Shale Law in the Spotlight: Oil and Natural Gas Severance Taxes in the United States (Michigan, Alaska, Nebraska, and California)

Written by Chloe Marie – Research Fellow

This series addresses severance taxes on oil and natural gas imposed by various states, and this sixth article will review the severance tax systems for the states of Michigan, Alaska, Nebraska, and California. In prior articles, we addressed the severance tax systems for the states of Pennsylvania, Ohio, and West Virginia; for the states of Texas, Oklahoma, Louisiana, and Wyoming; for the states of North Dakota, Arkansas, New Mexico, and Colorado; for the states of Kansas, South Dakota, Montana, and Utah; and for the states of Indiana, Kentucky, Alabama and Mississippi.

Michigan

The Michigan legislature (MCL 205-301 to 317) provides for a tax on oil and gas severed from the Michigan soil at a rate of 5% of the gross cash market value of the total production of gas and at a rate of 6.6% of the gross cash market value of the total production of oil. Crude oil produced from stripper or marginal wells is taxed at a reduced rate of 4% of the gross cash market value of the oil total production. As of March 30, 2014, oil or gas produced from a carbon dioxide secondary or enhanced recovery projects also is taxed at a rate of 4% of the gross cash market value.

The Michigan Severance Tax Act also provides for a tax exemption for certain production from the Devonian or Antrim Shale.

At least $1,000 or 2% of the revenue received from the severance tax goes to the Orphan Well Fund created under Part 616 of the Natural Resources and Environmental Protection Act, while the remaining revenue is allocated to the state general fund.

Alaska

The state of Alaska levies an annual severance tax on oil and gas produced in the state with a production tax rate set at 35% of the production tax value of the oil and gas as of January 1, 2014. The Alaska legislation also states that oil and gas produced from leases or properties outside the Cook Inlet sedimentary basin that do not include land north of 68 degrees North latitude are taxed at a rate not exceeding 4% of the gross value where production started after December 31, 2012, and before January 1, 2027.

The state legislation provides for various credit programs, such as a carried-forward annual loss credit in the amount of 45% for lease expenditures incurred between January 1, 2014, and January 1, 2016, relating to oil and gas developments located north of 68 degrees North latitude or in the amount of 35% for leases expenditures incurred on or after January 1, 2016. Other credit programs include the alternative tax credit for oil and gas exploration, oil or gas producer education credit, the qualified capital expenditure credit, the well lease expenditures credit, the transferable tax credit certificate, the transitional investment expenditure credit, the new area development credit, the small producer credit, the per-taxable-barrel credit, the Cook Inlet jack-up rig credit, the frontier basin credits, and the cash purchases of tax credit certificates.

On September 19, 2014, Alaska Governor Bill Walker signed into law Senate Bill 138 amending some provisions of the existing legislation, and providing new tax rates as of the year 2022. For oil and gas produced on or after January 1, 2022, the tax rate respectively would be equal to 35% of the annual production tax value of the taxable oil and 13% of the gross value at the point of production of the taxable gas.

Nebraska

In Nebraska, a severance tax is levied at a rate of 3% of the value of non-stripper oil and gas from state lands. The Nebraska Revised Statutes also provide for a tax preferential rate at 2% of the value of stripper oil severed from low producing wells as well as a tax exemption from the severance tax for the oil and gas used only in severing operations or for re-pressuring or recycling purposes.

All the revenue received from the oil and gas severance tax is credited to the Severance Tax Fund and then allocated based on whether the tax collected is coming from school or from all other lands. The balance of the Severance Tax Fund received from school lands is deposited in the permanent school fund and the balance of the Severance Tax Fund received from all other lands is distributed as follows:

-          1% is distributed to the Severance Tax Administration Fund;

-          Up to $300,000 goes to the State Energy Office Cash Fund;

-          Up to $300,000 is credited to the Public Service Commission for administration of the Municipal Rate Negotiations Revolving Loan Fund; and

-          The remaining money is distributed to the Permanent School Fund.

California

According to the California Department of Conservation, there is no severance tax imposed on oil and gas production in California, but there is an assessment on oil and gas produced within the state. The oil and gas assessment rate is based on the Division of Oil, Gas, and Geothermal Resources’ (DOGGR) estimated budget for the ensuing fiscal year and the total amount of assessable oil and gas produced during the prior year. For fiscal year 2017/2018, the oil and gas assessment rate is 50.38349 cents per barrel of oil or 10 Mcf of natural gas produced. The DOGGR states that this rate represents “an increase of 14.12298 cents from the previous fiscal year.”

Under Art. 7, Division 3 of the Public Resources Code, the revenue received from this assessment must be used exclusively for the support of the DOGGR, the State Water Resources Control Board and the regional water quality control boards, and the State Air Resources Board and the Office of Environmental Health Hazard Assessment for their oil and gas related activities.

Shale Law in the Spotlight: Oil and Natural Gas Severance Taxes in the United States (Indiana, Kentucky, Alabama, and Mississippi)

Written by Chloe Marie – Research Fellow

This series addresses severance taxes on oil and natural gas imposed by various states, and this fifth article will review the severance tax systems for the states of Indiana, Kentucky, Alabama, and Mississippi. In prior articles, we addressed the severance tax systems for the states of Pennsylvania, Ohio, and West Virginia; the states of Texas, Oklahoma, Louisiana, and Wyoming; the states of North Dakota, Arkansas, Colorado, and New Mexico; and the states of Kansas, South Dakota, Montana, and Utah.

Indiana

In the state of Indiana, there is a petroleum severance tax assessed at a rate of 1% of the value of the oil and gas; or $0.03 per 1,000 MCF for natural gas and $0.24 per barrel of oil – whichever is greater (IC 6-8-1-8). Money received from the petroleum severance tax is collected by the state Department of Revenue, and then distributed to the state general fund (IC 6-8-1-27). More precisely, the proceeds paid into the general fund are to pay for the expenses of administering the petroleum severance tax regulations, for the purpose of administering IC 14-37 by the oil and gas division of the department of natural resources and for research pertaining to the exploration for, development of, and wise use of petroleum resources in Indiana.

According to the Indiana Department of Revenue, the state general fund received a total of $902,172.92 in 2016, including $188,399.67 from the severance of natural gas and $713,773.25 from the severance of oil.

Kentucky

Kentucky legislation provides for the imposition of a severance tax on oil and natural gas with a rate set at 4.5% of the market value of all crude petroleum produced in the state (KRS 137.120) and 4.5% of the gross value of natural gas and all other natural resources severed or processed in the state (KRS 143A.020).

The Kentucky statute also provides for a tax credit against the natural gas severance tax in cases where natural gas is severed and produced from a recovered inactive well (KRS 143A.033) – i.e. a well that has been inactive for a consecutive two-year period or a well that has been plugged and abandoned based on the determination of the Kentucky Energy and Environment Cabinet, Division of Oil and Gas.

Alabama

The state of Alabama provides that any person engaging in the business of producing or severing oil and gas is taxed at a rate of 8% of the gross value based on the oil and gas produced (AL Code 40-20-2). The legislation also specifies that for specified offshore oil and gas production, the severance tax must be based on gross proceeds instead of gross production.

In addition, the legislation provides for the imposition of a severance tax for incremental oil and gas production from a qualified enhanced recovery project at a rate of 4% of gross production at the point of production of oil and gas. This severance tax rate also applies to wells producing 25 barrels or less of oil per day or producing 200,000 cubic feet or less of gas per day.

For oil and gas produced from onshore discovery wells, a severance tax rate of 6% of oil and gas production gross value applies provided that drilling began within 4 years of the well completion date and is producing from a depth of 6,000 feet or greater, or is within 2 years of the well completion date and is producing from a depth less than 6,000 feet. This 6% rate is applicable for a period of 5 years starting at the production date.

The legislation provides for tax reduction incentives for wells permitted on or after July 1, 1988 at a rate of 2%, and for wells permitted on or after July 1, 1996, and before July 1, 2002, at a rate reduced by 50% for a period of 5 years after first commercial production. A rate of 2% will apply at the end of the five-year period.

90% of the money received from the oil and gas severance tax, collected by the state Department of Revenue, is deposited to the state General Fund. The remaining 10% is allocated by the Comptroller and distributed to the oil and gas producing-counties and related institutions for county purposes (AL Code 40-20-8).

Mississippi

The state of Mississippi levies a severance tax based on the value of the oil and natural gas produced within the state using different tax rate formulas depending on the type of well or project classification (Miss Code 27-25-503 and Miss. Code 27-25-703). Those tax rates are as follows:

-          6% on the value of the oil and natural gas;

-          3% on the value of the oil produced from enhanced oil recovery project using carbon dioxide;

-          1.3% on the value of the oil and natural gas produced from horizontally drilled wells or horizontally drilled recompletion wells with an initial date of production from and after July 1, 2013, over a period of 30 months. The rate will be increased to 6% thereafter for the life of the well. This reduced 1.3% rate will end on July 1, 2018.

The Mississippi Code also provides exemptions from the severance tax and tax reduction incentives for a certain period of time, depending on the type of wells and date drilling first occurred (Miss. Code 27-25-703(3) to (7) and Miss. Code 27-25-503(3) to (5)).  

The money received from the oil and gas severance tax is collected by the state Department of Revenue and deposited in the state Treasury, and then distributed to the state and oil and gas producing counties based on different formulas depending on whether the money came from oil (Miss. Code 27-25-505) or natural gas (Miss. Code 27-25-705). 

Shale Law in the Spotlight: Oil and Natural Gas Severance Taxes in the United States (Kansas, South Dakota, Montana, and Utah)

Written by Chloe Marie – Research Fellow

This series addresses severance taxes on oil and natural gas imposed by various states, and this fourth article will review the severance tax systems for the states of Kansas, South Dakota, Montana, and Utah. In three prior articles, we addressed the severance tax systems for the states of Pennsylvania, Ohio, and West Virginia; for the states of Texas, Oklahoma, Louisiana, and Wyoming, and for the states of North Dakota, Arkansas, New Mexico, and Colorado.

Kansas

The state of Kansas imposes a severance tax at a rate of 8% of the gross value of all oil or gas severed from the earth or water in the state (K.S.A. 79-4217). Interestingly, the Kansas law allows operators to claim a tax credit against the severance tax paid (K.S.A. 79-4219). In case of natural gas severance and production, the taxpayer is entitled to a tax credit in the amount of 3.67% of the gross value of oil and gas produced in the state.

The Kansas legislation also provides that the following severance and production of gas is exempt from the payment of a natural gas severance tax as follows: gas injected underground for the purpose of lifting oil, recycling, or repressuring; gas used for fuel in connection with the operation and development for, or production of, oil or gas in the lease or production unit where severed; gas lawfully vented or flared; gas severed from a well with a gross value of production not exceeding $87 per day; gas inadvertently lost due to accidental reasons; gas used or consumed for domestic or agricultural purposes; and gas placed in underground storage for later recovery and which was either originally severed outside of the state of Kansas, or as to which the severance tax has been paid (K.S.A. 79-4217(b)(1)).

Those exemptions are valid for a period of two years and application for such exemptions must be made every two years to the Kansas Director of Taxation. Exemptions also apply to the severance and production of gas from an inactive well for a period of 10 years and to the incremental severance and production of gas resulting from a production enhancement project for a period of 7 years.

South Dakota

South Dakota imposes a severance tax on energy minerals severed in the state at a rate of 4.5% of the taxable value of any energy minerals (SDCL 10-39A-1). Energy minerals include coal, lignite, petroleum, oil, natural gas, uranium, and thorium, and any combination of minerals used in the production of energy.

According to the legislation, the proceeds from the tax levied on the energy minerals must be distributed as follows: 50% of the proceeds must be allocated to the county in which the energy minerals or mineral products were severed while the other 50% must be paid into the state treasury and credited to the general fund (SDCL 10-39A-8).

Montana

Montana law provides for the imposition of a severance tax on the gross value of oil and natural gas production; however, tax rates differ depending on the type of well and production, date of initial start of production, and whether it is a working or non-working interest.

For primary recovery production, Montana law allows reduced tax rates on production for the first 12 months of natural gas production, and as of October 1, 2016, the tax rate for the first 12 months of natural gas production is established at 0.80% for a working interest and at 15.10% for a non-working interest. At the end of the incentive period, a tax rate of 15.10% will be imposed on either a working or non-working interest for wells drilled prior to 1999. For wells drilled after 1999, the tax rate is set at 9.30% for a working interest and at 15.10% for a non-working interest.  

For stripper wells, a tax rate of 11.30% applies to working interest holders for wells drilled prior to 1999 while a rate of 15.10% applies to non-working interest holders as of October 1, 2016.

For horizontally completed well production, Montana law provides a tax incentive for such wells with a reduced tax rate set up at 0.80% for working interest holders and 15.10% for non-working interest holders as of October 1, 2016, during the first 18 months of qualifying natural gas production.

The proceeds obtained from the oil and gas severance tax must be more or less equally allocated between local and state governments (MCA 15-36-331).

Utah

The Utah Code provides for the payment of a severance tax on the taxable value of oil and natural gas produced, saved and sold, or transported from the field where the natural gas was produced (Utah Code 59-5-102). For oil, the tax rate is at 3% of the taxable value of the oil up to and including the first $13 per barrel for oil and 5% of the taxable value of the oil above $13.01 per barrel of oil. For natural gas, the tax rate is set up at 3% of the taxable value of the natural gas up to and including the first $1.50 per MCF for gas and 5% of the taxable value of the natural gas above $1.51 per MCF for gas. The legislation also provides that the tax rate for natural gas liquids is at 4% of the taxable value of the natural gas liquids. Furthermore, the Utah Code provides some tax incentives on incremental production for enhanced recovery projects with a tax reduction of 50% and a tax credit on gas used for the production of hydrogen fuel for use in zero emission motor vehicles.

Where a public entity has ownership rights in oil and gas or interests in the proceeds of oil and gas production, they are exempted from the severance tax imposition. In addition, the payment of this severance tax does not apply to the value of oil and gas produced from stripper wells, or produced in the first 12 months of production for wildcat wells after January 1, 1990, or produced in the first 6 months of production for development wells after January 1, 1990. The Utah legislation also provides that the severance tax does not apply when the natural gas produced, saved, sold or transported is derived from coal-to-liquids technology, oil shale, or oil sands (Utah Code 59-5-120).

The proceeds from the oil and gas severance tax must be collected and paid to the state treasurer, and then credited to the state General Fund (Utah Code 59-5-114). 

Shale Law in the Spotlight: Oil and Natural Gas Severance Taxes in the United States (North Dakota, Arkansas, Colorado, and New Mexico)

Written by Chloe Marie – Research Fellow

This series will address severance taxes on oil and natural gas imposed by various states, and this third article will review the severance tax systems for the states of North Dakota, Arkansas, Colorado, and New Mexico. In prior articles, we addressed the severance tax systems for the states of Pennsylvania, Ohio, and West Virginia as well as for the states of Texas, Oklahoma, Louisiana, and Wyoming.

North Dakota

The North Dakota Century Code provides for an oil and natural gas gross production tax – also called a severance tax – using different formulas for oil and gas. Oil is taxed at a rate of five percent of the wellhead value while gas is taxed at an annual adjusted rate per thousand cubic feet (Mcf), which rate is calculated based upon the average producer price index for gas fuels. The Office of State Tax Commissioner has determined that the gross production tax rate for natural gas is $0.0555 per Mcf for the fiscal year beginning July 1, 2017 through June 30, 2018. The severance tax must be paid by operators on a monthly basis.

The North Dakota law provides for several exemptions from the severance tax: gas produced from a shallow gas zone during the first 24 months of production from and after the date of first sales of gas; gas produced during testing prior to well completion or connection to a pipeline; certain wells where gas is used for electrical generation at well site; and certain wells that utilize a system to avoid flaring.

According to the North Dakota Century Code, revenues collected from the oil and gas gross production tax must be distributed by the State Treasurer following a specific formula to hub cities and related school districts, oil and gas producing counties, oil and gas impact grant fund, abandoned well reclamation fund, and North Dakota heritage fund. In addition, the legislation provides that 30% of the revenues collected from the gross production tax must be deposited in the state Legacy Fund while the remainder is to be allocated to the state general fund.

Arkansas

Under Rule 2008-4, Arkansas levies a severance tax from natural gas producers based on the market value of the natural gas produced within the state and at different tax rates depending on the categories of natural gas and classification of natural gas wells. Those tax rates are as follows:

-          1.5% on new discovery gas for the first 24 consecutive calendar months beginning on the date of first production;

-          1.5% on high-cost gas for the first 36 consecutive calendar months beginning on the date of first production;

-          1.25% on marginal gas;

-          5% on all natural gas not defined as new discovery gas or marginal gas; and

-          5% on high-cost gas following the 36 month high-cost gas cost recovery period.

The Arkansas legislature does not provide for exemptions or tax incentives from the natural gas severance tax.

Under Arkansas Code § 26-58-124, the funds collected from the gas severance tax must be deposited into the State Treasury as follows: 5% of the funds must be deposited as general revenues while the 95% remaining funds must be classified as special revenues and distributed according to Arkansas Highway Distribution Law §27-70-201 following a specific formula.

Colorado

Section 29-105 of the Code of Colorado Regulations provides for the imposition of a severance tax on oil and natural gas production within the state of Colorado based on gross income based on wellhead value:

-          If the gross income is less than $25,000, the tax rate is set at 2%.

-          If the amount of gross income is between $25.000 and $99,999, the tax rate is set at 3%.

-          If the amount of gross income is between $100,000 and $299,999, the tax rate is set at 4%.

-          If the amount of gross income is over $300,000, the tax rate is set at 5%.

A tax exemption applies to oil wells producing up to 10 barrels or less per day; however, there is no exemption for gas. In addition, the Colorado legislature provides for a tax credit in the amount of 87.5% of all property taxes paid except those imposed on equipment and facilities used for production, transportation and storage.

As for the revenue distribution, the Colorado legislature provides that the first $1.5 million collected from the severance tax revenue is allocated to the Innovative Energy Fund; then the remaining revenue is equally divided between the Department of Natural Resources (DNR) and the Department of Local Affairs (DOLA). The DNR’s severance tax revenue is deposited into the Severance Tax Trust Fund to then be distributed evenly between the Severance Tax Perpetual Base Fund and the Severance Tax Operational Fund.

The DOLA’s severance tax revenue is credited to the Local Government Severance Tax Fund and then distributed to local governments – 70% of those funds are available for discretionary loans and grants to local governments impacted by the mineral extraction industry while the remaining 30% are distributed directly to local governments.

New Mexico

Under the New Mexico Statutes, a severance tax is imposed on a monthly basis at rates determined as follows:

-          3.75% of taxable value of oil and natural gas severed and sold;

-          2.45% of taxable value of oil and natural gas produced from well workover projects; and

-          1.875% or 2.8125% of taxable value of oil and natural gas produced from stripper wells, depending on the per barrel threshold.

There is a tax exemption applicable to oil and natural gas severed and sold from production restoration projects during the first ten years of production following the restoration of production.

The revenue collected from the severance tax must first pay the required debt service on severance tax bonds and thus be deposited in the severance tax bonding fund. The remaining severance tax revenue must be distributed in the severance tax permanent fund, which makes annual distributions to the state General Fund equal to 4.7% of the 5-year average market value.

Shale Law in the Spotlight: Oil and Natural Gas Severance Taxes in the United States (Texas, Oklahoma, Louisiana, and Wyoming)

Written by Chloe Marie – Research Fellow

This series will address severance taxes on oil and natural gas imposed by various states, and this second article will review the severance tax system for the states of Texas, Oklahoma, Louisiana, and Wyoming. In a prior article, we addressed the severance tax systems for the states of Pennsylvania, Ohio and West Virginia.

Texas

Under the Texas Tax Code, any operator who produces natural gas must pay a severance tax equal to 7.5% of the market value of gas produced. (TAX § 201.051-052). The Code provisions specify that such tax does not apply to underground natural gas storage, natural gas withdrawals from oil wells, gas lift for oil wells, and natural gas produced from wells previously inactive or from reactivated orphan wells (TAX § 201.053). The Texas Tax Code also imposes a condensate production tax at a rate of 4.6% of the market value of gas (TAX § 201.055).

Producers may benefit from a severance tax credit for qualifying low-producing wells if production on an eligible gas well does not exceed 90 Mcf per day during a three-month period (TAX § 201.59). The Texas Code clarifies that this exemption does not apply to casinghead gas or condensate. Producers also are exempt from paying such tax if they increase their well production by marketing natural gas flares from an oil well or lease (TAX § 201.058).

In some cases, producers may be exempt from the severance tax or obtain a tax reduction for certain high-cost gas wells; however, the Texas Railroad Commission must certify those wells as producing high-cost gas (TAX § 201.057). When the gas well qualifies for several severance tax incentives, the taxpayer can choose which incentive is most favorable based on the average price of gas, and this for each individual reporting period.

Oklahoma

The Oklahoma legislature provides for a gross production tax, or severance tax, at a rate of 7% of the gross value of the production of natural gas. In addition, it also provides for a gross production tax incentive levy of 2% for the production of oil and gas from wells drilled on or after July 1, 2015, over a period of 36 months ending in July 2018. The rate will be increased to 7% thereafter for the life of the well.

In addition, the Oklahoma legislature provides an exemption from the gross production tax for a certain period of time on 1) incremental production from secondary and tertiary enhanced recovery projects; 2) horizontally drilled wells; 3) reestablished production from inactive wells; 4) incremental production from production enhancement projects; 5) production from deep wells; 6) production from new discovery wells; and 7) production from wells drilled based on 3-D seismic surveys. The well producers are required to meet sunset dates for the qualification of gross production tax exemptions.

Oklahoma legislation stipulates that all horizontal wells drilled for production prior to July 1, 2011, are exempted from the gross production tax for a period not exceeding 48 months from the initial production date. Pursuant to severance tax legislation enacted in May 2017, all horizontal wells drilled for production between July 1, 2011 and July 1, 2015 can benefit from a reduced tax of 1% for a period of 48 months from the initial production date. After the 48-month period elapses, operators pay a reduced rate of 4%.

Louisiana

In Louisiana, the severance tax rate effective from July 1, 2017 through June 30, 2018 is set at 11.1 cents per Mcf of natural gas produced. According to the Louisiana revised statutes (LA Rev Stat § 47:633), the severance tax is calculated on a base rate of 7 cents per Mcf to be adjusted annually on July 1^st by a “gas base rate adjustment.” The statutes explain that the “gas base rate adjustment” must be determined by the Department of Natural Resources Secretary and represents a fraction, which numerator is the average of the New York Mercantile Exchange (NYMEX) Henry Hub settled price as reported in the Wall Street Journal and which denominator is the average of the monthly average spot market prices of gas fuels delivered in the pipelines as reported by the Natural Gas Cleaning House.

The Louisiana legislature also provides a specific tax to “incapable” gas wells – which are incapable of producing an average of 250,000 Mcf of gas per day during the entire taxable month – at 1.3 cents per Mcf as well as to produced water-incapable gas wells.

Under the Louisiana statutes, there are exemptions from the gas severance tax, including for natural gas production from wells drilled at a depth of 15,000 feet; natural gas production from horizontal wells but only for a two-year period or until payout of well costs; and natural gas reestablished production from inactive wells for a period of five years.

The gas severance tax is not applicable to underground gas injection for storage purpose; gas produced out of state and brought into the state of Louisiana to be injected into the ground; gas produced from flared or vented wells; gas used for fuel; gas consumed in the production of natural resources in the state of Louisiana; and gas used in the manufacture of carbon black.

Wyoming

Wyoming levies a severance tax on the production of natural gas at a rate of 6% of the value of the gas produced (W.S. § 39-14-204(a)). In addition to the severance tax, Wyoming levies a gross production tax on the same value as that used for severance tax purposes, which is collected by the counties.

Money collected from the severance tax must be deposited in the permanent Wyoming Mineral Trust Fund, and then distributed to local governments on a quarterly basis in an amount equal to ¼ of the amount estimated to be earned in the current fiscal year (W.S. § 39-14-211).

The Wyoming statutes provide for exemptions (W.S. § 39-14-205) from the severance tax applicable to 1) stripper wells; 2) tertiary production projects for a period of five years from the initial production date; 3) wildcat wells drilled and completed between January 1, 1991 and December 31, 1994, for a period of four years from the initial production date; 4) wells drilled between July 1, 1993 and March 31, 2003 for the first 24 months of gas production equivalent to up to 6 Mcf for one barrel oil production or until the sales price exceeds $2.75 per Mcf of natural gas for the preceding 6 months period of time; 5) incremental production resulting from a well workover or recompletion between January 1, 1997 and March 31, 2001 for a two-year period from the beginning of the workover or recompletion; 6) gas produced from flared or vented wells; 7) gas consumed in the production of oil and gas on the same lease or unit.

Shale Law in the Spotlight: Natural Gas Severance Taxes in the United States (Pennsylvania, Ohio and West Virginia)

Written by Chloe Marie – Research Fellow

This series will address severance taxes on natural gas imposed by natural gas-producing states and this first article will review the severance tax system for the states of Pennsylvania, Ohio and West Virginia.

Pennsylvania

The state of Pennsylvania does not levy a severance tax, but rather imposes an impact fee on unconventional gas wells. Pennsylvania Governor Tom Wolf has repeatedly proposed a severance tax on unconventional natural gas extraction, but each time the proposal has failed to advance through the Pennsylvania General Assembly.

For the year 2015-2016, Governor Wolf proposed to impose a severance tax at a rate of 5% on natural gas extracted at the wellhead plus a fixed tax amount of 4.7 cents per volume MCF. This proposal set a pricing floor for producers at $2.97 per Mcf – meaning that each time the average market price was below $2.97, the pricing floor would have been used to calculate the severance tax. In 2016, Governor Wolf proposed a severance tax at a rate of 6.5% of the value of the natural gas. In the 2017-2018 Pennsylvania Executive Budget issued on February 7, 2017, Governor Wolf once again proposed a severance tax of 6.5% of the value of natural gas extracted with the possibility to convert the amount paid in impact fee as credit against the severance tax.

In Pennsylvania, the state Public Utility Commission (PUC) is responsible for administering the impact fee – also called the unconventional gas well fee – as well as overseeing its collection and distribution to local governments and state agencies (58 Pa. C.S. chap. 23). Every unconventional gas producer must pay this fee to the Commission for each well they spud each calendar year. The impact fee is calculated based on the average annual price of natural gas and the age of the well.

All fees must be collected and deposited in the Unconventional Gas Well Fund no later than April 1 of each year and then distributed from the fund no later than July 1 of each year following a specific formula. Prior to the distribution of any funds to local government entities, funds are distributed to state agencies as follows (funds are increased annually based on the Consumer Price Index):

·       PA Fish and Boat Commission - $1,000,000

·       PA Public Utility Commission - $1,000,000

·       PA Department of Environmental Protection - $6,000,000

·       PA Emergency Management Agency – $750,000

·       PA Office of State Fire Commissioner - $750,000

·       PA Department of Transportation - $1,000,000

·       PA Housing Affordability and Rehabilitation Enhancement Fund - $2,500,000

·       County conservation districts - $7,500,000

Once these initial distributions have been made, 60% of the remaining revenue must be distributed to local governments on the basis of the following formulas:

·       36% to counties based on the number of spud wells in each county;

·       37% to municipalities based on the number of spud wells in each municipality; and

·       27% to municipalities based on the number of spud wells in each county based on the proximity to the wells, the total population and the total highway mileage of the eligible municipalities within the county.

The remaining revenue must be deposited in the Marcellus Legacy Fund and distributed to state agencies and projects, including:

·       20% to the Commonwealth Financing Authority 

·       10% to the Environmental Stewardship Fund

·       25% to the Highway Bridge Improvement Restricted Account

·       25% for water and sewer projects

·       15% for greenways, trails, recreation, open space, etc.

·       5% to the Department of Community and Economic Development (DCED); however funds not utilized by the DCED must be deposited in the Hazardous Sites Cleanup Fund.

For drilling in 2016, the Commission collected and appropriated $173,258,900.00, which amount is a small decline compared with previous years.  The Pennsylvania PUC sets forth the previously received amounts as follows:

·       2015 - $187,711,700.00

·       2014 - $223,500,000.00

·       2013 - $225,752,000.00

·       2012 - $202,472,000.00

·       2011 - $204,210,000.000

Ohio

The severance tax is set at 2.5 cents per thousand cubic feet (Mcf) of natural gas extracted. The Ohio Revised Code provides for an annual exemption applicable to landowners using natural gas produced from their own wells; however, this exemption is limited to the extent that natural gas resources should not exceed a cumulative market value of $1,000 per year (ORC § 5749.02(A)(6)).

As for the revenue distribution, 10% is deposited in the Geological Mapping Fund while the other 90% is deposited in the Oil and Gas Well Fund (ORC § 5749.02(B)(4)). Payments are made electronically each quarterly period.

In addition to the severance tax, well owners are subject to an oil and gas regulatory cost recovery assessment, with an exception provided for an exempt domestic well (ORC § 1509.50). The cost recovery assessment is calculated on a quarterly basis using a formula that takes into consideration the amount of severance taxes paid, the amount of oil and gas production, and the total number of wells owned or being reported. The amount of severance taxes is added to the assessment based on production and the resulting sum is then compared to the minimum assessment amount – which is $15 per well. The severance taxes are subtracted from the greater of the two amounts to arrive at the assessment amount due.

West Virginia

In West Virginia, a severance tax has been set at 5% of gross value of natural gas measured at the wellhead (WVC § 13A). Before July 1, 2016, natural gas producers also had to pay an additional severance tax by volume of 4.7 cents to state Tax Commissioner. The money received from this additional tax used to be deposited in the Workers’ Compensation Debt Reduction Fund to pay off debts associated with the state-run workers’ compensation system prior its privatization in 2006. On February 29, 2016, however, Governor signed SB 419 into law terminating the Workers’ Compensation Debt Reduction Act and thus also terminating the payment of this additional 4.7 cent tax as of July 1, 2016.

The West Virginia Code provides for severance tax exemptions applicable to wells producing less than 5 Mcf of natural gas per day and wells not producing marketable quantities for 5 consecutive years, which exemption is for up 10 years.

90% of the revenue from the severance tax is then deposited in the West Virginia General Fund and the first $24 million of the revenue collected is distributed to debt service for infrastructure bonds. The remaining 10% is distributed to counties and municipalities. Of this percentage, 75% is distributed to oil and gas producing counties, and 25% is distributed to all counties and municipalities based on population densities.