Understanding Capital Allowance and Its Application to Petroleum Operations under the Nigeria Tax Act, 2025

Understanding Capital Allowance and Its Application to Petroleum Operations under the Nigeria Tax Act, 2025 

By Baha’s Books | www.bahasbooks.com

The Nigeria Tax Act, 2025 introduces detailed provisions that guide how businesses in Nigeria can claim capital allowances—the tax relief granted for the gradual wearing out or depreciation of business assets. It builds upon earlier tax rules but extends them to address special industries such as petroleum exploration and production. The essence of these provisions is to create fairness and consistency in how businesses recover the cost of their capital investments through tax deductions over time.

This article explains these sections in depth—starting from the general capital allowance framework, the specific rates for various asset types, the transitional rules for older assets, and finally, how these principles are applied to petroleum operations under the Petroleum Industry Act.

Capital Allowance: The Foundation

Capital allowance is the mechanism by which companies recover, through tax relief, the cost of assets used for generating income. Instead of deducting the entire cost of a building, machine, or vehicle in one year, the Act allows the cost to be spread over several years. This approach aligns the tax benefit with the asset’s useful life.

Under the Nigeria Tax Act, 2025, the allowance is structured into three major classes of qualifying capital expenditure, as laid out in Table I of the Act:

  1. Class 1 (10% rate) – This category includes expenditure on buildings, agricultural activities, masts, intangible assets, and heavy transportation equipment. These are assets with long-term durability, and the Act allows a 10% deduction each year.
    For example, if a company constructs a factory worth ₦100 million, it can claim ₦10 million as capital allowance for that year.

  2. Class 2 (20% rate) – This applies to plants, agricultural equipment, furniture and fittings, mining equipment, and other business machinery. These assets are more directly tied to production and therefore qualify for a higher rate of 20%.

  3. Class 3 (25% rate) – The highest rate is for motor vehicles, software, and other capital expenditures not specifically included in the first two classes. These items have shorter useful lives or depreciate faster, so the law allows a quicker recovery through a 25% annual deduction.

These classes ensure fairness and logical distribution—each type of asset gets a relief rate proportionate to its economic lifespan and contribution to production.

Transitional Rules for Capital Allowances (Paragraph 23)

The Act also recognizes that many companies had already been claiming capital allowances under older tax laws. To ensure a smooth transition, Paragraph 23 introduces transitional rules. These rules prevent duplication and ensure continuity of claims without reopening completed assessments.

  1. Partly Claimed Assets – Where a company had begun claiming allowances under the old law, the remaining claimable years are adjusted. The Act subtracts the number of years already claimed from the total allowable period under the new regime. For instance, if an asset had a five-year claim period and two years have already been claimed before 2025, the company will continue with the remaining three years.

  2. Fully Claimed or Over-Claimed Assets – If the asset’s allowance was already fully claimed under the repealed law—or if the number of years claimed equals or exceeds what the new Act allows—then only a residual allowance of 1% is recorded for statistical purposes. This 1% figure is symbolic; it does not affect the company’s taxable income but keeps the asset on record for transparency and audit trail.

  3. Completely Written-Off Assets – Where an asset had already been fully written off before the commencement of the 2025 Act, no further allowance can be claimed. However, the prior allowances must still be reflected in the company’s books to maintain a consistent accounting record. This rule ensures companies cannot double-dip or manipulate records by reclassifying old assets under new tax provisions.

Through these rules, the law maintains integrity between the old and new systems while acknowledging the need for accurate historical documentation.

Special Provisions for Upstream Petroleum Operations (Part II)

After the general capital allowance framework, the Act dedicates a separate section to Upstream Petroleum Operations—those governed by the Petroleum Industry Act (PIA). These operations involve exploration, drilling, production, and other activities connected to crude oil extraction. Because the petroleum industry has unique cost structures and capital intensity, it requires tailored tax rules.

1. Interpretation and Key Definitions

The law begins by defining crucial terms:

  • A concession includes rights granted to a company through petroleum exploration licences, prospecting licences, or mining leases. These are the legal instruments that allow a company to explore, drill, and produce petroleum in Nigeria.

  • A lease refers to an agreement where an operator (the lessee) uses an asset for petroleum operations under a rental or hire arrangement. However, it excludes mortgages. If a lease expires but the lessee continues to occupy and use the asset with the lessor’s consent, the law treats the lease as continuing. Similarly, if a new lease is immediately granted after the old one expires, it is considered a continuation of the same lease. This ensures that tax computations continue smoothly without interruption between lease periods.

  • Qualifying expenditure refers to capital costs incurred for upstream petroleum operations. It is further broken into four categories:

    1. Qualifying plant expenditure – Costs of plant, machinery, and fixtures used directly for petroleum mining or prospecting.

    2. Qualifying pipeline and storage expenditure – Costs of constructing pipelines, storage facilities, and floating production systems.

    3. Qualifying building expenditure – Costs of constructing permanent structures used for petroleum operations.

    4. Qualifying drilling expenditure – Costs related to drilling wells, exploratory boreholes, and constructing support facilities such as access roads and drill sites.

The law explicitly excludes from this list any expenditure already deducted under another section of the Act (for example, Section 68) or costs that have already benefited from capital allowances under previous laws. This ensures that tax deductions are claimed only once per asset.

Additionally, if a company disposes of a qualifying asset before its first accounting period begins, it cannot claim any loss from that disposal, and any profit from the sale is treated as taxable income in that first accounting period.

2. Pre-Production Expenditure

Paragraph 2 addresses the issue of expenditures made before petroleum production officially begins—what is called pre-production expenditure. It clarifies that such expenses can still qualify for capital allowance if they fall under any of the qualifying categories listed earlier. For instance, the cost of drilling exploration wells or setting up production facilities before actual output starts is recognized as qualifying expenditure.

However, any expense that normally would have been deductible as an ordinary business expense (not a capital one) must be amortized over five years. This prevents companies from claiming an excessive deduction in one year for costs that benefit multiple years of operation.

3. Relevant Interest

Paragraph 3 focuses on ownership and entitlement. When an asset such as a building or structure is used for petroleum operations, the person or company that holds the relevant interest in it is recognized as the owner for tax purposes. The relevant interest is the economic or legal right that justifies claiming capital allowance on that asset.

For example, if a company constructs an oil platform or a storage terminal on leased land, it holds the relevant interest for capital allowance purposes even if it does not own the land. If multiple parties hold rights, the one with the reversionary interest—the ultimate ownership right—is considered to have the relevant interest. If a contractor builds an asset on behalf of a licensed operator, the capital allowance benefit goes to the licensee or lessee who actually uses the asset in petroleum production.

This clarification ensures that the tax benefit follows the party bearing the investment risk, not just the legal titleholder.

4. Operational Rule for Capital Allowance

Paragraph 4 provides the main operational rule. It states that in any accounting period where a company incurs qualifying expenditure wholly and exclusively for upstream petroleum operations, it is entitled to capital allowance. This means that once the cost is directly linked to petroleum exploration, drilling, or production, the company can claim the corresponding allowance as a deduction against its taxable profits.

This provision is crucial for the oil and gas industry because these activities involve heavy upfront investment—drilling wells, constructing pipelines, or building refineries. Without such relief, the tax burden would discourage exploration and production, particularly in marginal or deepwater fields.

Conclusion

This section of the Nigeria Tax Act, 2025 showcases how Nigeria’s tax system balances fairness, precision, and economic incentive. The general capital allowance framework applies to all businesses, while Part II addresses the distinct realities of the petroleum industry—where projects are capital-heavy and span many years before generating income.

By categorizing assets, defining qualifying expenditures, and establishing continuity between old and new tax regimes, the law ensures that companies receive the relief they deserve without compromising revenue integrity. It supports long-term investment while closing loopholes that could lead to tax abuse or double deductions.

At Baha’s Books, we break down complex tax and accounting laws into simple, actionable insights that help businesses stay compliant while maximizing value.
Visit www.bahasbooks.com to explore more guides, interpretations, and practical applications of Nigeria’s evolving tax and business laws.

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