personal finance

Oil goes high, government gets richer: Know about the method that makes fuel costlier


In some cities, petrol prices have crossed Rs 90 to a litre. It’s going up because the rupee has depreciated sharply against the dollar, while crude prices have risen steadily for the past year. To make matters worse, the government has raised taxes repeatedly. But there’s another key factor — the way fuel is priced here, says a TOI report.

India imports almost no petrol or diesel. It imports crude. But the price you pay for your fuel is based largely on import parity price, or the price you would pay if India were to be actually importing petrol or diesel. This not only means you pay a very high price but also that oil companies and the government make more money as prices go up. Below is the explanation:

More exports than imports
India’s export of petrol and diesel is more than imports. India’s total imports in 2017-18 were worth Rs 744 million while total exports were far higher at Rs 23,858 million.

Yet fuel is priced as if it is imported

Oil refiners, who make these products in India, are paid what is called a Refinerty Gate Price (RGP) based on the Trade Parity Price (TPP) which is a weighted average of the Import Parity Price (IPP) and the Export Parity Price (EPP). IPP is the price importers would pay if they actually imported the product. So, it includes not just the cost of the fuel itself, but also frieght charges, insurance, customs duty and port charges. EPP is what somebody actually exporting the product would get. IPP has an 80% weight and EPP only 20% in the TPP.

Now add ‘ad valorem’ tax
This method of calculating the price to be paid to refiners means that whenever international oil prices rise (or customs duty on their products increase), they get a windfall. That’s because customs is an ‘ad valorem’ rate or a percentage of the basic value unlike a specific duty which would remain fixed irrespective of basic price.

Since customs duty is 2.5% of the imported price, it goes up in absolute terms as the basic price does. So, at $100 per abrrel, the duty on a barrel of petrol would be $2.5 while at $200 per barrel it would be $5.

Indian refiners would get this benefit without incurring the duty itself. This partly explains why they have actually become more profitable at a time when their raw material (crude oil) is becoming more expensive.

Between 2015-16 and 2017-18, the average price of the crude india buys went up from $46/barrel to $48/barrel But bottom lines of two biggest refiners zoomed up.

Proft after tax of Reliance Industries went up from Rs 11,242 crore in 2015-16 to Rs 21,346 crore in 2017-18. Profit after tax of state-owned Indian Oil went up from Rs 22,426 crore in 2015-16 to Rs 33,612 crore in 2017-18.

Government too makes a killing

Of course, the government also gained in terms of taxes over the last three years. To a small extent, this was because the amount it collects as customs duty goes up with the import price.

But customs duty accounted for a tiny part of the increased tax collections from petroleum. The bulk really came in the form of excise duty which was rasied nine times between November 2014 and January 2016 and cut only once in October 2017. Duty on diesel rose from 2.96% to 11.33% while the duty on petrol increased from 2.7% to 9.48% in this period.

In January 2016 alone, government hiked basic excise duty thrice. Taken with the Rs 6 a litre additional excise duty (now replaced by as Rs 6/litre road and infrastructure cess), total excise duties reached close to Rs 17 a litre for petrol and Rs 19 a litre for diesel. This boosted tax collections.

The government gained in three other ways. First, higher profits for oil refiners meant higher tax on profits. Second, profits for state-owned refiners meant more dividend for government which is their main shareholder. Third, higher dividends distributed by public and private refiners meant more dividend distribution tax. All of these rose in the last three years.

What the government says on this

The pricing issue was examined by a committee under C Rangarajan in 2006 after the cost-plus formula was done away with and petrol-diesel prices were deregulated in April 2002. The idea was to align domestic and international prices.

India has to import 80% of the raw material (crude oil), so export parity could not be an option. that’s why an 80:20 trade parity pricing was implemented in line with Rangarajan report.

Customs on products is 2.5% but this is applicable only on 80% of the output, effectively making it 2%.

There are several taxes on domestic crude such as National Calamity Duty, VAT and state entry tax. These are absorbed by the refiners. So after adjusting these, the effective customs duty is minuscule.

No state-run refiner exports products, barring in exceptional circumstances. Private refiners do. But they don’t use domestic crude and import oil at landed cost basis. Customs on the product thus ensures level playing field when private refiners sell products in the domestic market.

Landed cost is a transparent way to arrive at pricing. Otherwise, it will have to be a cost-plus formula, which is opaque.





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