Tax Row Threatens East Timor Gas Pipeline Deal

by Mary Swire, Tax-News.com, Hong Kong

06 August 2001

The US-based company Philips Petroleum has announced that it has deferred indefinitely its commitment to the development of an A$13 billion (£4.6 billion) subsea pipeline to transport natural gas from the Bayu-Undan field in the Timor Sea to Darwin.

The decision has arisen from East Timor's plans to renege on its taxation agreements. As well one of the world's newest countries, having just been granted independence from Indonesia, East Timor is also one of the world's poorest countries and is attempting to exploit the potential revenue from the project which could see East Timor richer by at least A$7 billion in revenues over the next twenty years (from 2004 onwards when production is expected to be completed). And this is a sobering thought for the government which has a budget this year of US$60 million (£43 million) which is entirely provided by foreign donorship.

Under the original Timor Sea arrangement, partners in the project agreed to pay 50 per cent of their corporate tax at the Australian rate of 30 per cent and the remaining 50 per cent at East Timor's rate of 44 per cent. East Timor is now asking for that 44 per cent to be raised to 90 per cent.

Alexander Downer, the Australian foreign minister, told reporters: 'It is unfortunate that just hours after we agreed the Timor Sea Arrangement in Dili, the United Nations transitional administration/East Timor announced that it would use its taxation powers to recover up to an additional US$500 million in tax from the companies.'

Stephen Brand, vice president of the Philip's Petroleum Australasia division, worldwide production and operations, further explained his company's decision: 'Investments in Bayu-Undan have proceeded based on certain commitments from key East Timorese leaders regarding continuation of legal rights under current production sharing contracts, as well as assurances that fiscal and taxation policies applicable to such contractors would be no more onerous than those currently in place. These assurances and commitments provided investors the confidence to proceed with project development and commit funds in excess of $1 billion.'

He continued: 'Agreement by East Timor to fiscal and taxation arrangements reflecting their earlier commitments would allow further investment to proceed, providing significant economic benefits to the Bayu-Undan co-venturers and the new nation of East Timor. However, since the conclusion of the Timor Sea Arrangement, the United Nations, acting on behalf of East Timor, has yet to reaffirm these crucial commitments.'

At this point there is an impasse in negotiations, the Philip's Petroleum decision will prevent the commercialization of much of the Timor Sea gas resources and the country may just have shot itself in the foot but Peter Galbraith, ex-US diplomat, who is currently advising East Timor on the discussions maintains that East Timor has made it clear all along that it may make changes to its tax regime. Of Philip's Petroleum and its partners (co-venturers), Mr Galbraith said 'the companies are pretending - and I say pretending - to be shocked.' There could also be a certain pressure from the United States government on Philip's to come to an agreement as much of the gas was expected to be transported to California where the resource is in great demand.

For the time being Philip's has declared that it and its co-venturers will make 'every effort to work with the East Timorese and Australian representatives to expedite a satisfactory and commercial resolution of the outstanding issues.'

Recommended