOTAL INCOME - MAT PAYABLE
 34

DEDUCTIBILITY OF SITE RESTORATION EXPENSES SECTION

33ABA
AMOUNT OF
DEDUCTION BEING
LOWER OF:-

Sum
deposited 20% OF THE
either in PROFIT
special CALCULATED
account or in IN
‘site PRESCRIBED
restoration MANNER
A/C’

DIVIDEND DISTRIBUTION TAX(DDT) 115 O

Dividend from
DOMESTIC
COMPANIES is
exempt from tax in
the hands of
Levied @ 16.995% on RECIPIENT
the divided Is Payable In Addition
declared/distributed To Regular Corporate
Income Tax
/paid by INDIAN
COMPANY

DD
T
 35

FRINGE BENEFIT TAX (FBT) CHAPTER XII- H

incurred on such benefits

20%/100 % of the costs

FBT
TAX PAYABLE = 5% /
THE EMPLOYEES
THE BENEFITS PROVIDED TO
PAYABLE BY EMPLOYER ON

PRODUCTION SHARING CONTRACT (PSC)

There is a special mechanism for taxation of income of companies which have

entered into Production Sharing Contract (PSC) with the Government of India for
undertaking exploration and production activities. As per these provisions, taxable
profits of a tax payer, who has entered into a PSC with the Government for
participation in the business of prospecting, exploration or production of mineral
 36

oil, to be determined in accordance with the special provisions contained in the

PSC. The provisions of the domestic tax law are deemed to be modified to that
extent.

PROSPECTING

PSC
Production of
EXPLORATION
Mineral Oil

ALLOWABILITY OF EXPENDITURE
i. Special deduction - 100 percent of exploration and drilling
expenses (both capital and revenue allowed)
ii. Other expenses (including production expenditure) allowed
under normal provisions.
 37

Manner of deduction
Allowable expenditure is aggregated till the commencement of commercial
Production. Accumulated expenditure allowed in the year of commencement of
commercial production or permitted to be amortized over a period of 10 years.

TAXABLE PROFIT OF PSC

Allowances to PSC

ALLOWANCES
ACCORDANCE WITH
SPECIFIC
THE SPECIAL
ALLOWANCES
PROVISIONS
CONTAINED IN PSC

EXPENDITURE
EXPENDITURE BY OCCURRED ON
WAY OF ABORTIVE EXPLORATION/DRIL
EXPLORATION LING/SERVICES/ASS
ETS USED FOR
THESE ACTIVITIES
 38

Profits and gains of business of a PSC =

(V + G) – D

V = the value, determined and revenue realised on sale of

Petroleum according to contract
G = any other gains or receipts from Petroleum Operations
D = Deductions of the following expenditures in lieu of
(and not in addition to) corresponding allowances provided :-
a)all expenditure incurred in respect of Exploration
Operations
b) all expenditure incurred in respect of drilling
operations

DIRECT TAX CODE

 39

Deduction of Head office Expenditure Sec 44 C

 in the case of a PSC Participant, being a non-resident, the deduction of head
office
 expenditure shall be limited to
I. 5 % of the adjusted total income,
II. or so much of the expenditure in the nature of head office
expenditure incurred by him as is attributable to the
business carried on in India whichever is lower.

Depreciation Sec 32
Any capital expenditure, other than those qualifying for 100 % allowance in the
nature of buildings, machinery, plant or furniture owned by the PSC Participant
and used for the Petroleum Operations, shall be eligible for depreciation allowance
 40

on the written down value of the block of assets in accordance with section 32 of
the Income-Tax Act, 1961

Investment-linked tax incentives Sec 35 AD

Where a deduction
Laying and
under this section
Incentivise operating cross
is allowed in If a choice is given
businesses by country natural gas
respect of the between deduction
providing or crude or
specified business under Section
investment-linked petroleum oil
for any assessment 35AD and the one
tax exemption, pipeline network
year no deduction under Chapter VIA,
which will be for distribution,
under chapter VI many corporate
offered to including storage
will be allowed for houses will prefer
businesses facilities being an
the same or any the latter.
involved in integral part of
other assessment
such network
year

NO RING FENCING OF EXPENDITURE

All unsuccessful exploration costs in other contract area can be set off against
income in the contract area in which commercial production has commenced.
10% OF THE GROSS RECEIPTS DEEMED
TO BE BUSINESS INCOME . MECHANICS
ABOVE WILL RESULT IN TAX RATE OF
4.23% OF GROSS REVENUES (FIN YEAR
2009-10)
NON RESIDENT SERVICE PROVIDERS
ENGAGED IN THE BUSINESS OF
PROVIDING SERVICES OR FACILITIES OR APPLICABILITY
SUPPLYING PLANT AND MACHINERY ON
HIRE IN CONNECTION WITH
PROSPECTING FOR , OR EXPLORATION,
OR PRODUCTION OF, MINERAL OILS.
TAXATION OF SERVICE PROVIDERS Sec 44 BB
41
 42

CHAPTER-5

TAXATION ISSUES AND CASE-LAWS

 43

This report summarizes important court decisions relevant for the petroleum and gas
industry.

CASES IN FAVOUR OF THE DEPARTMENT

1. Gujarat State Petroleum Corporation Ltd (308 ITR 248) (Ahm)

Facts of the Case in Brief

a. The assessee, an oil and gas exploration company was liable to pay tax on book
profits computed under section 115JA.
b. Section 115JA creates a legal fiction by deeming 30 percent of the book profits to
be its total income on which tax is levied.

Issues and Decision

The assessee claimed deduction under section 42 while computing the book profits.
Section 42 is applicable in computing profit of the business of prospecting for or
extraction or production of mineral oil and allows expenses by way of infructuous or
abortive exploration etc.

The AO’s stand- He disallowed the claim under section 42 on the ground that section
115JA did not provide for such a deduction.

The assessee contented that since section 42 was a special provision for deduction in the
case of business for prospecting or for extraction of mineral oil, the fiction created had to
be given effect to and the fiction enacted under section 115JA would not operate on the
basic principle that there could be no fiction on fiction.

The Hon’ble ITAT’s stand-

a. The ITAT observed that there was no doubt that a legal fiction had been created
in section 42, but it was relevant only for the purpose of computation of income
under the head “profits and gains from business or profession”. If such fiction was
extended into section 115JA, then the purpose of introducing Minimum
Alternative Tax under section 115JA would be defeated.
b. It held that the two fictions had to exist harmoniously and one should not destroy
the other.
 44

Accordingly, the Hon’ble ITAT decided the issue against the assessee and held that
section 42 cannot override section 115JA.

Conclusion

Section 42 does not override section 115JA: Deduction under section 42 is not available
for computing book profits under section 115JA.

2. Saipem SPA vs CIT (27 SOT 531) (Delhi)

Facts of the Case in Brief

a. The assessee, an Italian company, was engaged in drilling operations for

extraction of mineral oils in India.
b. Saipem SPA offered to tax its income applying the presumptive rate of tax of 10
per cent under section 44B on the gross receipts less subcontractor payments and
employee salary.

Issues and Decision

The AO’s stand- He allowed the claim of the assessee but the CIT revised the order of the
AO under section 263 and directed him to reassess the income without allowing the
deductions claimed.

The ITAT’s stand- On appeal before the Hon’ble ITAT, the assessee defended its
position by relying on Article 7 of the India - Italy DTAA which permits deduction of
expenses in computing profits attributable to the Permanent Establishment.

a. However, the Hon’ble ITAT held that the assessee has to apply in full, either the
provisions of the Act or the DTAA provisions, but it cannot apply a combination.
It held that if the provisions of the domestic law have been chosen, then the
deductions as per the DTAA are not permissible.
Accordingly, it upheld the revision by the CIT and decided against the assessee.

Conclusion

Assessment cannot be on the basis of combining provisions of Tax Treaty and domestic
law in parts.

CASES IN FAVOUR OF THE ASSESSEE

3. ACIT vs Niko Resources Ltd (123 TTJ 310) (Ahd)

Facts of the Case in Brief

 45

a. Niko Resources Ltd, a company based in Canada, was engaged in the business of
exploration and production of natural gas in India.
b. It entered into a Production Sharing Contract (PSC) with the Government of India
to develop oilfields.
c. It developed clusters of wells in phases – The first cluster of wells H1, consisting
of five wells started commercial production prior to April 1, 1997. The second
and third cluster of wells H2 (consisting of two wells) and H3, began commercial
production after April 1, 1997.

Issues and Decision

On disallowance of deduction under section 42 on most of the expenditure, a tax holiday

claim was made by the assessee under section 80IB.

The AO’s stand- The claim for tax holiday under section 80IB(9) for H2 was disallowed
by the AO on the ground that the commercial production started before April 1, 1997.

The CIT (A)’s stand- The Claims of the assessee were partly allowed by the CIT (A)
including the claim for tax holiday for H2 as a separate undertaking.

The Hon’ble ITAT’s stand:

a. The term ‘mineral oil’ is not defined under section 80IB. However, the term is
defined to include ‘natural gas’ in other sections of the Act (sections 42, 44BB
and 293A). Based on the principle of harmonious construction for interpretation
of statutes, when the same word is used in different parts of the same section or
statute, there is a presumption that the word is used in the same sense throughout.
Accordingly, based on the meaning provided in other sections of the Act,
production of natural gas amounts to production of mineral oil and is therefore,
eligible for deduction under section 80IB(9).
b. Each well or a cluster of wells is a physically separate unit which can exist on its
own and is capable of earning income independently. Since, in the instant case
different clusters of wells (H1, H2, H3) produced measurable quantity of gas
during the relevant financial year and separate books of accounts had been
maintained by the assessee for each cluster, H1, H2 and H3 should be treated as
three independent undertakings for the purpose of claiming tax holiday.
c. The allowances claimed by the taxpayer were not of the nature specified in the
PSC, nor did the PSCs provide any manner for computation of such deduction. In
the absence of explicit mention of allowable deductions in the PSC and also of the
manner in which such deduction were to be computed, drilling and exploration
expenses could not be allowed as deduction under section 42.
d. A well is an apparatus used in the business of mineral oil production and hence
‘plant’ as per generic meaning. However, based on the meaning of ‘building’ as
per the Income-tax Rules, 1962, oil wells would be treated as ‘building’ and thus
shall be eligible to depreciation at the rate of 10 percent.
 46

Conclusion

Commercial production of natural gas amounts to production of ‘mineral oil’ for purpose
of tax holiday under section 80IB(9); each well or a cluster of wells producing ‘mineral
oil’ is a separate undertaking eligible for tax holiday

Amendment to section 80IB - Finance (No 2) Act, 2009: Its impact after Niko
Decision

It is relevant to note that Finance (No 2) Act, 2009 has made an amendment to section
80IB allowing the claim of tax holiday for the following:
a. an undertaking engaged in commercial production of natural gas in blocks
licensed under the VIII Round of bidding for award of exploration contracts under
the New Exploration Licencing Policy (NELP) which begins commercial
production of natural gas on or after the 1st day of April, 2009;
b. an undertaking engaged in commercial production of natural gas in blocks
licensed under the IV Round of bidding for award of exploration contracts for
Coal Bed Methane blocks which begins commercial production of natural gas on
or after the 1st day of April, 2009.

Thus, the Finance Act, 2009, without amplifying on the meaning of ‘mineral oil’, has
provided for income tax holiday in respect of natural gas production from blocks which
are licensed under the eighth round of NELP bidding and which begin commercial
production on or after April 1, 2009. Under such circumstances, the issue of availability
of tax holiday for natural gas production from pre-NELP and previous rounds of NELP
remains unresolved.

Further, it has also been provided in the amendment that for the purposes of claiming
deduction under section 80IB, all blocks licensed under a single contract, which has been
awarded under the New Exploration Licencing Policy (NEPL) announced by the
Government of India or has been awarded in pursuance of any law for the time being in
force or has been awarded by Central or a State Government in any other manner, shall
be treated as a single “undertaking”. This amendment would effectively nullify the “well
by well” undertaking approach applied by Hon’ble ITAT, Ahmedabad in the Niko
decision.

4. DDIT vs BG Exploration and Production India Ltd (29 SOT 79) (Delhi)

Facts of the Case in Brief

a. The assessee company, incorporated in Cayman Islands, entered into a PSC

(Production Sharing Contract) with the Government of India for undertaking
exploration and exploitation of mineral oil.
 47

b. In its return of income, the assessee had claimed deduction on the account of re-
imbursement of expenditure incurred by a third party.

Issues and Decision

The AO’s stand- The AO disallowed the claim of the assessee by invoking section 44C.
Section 44C restricts the deduction of head office expenditure in the case of non-
residents.

The CIT (A)’s stand- The CIT (A) allowed the assessee’s claim on the ground that
section 44C is not applicable to a third party and further in the present case the taxpayer
was entitled to concessional tax treatment provided in the PSC read with section 42(1),
hence section 44C is not applicable.

The ITAT’s stand-

a. Section 44C speaks of expenditure in the nature of head office expenditure and
not the expenditure incurred by the head office in relation to the operations of the
assessee in India. Therefore, reimbursement of expenses to a third party is also
caught within the mischief of head office expenses inadmissible under section
44C.
b. However, following the decision of the Supreme Court in case of CIT vs Enron
Oil and Gas India Ltd (305 ITR 75) (SC), the ITAT held that as the assessee is
one of the parties to the PSC which represents an independent regime, such
expenses are deductible under section 42 read with the PSC and section 44C is not
applicable.

Conclusion

Section 42 overrides Section 44C: Expenditure covered by the PSC cannot be subjected
to disallowance under Section 44C.

5. Cairn Energy India Pty Limited (2009 TIOL 220) (Chennai)

Facts of the Case in Brief

a. The assessee (a non-resident company incorporated in Australia) was engaged in

prospecting and exploration of mineral oils in India. It carried out its business
activities under the Production Sharing Contract (“PSC”).
b. The assessee reimbursed certain expenses incurred by the parent company as per
terms of PSC and claimed it as deduction under section 42.
c. Section 42 is a special provision for computing income from the business of
prospecting, extraction or production of mineral oil.

Issues and Decision

 48

The AO’s stand- He disallowed the expense under section 40(a)(i) as tax was not
deducted from the payment.

It was argued by the assessee that the payment was a reimbursement without any element
of profit for which TDS provisions are not applicable. Also, the disallowance cannot be
made under section 40(a)(i), which stands overridden by section 42.

The Hon’ble ITAT’s stand-

a. It noted that payments were in the nature of reimbursement of expenses by taking
on record the Auditor’s certificate provided by the asessee from its parent. It held
that TDS provisions will not apply to reimbursements.
b. It relied on the decision of Hon’ble Supreme Court in case of CIT v Enron Oil
and Gas India Ltd 305 ITR 75 (SC), and held in favor of the assessee that section
40(a)(i) would not apply.

Conclusion

Section 42 overrides section 40(a)(i): Reimbursement of expenditure to parent company

without TDS cannot be subjected to section 40(a)(i).

6. DIT vs Jindal Drilling and Industries Ltd (182 Taxman 59) (Delhi)

Facts of the Case in Brief

a. The assessee was engaged in the business of setting up offshore rigs for
exploration and prospecting of mineral oil.
b. It hired the services of a non-resident for transportation and jacking up of rigs,
reviewing design and issuing of suitability certificate to assessee’s offshore rigs.

Issues and Decision

As per section 44BB, 10% of the amount paid to a non-resident for providing services or
facilities in connection with prospecting and extraction of mineral oil was taxable in India
as profits from the business.

The AO’s stand- He assessed the sum as ‘fees for technical services’ under section 9(1)
(vii) and held that 10 percent of the sum had to be deducted as tax.

The Hon’ble Delhi High Court’s stand-

a. It took note of the finding of the Tribunal that services rendered by the non-
resident were part and parcel of the exploration activities carried out offshore by
the assesee and involved high level of technical expertise.
b. The Court also noted that explanation 2 to section 9(1)(vii) excluded certain
services from the scope of ‘technical services’. These services are in the nature of
 49

construction, assembly, mining or like project undertaken by the recipient. The

services provided in connection with prospecting, extraction or production of
mineral oil were specifically covered under section 44BB.

Hence the Court held that the services can be taxed only under section 44BB.

Conclusion

Technical services provided by a non-resident in connection with exploration and

prospecting of mineral oil cannot be taxed as ‘fees for technical services’.

7. Geofizyka Torun SP ZO O (2009 TIOL 31) (AAR)

Facts of the Case in Brief

a. The applicant, a Polish company, was engaged in conducting seismic surveys and
providing seismic data to oil companies in connection with their oil exploration
and drilling activities.
b. Seismic data acquisition consisted of acquisition of data/information relating to
earth structure in order to identify the existence of hydrocarbons underneath.
c. Such services were aimed at increasing the exploration success of its customers
and assisting them in maximizing the production from their existing reservoirs.

Issues and Decision

The Company applied for a ruling from Authority for Advance Rulings on whether the
income derived by it was assessable under section 44BB or under section 9(1)(vii) read
with section 44DA.

Section 44BB provides for the computation of income of a non-resident taxpayer engaged
in providing services in connection with extraction or production of mineral oil in India
and section 44DA provides for the computation of income of a non-resident who receives
royalties from an Indian concern.

The AO’s contention- It was that the term ‘services’ as mentioned in section 44BB
should relate only to services other than technical / consultancy services covered by
Explanation 2 to section 9(1)(vii).

The observations of the AAR were as follows-

a. The term ‘services’ under section 44BB should be understood in its plain and
ordinary sense and could not be narrowed down to mean services other than
technical, managerial or consultancy services.
b. The expression “in connection with” is important and has to be construed to have
expansive meaning – the services provided by the applicant had a real and
intimate nexus with the prospecting for or extraction of mineral oil, without which
 50

the activity of prospecting was impracticable and hence the same would be
covered by section 44BB.
c. Section 44DA would not supersede section 44BB and that both the sections had to
be read in harmony with each other.
d. The nature of business was an important factor which served as an indicator to
choose either of the sections. If the business is of the specific nature envisaged by
section 44BB, the same being a more specific provision, the computation
provision therein would prevail over the computation provision in section 44DA.

Accordingly, the AAR held that the profits derived by providing seismic data acquisition
services were exclusively governed by section 44BB and would be taxed on deemed
profits, being 10 percent of the gross receipts.

Conclusion

Income of a non-resident from services provided in relation to exploration of mineral oils

is to be computed under section 44BB and not under section 44DA.

8. Wavefield Inseis ASA (2009 TIOL 32) (AAR)

Facts of the Case in Brief

a. The applicant was a Norwegian company, engaged in conducting seismic surveys

and providing offshore seismic data to oil companies in connection with their oil
exploration.
b. The Company was awarded a contract in India by ONGC for 3D seismic data
acquisition and processing.
c. Pursuant to the contract, the Company entered into a contract with PF Thor (a
Faroe Islands based company) for hire of vessel on time charter basis.

Issues and Decision

The applicant applied for a ruling from AAR on whether the income derived by PF Thor
would be construed as ‘royalty’ under section 9(1)(vi) or would be assessable under
section 44BB.

The AO’s contention- It was that income derived by the vessel owner falls within the
second part of section 44BB, ie supplying of plant and machinery on hire. However
section 44B is not applicable as PF Thor is a third party and has no privity of contract
with ONGC.

Observations of the AAR-

The vessel provided by PF Thor is inextricably linked to the prospecting operations. Once
the deployment of the vessel in the prospecting operations is considered to be integral
part of such operations, the second part of section 44BB(1) is triggered; it is immaterial
 51

whether the vessel is deployed in the prospecting activities pursuant to a direct contract
with the oil producing company or pursuant to a contract with the seismic survey services
provider.

Hence the AAR ruled that income derived by PF Thor would fall within the scope of
provisions of section 44BB and as the amounts falling under section 44BB have been
excluded from the purview of royalty definition, the income derived would not be
characterized as royalty.

Conclusion

Income of a non-resident from letting out vessel on hire for the purpose of undertaking
seismic survey/data acquisition operations would be covered by section 44BB.

9. ONGC Videsh Ltd vs DCIT (2009 TIOL 748) (Delhi)

Facts of the Case in Brief

a. The assessee is an oil and gas exploration company. It acquired a participating

interest in a certain oil field in Russia.
b. The assessee was granted a license by the Russian State to carry out hydrocarbon
operations in the block for a period of 20 years.

Issues and Decision

The assessee claimed that the amount paid for participating interest and the license to
carry out operations were in the nature of an intangible asset. It was falling under the
term ‘any other business or commercial rights’, which were ‘similar in nature’ to ‘know-
how, patents, copyrights, trademarks, licences and franchises’ as referred to u/s 32.

Accordingly, the assessee claimed depreciation in respect of the payment made for such
participating rights and licence. The entire expenditure was claimed as deductible in the
first year. The assessee also claimed certain expenditure incurred for purchase and
evaluation of the seismic data of foreign blocks as revenue expenditure.

The AO’s contention- The claims of the assessee were rejected by the AO. The AO held
that depreciation on intangible assets was available only to intellectual property rights.
This is because the nature of intangible assets referred to under section 32 indicated a
connection to IPRs.

The AO also rejected the claim for deduction of such expenditure in full in the first year
holding it to be a capital expenditure.

The AO disallowed expenditure on purchase and evaluation of the seismic data of foreign
blocks on the ground that it is a capital expenditure.
 52

The CIT (Appeals) observations- He held that the expenditure was deductible over the 20
year period of licence as deferred revenue expenditure.

The ITAT’s observations-

a. It held that the share in participating rights and licence, acquired by the taxpayer,
was a commercial right similar to ‘licence’, which is specified as an intangible
asset under section 32.
b. The payment was entitled to depreciation under section 32.
c. It further held that the payment could not be treated as a deferred expenditure as
the concept was alien to the Act.
d. As regards the expenditure incurred on purchase and evaluation of the seismic
data of foreign blocks, the ITAT held that the same is for the furtherance of
activities undertaken by the taxpayer in the normal course of its business and
hence the same was allowable as revenue expenditure.

Conclusion

Payment for acquiring a share in participating rights and licence in oil fields is a
commercial right similar to license and entitled to depreciation under section 32.
 53

Executive summary
It is reiterated that the Petroleum and Natural gas sector has significant role in the
economy of our country and is important from the taxation angle as well. It touches our
lives in countless ways every day. Our day to day life only depends upon it. It supplies
more than 60% of our nation’s energy, fuels our cars heat our rooms and cook our food.
It also helps in generating of electricity which powers our daily life. In America oil and
natural gas industry supports over nine million jobs. In India since 1867 and till today this
sector is emerging and rising in a slow way. After liberalization even private sectors are
given the powers to explore it, we are dependent on other countries and we have only less
percentage of full filling the nations demand.

Analyzing the provisions both under present Income Tax Act and recommendations
under Direct Tax Code, we find that in present IT Act sections 42(1), 42(2), 33ABA, 80
IB (9),80 IE, 80 IA , 35 AD, 44 BB deal with the taxation of petroleum and natural gas,
whereas in DTC framework Section 30 has specific provisions relating to oil and gas
industry. In addition we have the following schedules which deal with this sector, viz.

 Eleventh schedule: special provision for computation of income from business of

mineral oil and natural gas.
 Thirteenth schedule: special provision for computation of income from business
of laying and operating across country natural gas or crude or petroleum oil pipe
line network for distribution including storage facilities being an integral part of
network.
 Fourteenth schedule: presumptive taxation for business of providing services or
facilities in connection with the prospecting for, or extraction or production of
mineral oil. Business of supplying plant and machinery on hire used, or to be
used, in the prospecting for or extraction or production of, mineral oil.

NEW EXPLORATION LICENSING POLICY (NELP)

The first round of NELP was started in 1998-99 with an objective to provide private
players equal competition at par with Public Sector companies. Another major objective
of NELP was to promote exploration, production and marketing of mineral oil. NELP
also provided a tax holiday of 7 consecutive years from the date of exploration. This was
incorporated in section 80 IB (9) of IT Act. In Finance Act 2008, the government has
come up with a sunset clause for tax holidays. According to this for the purpose of
section 80 IB (9) ‘mineral oil’ does not include petroleum and natural gas, unlike in other
sections of the Act.

However, the absence of a tax holiday could result in the reduction in the project NPV
(Net Profit Value) and could result in reluctance on the part of investors to participate in
the future rounds of NELP.
 54

Direct Tax Code v. Income Tax Act, 1961

There is an attempt to replace profit based tax incentives with expenditure based
incentive scheme.

There is only time difference and no real benefit.

Option already available under section 42 to companies engaged in exploration and

production of mineral oil. So if recommendations of DTC if applies, even no surcharge
and cess apply on rates prescribed but 30 % high tax has to be paid by oil and natural gas
sector.
 55

Acronyms
 ONGC – Oil and Natural Gas Corporation
 OIL- Oil India Ltd.
 BG Group- British Gas Group
 RIL- Reliance Industries Ltd.
 PSC-
 MMT-
 MMTOE
 MMSCMD-
 GAIL- Gas Authority of India Ltd.
 BPCL- Bharat Petroleum Company Ltd.
 56

REFERENCE

1. INVESTIGATION MANUALS vol. 5

2. PETROLEUM TAX GUIDE 1999
3. KPMG -THE OIL AND GAS SECTOR OVERVIEW IN INDIA (2009)
4. IBEF REPORT
5. [Link]. (on 03/12/2010)
6. [Link]/company-law/[Link] (on 05/12/2010
at 18:37)
7. Class PPT by Mr. K.M. Mahesh (Dy. Director and Faculty NADT)
8. Class PPT by Mr. [Link], DCIT (Hq) (OSD) Projects, Mumbai
9. 308 ITR 248(Ahm)
10. 201 SOT 531 (Delhi)
11. 123 TTJ 310 (Ahd)
12. 29 SOT 79 (Delhi)
13. 2009 TIOL 220 (Chennai)
14. 182 Taxmann 59 (Delhi)
15. Geofizyka Torun SP ZO O (2009 TIOL 31) (AAR)
16. Wavefield Inseis ASA (2009 TIOL 32) (AAR)
17. ONGC Videsh Ltd vs DCIT (2009 TIOL 748) (Delhi)