Military action around the Strait of Hormuz has pushed global oil prices higher, prompting new proposals for windfall profits taxes on oil and gas producers. The source argues that these proposals duplicate the role of the corporate income tax, can discourage investment, and may last longer than the emergencies they are meant to address.
Current Windfall Tax Proposals
Several U.S. policymakers have proposed windfall profits taxes targeting energy companies.
The Big Oil Windfall Profits Tax Act, introduced by Senator Sheldon Whitehouse and Representative Ro Khanna, would tax crude oil sales at 50% of the gap between the average crude oil price in the calendar quarter and the average crude oil price in 2025.
The proposal would apply to companies producing or importing an average of 300,000 barrels per day.
The source notes that this proposal would be permanent.
Representative Brad Sherman has proposed a separate tax: a 100% tax on crude oil sales above $75 per barrel.
That tax would remain in effect until three conditions are met:
- Hostilities with Iran end
- The Strait of Hormuz reopens
- Oil prices return to $75 per barrel
Corporate Income Tax Already Captures Higher Profits
The source argues that the United States already has a tax on windfall profits: the corporate income tax.
The corporate income tax applies to profits, meaning revenues minus costs. When oil prices rise and oil companies earn higher profits, those companies already pay more in taxes because the corporate income tax rises with profits.
The source’s core argument is that a separate windfall profits tax adds another layer of taxation on top of an existing profit-based tax.
Why Temporary Windfall Taxes Can Still Affect Investment
Commodity markets are volatile. Oil extraction and other commodity businesses involve both downside risk and upside potential.
High-price years can offset low-price years. Investors may not predict specific events, such as military action around the Strait of Hormuz or a global pandemic, but they invest knowing that major supply and demand shocks can happen.
The source argues that even a temporary windfall profits tax can affect expectations.
If investors believe governments will take a disproportionate share of profits during high-price years, expected returns from investing in new oil production capacity fall.
That can reduce incentives to bring new supply online, even if the tax is framed as short term.
European Experience After the 2022 Oil Price Spike
Several European countries imposed windfall profits taxes after the global oil price spike in 2022.
The source argues that these taxes did not raise much revenue and created problems for energy investment.
Spain’s windfall profits tax was based on energy company operational revenue. Because many large energy companies are active in both fossil fuels and renewable energy, the source says the tax also affected clean energy investment.
The United Kingdom still has its supposedly temporary windfall profits tax in place. It is scheduled to remain on the books until 2030 after several expansions and extensions.
The source notes that North Sea oil production had already begun declining before the windfall profits tax, but argues that the tax compounded the sector’s difficulties.
U.S. Experience With the 1980 Windfall Profits Tax
The United States previously imposed a windfall profits tax on oil.
The Crude Oil Windfall Profits Tax Act of 1980 imposed an excise tax of up to 70% of the difference between the quarterly crude oil price and a base price.
The tax was eventually repealed in 1988.
Several analyses cited in the source found that the 1980 tax reduced domestic oil production and increased reliance on imports.
A Congressional Research Service paper found that between 1980 and 1988, the tax:
- Reduced domestic oil production by 1.2% to 8.0%
- Increased reliance on foreign oil by 3% to 13%
A 2018 paper in Economic Policy found that the tax reduced domestic production largely by reducing output from wells already in operation. The paper concluded that the tax did not simply capture excess profits but also reduced incentives to produce at the margin.
Why Windfall Taxes May Outlast the Emergency
The source warns that so-called temporary windfall taxes often persist beyond the original emergency.
The United Kingdom is used as an example: a temporary windfall profits tax has been expanded, extended, and scheduled through 2030.
This matters because investment decisions depend not only on current taxes but also on expectations about future policy. If investors expect windfall taxes to recur or remain in place, they may reduce investment even before a new tax is imposed.
The Source’s Preferred Alternative
The source argues that policymakers should not create a separate windfall profits tax.
Instead, it says the corporate income tax should be structured so that it falls more heavily on windfall or “supernormal” profits while reducing penalties on normal investment returns.
The proposed method is full deductibility of capital investment.
Under current law:
- Short-lived assets such as equipment and machinery can be deducted immediately.
- Research and development can be deducted immediately.
- Long-lived assets such as commercial buildings and residential buildings must generally be deducted over long periods: 39 years and 27.5 years, respectively.
- Certain manufacturing structures are an exception.
The source argues that spreading deductions over long periods creates a tax penalty for new investment.
Allowing full and immediate expensing would effectively exempt the normal return to capital and concentrate the corporate income tax more on supernormal profits.
Main Policy Trade-Off
The source’s argument is that windfall profits are already taxed when they appear as corporate profits.
Separate windfall profits taxes may appear targeted, but they can reduce expected returns, discourage new supply, affect investment in both fossil fuel and clean energy sectors, and remain in place longer than promised.
The source presents full expensing within the corporate income tax as a more neutral way to focus taxation on excess profits without adding a separate windfall tax that penalizes investment.
Source article: taxfoundation.org
