Tackling Profit Shifting in the Oil and Gas Sector for a Just Transition

The global reliance on oil and gas as a primary energy source comes at a significant cost to the environment and to vulnerable communities. The oil and gas industry, dominated by a few large multinational enterprises, is a major polluter and a key actor in global tax abuse. This creates a double burden: environmental degradation and loss of public revenue for governments that host their operations. Beer and Loeprick (2015) estimate that firms in the extractive sector shift around 34 per cent of their true profits to low-tax jurisdictions. Developing countries lose between 3 and 7 per cent of GDP to profit shifting annually (Cobham and Janský, 2017). A forthcoming South Centre study by Ferré et al. (2025), analysing publicly available country by country reports by oil and gas companies, finds that a significant number of these companies have effective tax rates below 15 per cent in several developing countries, with Morocco, Colombia and Gabon among the most affected South Centre member states. 

Effective taxation of oil and gas multinational enterprises is not only a matter of revenue mobilisation but also a mechanism to align tax systems with climate justice — especially as the world approaches COP30 in Brazil and continues negotiations under the UN Framework Convention on International Tax Cooperation. 

In this blog, we briefly explore some of the tax abuse tools used and the overly generous tax incentives enjoyed by the oil and gas sector, and propose five key measures to enhance the tax capacity of host countries, particularly developing countries. A detailed paper will be published at a later date. 

Tax incentives and tax abuse 

The oil and gas sector poses unique tax challenges. Projects require huge upfront investment, take many years to develop and involve high risks, but can generate large profits once production begins. To attract investors, many governments offer generous tax concessions such as tax holidays, reduced tax rates, exemptions from indirect taxes and duties, accelerated depreciation, and stabilisation clauses — legal provisions that guarantee companies the same tax terms for decades, even if national laws change (Calder, 2015; Mager et al., 2024; UN, 2021, p. 149). While these measures may help attract investment at first, they often erode the tax base and prevent host governments from benefiting once projects become profitable. Stabilisation clauses, in particular, can trap countries in outdated tax deals and limit their ability to respond to changing economic conditions (Oshionebo, 2010).

The effectiveness of tax incentives in attracting investment remains debated. Studies suggest that factors such as political stability, infrastructure, governance and regulatory quality often rank higher than tax rates or incentives in influencing investment decisions (James, 2010). Geography and resource endowment are particularly crucial for extractive investments, overshadowing tax incentives as primary determinants (Hvozdyk and Mercer-Blackman, 2010). 

The global operations of oil and gas multinational enterprises make it easy for them to shift profits across borders through complex accounting practices such as transfer pricing, the use of marketing hubs and offshore shell companies (Calder, 2015; Marcolongo and Zambiasi, 2022). In practice, this often involves moving money between their own subsidiaries — for example, by charging inflated fees for technical services, leasing rigs, intercompany loans or the use of intellectual property (Calder, 2015; Kalra and Afzal, 2023). These transactions can be deliberately mispriced to shift profits from high-tax to low-tax jurisdictions. Developing countries usually lack the data, expertise and comparable market information needed to challenge such schemes, leading to ongoing revenue losses (Kalra and Afzal, 2023). 

Tax treaties modelled after the OECD Model Tax Convention prioritise residence-based taxation at the expense of source countries, meaning that the right to tax often goes to the country where a multinational is headquartered rather than the country where its profits are generated. This design restricts source countries’ taxing rights over business profits, technical services and capital gains of resource companies. Tax treaties often restrict how much tax a country can collect from foreign companies. They do this by lowering the taxes countries can charge on dividends, interest and royalties, and by excluding services from taxation. Many treaties also define “permanent establishment” (PE) — the legal threshold for when a company’s operations can be taxed — in very narrow terms. Oil and gas multinational enterprises take advantage of this by splitting their activities across subsidiaries, rotating drilling rigs to stay below time limits, or providing services remotely so that their presence never officially counts as taxable. 

Feng et al. (2024) analysed more than 180 tax treaties between OECD countries and South Centre member states. They found that the average source taxing rights index was below 0.4 (on a scale where 1 represents maximum taxing rights under the UN Model), showing that developing countries lose a large share of their taxing rights under these treaties. Similarly, Amaro et al. (2024) show that many treaties restrict taxation of services, even though developing countries are mostly net importers of services. 

Proposals for reform 

1. Strengthen transfer pricing rules. 
Transfer pricing rules should align with international best practice, such as the UN Practical Manual on Transfer Pricing, and apply to all related-party transactions — exchanges of goods or services between companies within the same multinational group. These rules ensure that internal prices reflect real market values, preventing profits from being shifted to low-tax countries. Key steps include building the capacity of tax authorities to apply the rules effectively, setting clear documentation requirements for cross-border transactions, and establishing reference price benchmarks for commodities like oil and gas to check whether declared prices are fair. Regional cooperation can further strengthen enforcement by enabling information sharing, joint audits and shared databases to detect and prevent profit shifting. 

2. Strengthen source taxation rights. 
Developing countries should renegotiate or terminate outdated treaties that overly restrict source taxation. New treaties should incorporate United Nations Model provisions that strengthen source taxation, such as Article 12AA on Fees for Services, the revised Article 8 on Income from Shipping and Air Transport, and Article 5A on Income from Exploration and Exploitation of Natural Resources, which reduces the time threshold for establishing a permanent establishment (PE) to 30 days. The definition of a permanent establishment should include all forms of physical presence and economic activities typical of oil and gas operations, and should adopt anti-fragmentation rules to prevent the artificial avoidance of a taxable presence. 

3. Explore formulary apportionment for oil and gas multinational enterprises. 
Instead of relying on the complex arm’s length principle — which treats each subsidiary of a multinational as if it were an independent company — countries could adopt formulary apportionment. This approach looks at a company’s global profits as a whole and divides them among countries based on real economic activity, such as sales, assets and employment. It ensures profits are taxed where value is actually created. For the extractives sector, some experts like Kerry Sadiq (2024) suggest adding a fourth factor based on production levels, so that resource-rich countries receive a fair share of tax revenues. 

4. Mandate public country by country reporting. 
Public country by country reporting should be mandatory for all fossil fuel companies. Contractual agreements with governments should also be made public. This would help tax administrations and the public track profits, payments and emissions across jurisdictions. 

5. Remove harmful tax incentives. 
Governments should review tax expenditures, remove costly and unproductive concessions, and replace profit-based incentives with transparent, time-bound, production-based measures such as royalties linked to output. All incentives should be disclosed publicly in national budgets and through open registries for accountability. International and regional coordination can harmonise incentive regimes, prevent harmful competition and establish global standards for extractive companies. 

Ensuring that oil and gas multinational enterprises pay their fair share is essential to financing a just climate transition for the Global South — one grounded in both tax justice and climate justice. 

References 

Amaro, F., Grondona, V., & Picciotto, S. (2024). The Implications of Treaty Restrictions of Taxing Rights on Services, Especially for Developing Countries. South Centre. https://www.southcentre.int/wp-content/uploads/2024/10/RP211_The-Implications-of-Treaty-Restrictions-of-Taxing-Rights-on-Services-Especially-for-Developing-Countries_EN.pdf 

Beer, S., & Loeprick, J. (2015). Taxing income in the oil and gas sector: Challenges of international and domestic profit allocation. WU International Taxation Research Paper Series No. 2015 – 18. https://research.wu.ac.at/ws/portalfiles/portal/18981643/SSRN-id2610558.pdf 

Black, S., Liu, A. A., Parry, I. W. H., & Vernon, N. (2023). IMF Fossil Fuel Subsidies Data: 2023 Update. IMF Working Papers, 2023(169), 1. Crossref. https://doi.org/10.5089/9798400249006.001 

Calder, J. (2015). Administering Fiscal Regimes for Extractive Industries. International Monetary Fund. 

Cobham, A., & Janský, P. (2017). Global distribution of revenue loss from tax avoidance: Re-estimation and country results (No. 9292562797). WIDER Working Paper. 

Ferré, L., Kawashima, N., & Piot, A. (2025). Curtailing Tax Avoidance by Oil and Gas Multinational Companies (MNCs) in Developing Countries. South Centre; Geneva Graduate Institute. 

Hvozdyk, L., & Mercer-Blackman, V. (2010). What Determines Investment in the Oil Sector? A New Era for National and International Oil Companies. Inter-American Development Bank. 

James, S. (2010). Providing Incentives for Investment: Advice for policymakers in developing countries. Investment Climate in Practice. 

Kadafa, A. A. (2012). Environmental impacts of oil exploration and exploitation in the Niger Delta of Nigeria. Global Journal of Science Frontier Research Environment & Earth Sciences, 12(3), 19–28. 

Kalra, A., & Afzal, M. N. I. (2023). Transfer pricing practices in multinational corporations and their effects on developing countries’ tax revenue: A systematic literature review. International Trade, Politics and Development, 7(3), 172–190. 

Mager, F., Meinzer, M., & Millán, L. (2024, June). How corporate tax  incentives undermine  climate justice. Tax Justice Network. 

Marcolongo, G., & Zambiasi, D. (2022). Incorporation of offshore shell companies as an indicator of corruption risk in the extractive industries. Incorporation of Offshore Shell Companies as an Indicator of Corruption Risk in the Extractive Industries, 2022(14). https://doi.org/10.35188/UNU-WIDER/2022/145-7 

Oshionebo, E. (2010). Stabilization clauses in natural resource extraction contracts: Legal, economic and social implications for developing countries. Asper Rev. Int’l Bus. & Trade L., 10, 1. 

Sadiq, K. (2024). Formulary Apportionment for the Extractives Industry—How Should Resource Rents be Taxed. Journal Financing for Development, Vol 1(5). https://uonjournals.uonbi.ac.ke/ojs/index.php/ffd/article/view/2287 

San Sebastián, M., & Hurtig, A.-K. (2004). Oil exploitation in the Amazon basin of Ecuador: A public health emergency. Revista Panamericana de Salud Pública, 15(3), 205–211. 

UN. (2021). Handbook on Selected Issues for Taxation of the Extractive Industries by Developing Countries. United Nations (UN). https://www.un.org/esa/ffd/wp-content/uploads/2018/05/Extractives-Handbook_2017.pdf