A windfall gain tax is a higher tax rate on gains that come from a sudden windfall gain to a certain business or industry, typically as a result of a geopolitical disruption, natural disaster, or war that causes unusual spikes in demand or supply interruptions. A good example is a confrontation between Russia and Ukraine. The central excise charge was reduced, and there were additional expenditures on food and fertilizer. These factors led to an increase in government spending. In order to close the shortfall, the government levied a windfall tax on the oil industry.
In July 2022, the government of India enacted windfall taxes amid domestic crude producers making exceptional gains due to the global impact of the Russia-Ukraine war. Domestic players gained tremendous profit by selling crude to refiners at internationally bench-marked pricing. Recently, the government increased export taxes on gasoline and Aviation Turbine Fuel (ATF) to Rs 6 per liter or $12 per barrel and to Rs 13 per liter or $26 per barrel on diesel. The government levied a windfall tax on crude production of Rs 23,260 per tonne, or $40 per barrel.
Yet India is not the only country that levies this kind of tax. A number of nations have recently imposed the crude oil surcharge in response to the recent increase in crude prices. A windfall tax on energy corporations that have been hoarding enormous profits was announced in the UK in May. The first two nations to tax power plants were Italy and Romania, and the US and the EU are now considering doing the same with respect to the “war-fueled profits” of large energy companies.
Reasons for Implementing Windfall Tax:
India’s record-high trade deficit and a depreciating rupee have raised the value of imports, which is the economic justification for implementing windfall taxes. Additionally, the government’s spending increased as a result of the recent reduction in Central Excise Duty and increased spending on fertilizers and food. In order to close this imbalance, it subsequently decided to impose a windfall tax on the oil industry, which increases the government’s revenue.
- Call from International Organisation: Restitution of these in excessive profits was demanded by the IMF, World Bank, and UN Secretary-General.
- Conflict between Russia-Ukraine: Oil prices are now fluctuating due to the fighting, and Russian oil is now less expensive.
- Raise the trade surplus: These actions can reduce the trade deficit that the nation now experiences as a result of its high oil import costs.
- Benefits distribution: The general public should receive a portion of the company’s revenues.
- Protect people from inflation: The nation will protect its inhabitants from global inflation by enacting taxes.
- Social welfare program funding: The profits can be put toward a social welfare program.
- Increase the revenue: The government’s revenue will rise as a direct result of these taxes.
Pros of the Windfall Tax:
- Theoretically, windfall taxes ought to be much less detrimental to economic activity than other taxes because they are retrospective and one-time – the amount payable is based on things that have already happened and is only assessed once. This is because, unlike with an annual tax that is stated in advance, businesses cannot alter their behavior to lower their tax due (for example, by cutting production).
- In order to redistribute these benefits, windfall taxes are typically imposed on businesses that are shown to have benefited from an event that was not the result of their own efforts or investment.
- No cess will be placed on the amount of crude that is produced by a crude producer over and above what was produced the year prior in order to encourage increased production. The cost of oil or the cost of fuels and petroleum products would not be affected by this policy.
- However, according to the finance ministry, this cess won’t have any negative effects at all on the cost of domestic petroleum goods or fuel. Small producers who produced less than 2 million barrels of crude annually in the previous fiscal year will also not be subject to this tax.
Cons of the Windfall Tax:
- The first consequence of windfall taxes is a reduction in the number of profits left over for corporate reinvestment. The government may decrease the amount of investment made by businesses by eliminating this easy source of funding.
- Second, windfall taxes make the tax system unpredictable. Businesses may have legitimate suspicions that the tax will be reimposed in the future. That might deter them from making capital expenditures (investments to increase their output and earnings) because they might be worried that the government might tax some of the potential returns away. As a result, economic growth may be slowed, and the government may face a loss of business from better-established multinational companies.
- Another issue is the idea that retrospective windfall taxes are unfair; in other words, businesses should be informed in advance of the tax laws so they may make decisions about how to behave rather than having their lawfully obtained earnings confiscated.
Challenges of imposing the Windfall Tax:
- Cut back on investment: After-tax private sector investment may decrease as a result.
- Problems with exports: If this tax applies to the goods that India exports to other nations, they may be burdened (still it has not been implemented on other products apart crude oil)
- Crisis in inflation: In an era of inflation, it is challenging to retain the windfall tax. Businesses can experience losses and market collapse.
Impacts of the Windfall Taxes:
- The price of crude had increased globally, and domestic producers were now benefiting greatly.
- Oil marketing businesses were unwilling to sell the product at a loss because prices had not increased despite higher crude and a weakening rupee, which is why there was a lack of fuel at retail stores.
- Oil marketing organisations have suffered losses of Rs 20–25 per liter on diesel and Rs 10-15 per liter on gasoline as a result of these two issues.
- Fears of a US and worldwide recession over the past two weeks have caused the benchmark Brent contract on the Intercontinental Exchange to decline by more than 12%, which prompted the government to reassess the taxes imposed.
- The Indian rupee, which on July 1 hit a new low of 79 to the dollar, will benefit from the indirect import and export limitations through duty adjustments that are intended to lessen the burden on the current account deficit (CAD).
- The government will get about Rs 7,000 crore yearly from the tax on petroleum, which follows record earnings alone, on roughly 30 million tonnes of domestically produced crude oil.
Note: Taxes were only levied against domestic oil producers:
Over the past few months, crude oil prices have increased globally. Domestic oil producers sell their product to domestic refineries for prices that are competitive internationally. As crude oil recently reached a record price of $120 per barrel on the international market, domestic oil producers and refiners benefited from an increase in price by earning more money.
Additionally, Russian refiners were offering their cheap crude oil at a profit to Indian refiners, who then sold it abroad. Domestic refiners were making significantly more money by exporting their oil to markets where prices were higher. A levy on exports was established by the government to stop this behavior.
Since many refiners decided to export crude oil rather than sell it domestically, the government seeks to maintain control over the ongoing supply of crude oil on the market. In order to indirectly increase the cost of oil exporting, the government has ordered oil exporters to first meet the local oil demand in India and has imposed windfall taxes on exports.
Conclusion:
When the companies were quoting absurdly high rates for gasoline during the Russia-Ukraine crisis, windfall gain tax was implemented. The windfall gain tax’s primary goal is to lower the price of products and services so that the end user benefits. However, since the introduction of the $15 per barrel tax, fuel costs have dropped, negating the need for windfall earnings. Therefore, the businesses will attempt to have the tax levied by the government reviewed. It is necessary to implement global procedures to rein in corporate greed and redistribute revenue between the rich and the poor.