The Kremlin's changes to the way it taxes oil sales were forced by Western sanctions on Russia over its war on Ukraine and will hit its oil production capacity over time, U.S. Deputy Treasury Secretary Wally Adeyemo said on June 15.

Russian President Vladimir Putin in February signed a law fixing the discount on Russia's dominant Urals blend of crude oil for tax calculations. The move came as Moscow scrambled to cover a widening budget deficit due to Western sanctions, including the $60 price cap on Russia crude exports the G7 and EU imposed last December.

Adeyemo said the price cap and sanctions have forced Moscow to change its tax plan, locking in a "massive discount" for Russia's oil, the country's most important commodity.

The oil price cap bans G7 and European Union companies from providing services such as transportation, insurance and financing for Russian oil and oil products if they are sold above the cap.

"When it comes to the price cap, either Russia continues to accept the steep discount that our actions have imposed on their energy exports, or they institutionalize it themselves with these changes to their tax regime," Adeyemo said in prepared remarks of a speech to Washington think tank Center for a New American Security just over six months after the cap was agreed.

The tax changes "will constrain Russia’s oil companies going forward, leaving them with fewer funds to invest in exploration and production and over time diminishing the productive capacity of Russia's oil sector."

He said the sanctions have forced Russia to invest the equivalent of billions of dollars in its own oil exporting system that does not use Western services such as reinsurance.

"This is money the Kremlin cannot invest in tanks and other weapons to fight its illegitimate war in Ukraine," Adeyemo said, referring to the conflict Russia started in February 2022.

The tax law changes the calculation of taxes on Russian oil sales by assuming a fixed discount to international benchmark Brent crude, instead of basing it on the market price of Urals.

It set the maximum discount for Russia's Urals blend compared with Brent crude for tax calculations at $34 a barrel in April, falling to $31 in May, $28 in June and $25 in July—in effect not far from current market prices for Urals crude.

More changes could be in the works. According to Russian media reports, the Russian government has been considering pegging the Urals oil price to a Dubai grade for calculation of taxes. 

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