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Week of 6.16.06

FAQ: Oil and Gas Royalty Relief

What is royalty relief?

In 1995 Congress passed the Deep Water Royalty Relief Act, which granted a royalty "holiday" to oil and gas companies drilling in deep waters for leases sold between 1996 and 2000. The act reduced the amount of royalties that companies had to pay for drilling in American waters in the Gulf of Mexico. At the time when gas prices were fairly low, the move was seen by many as an incentive to get petroleum companies to drill for oil and natural gas and keep energy production inside the United States.

Further royalty relief came after the Act expired in 2001, with Gale A. Norton, who was interior secretary. She offered royalty incentives to shallow-water producers in 2004.

Last year, President Bush signed an energy bill that contained $2.6 billion in new tax breaks for oil and gas drillers and a modest expansion of the 10-year-old royalty relief program, according to the New York Times.

How much were royalties before the Act?

For much of the past century, oil and gas companies had agreed to pay at least 12 percent in royalties for a lease to drill on public land or water. Over the years, those royalty payments have generated over $100 billion in revenues. Under the royalty relief program companies do not have to pay that 12 percent on up to 87.5 million barrels of oil, except when market prices reach $34 a barrel and for natural gas when prices climb above $4 per thousand cubic feet.

Where does the royalty money go?

The great majority of it goes to the general US Treasury. A small portion of the funds go to the Historical Preservation Trust Fund and the Land and Water Conservation Fund. Many states and Indian tribes also benefit from oil and gas royalty payments from drilling done on state-owned or Indian-owned properties.

How much money will the government lose?

The Government Accountability Office (GAO) has estimated that, depending on the outcome of a lawsuit by the Kerr-McGee Corporation, the government could lose a total of $80 billion over the next 25 years.

Part of the reason why the number is so high is because of a major clerical mistake made on about 1,000 leases that the Clinton administration signed with oil and gas companies in 1998 and 1999. The Interior Department omitted the restriction that incentives were supposed to stop when prices for oil reached $34 a barrel and prices for natural gas climbed above $4 per thousand cubic feet.

Why is the Kerr-McGee Corporation suing the Bush Administration?

The company argues that Congress never authorized the government to set price cut-offs for incentives on leases awarded from 1996 to 2000 because it had not yet produced the minimum volume required under the law to be royalty-free. "The government is trying to take away the guarantees that were enacted by Congress," the company said in a statement. [Requires Adobe Reader]

If the company wins the suit, which is considered a test case for the oil and gas industry, about three-quarters of oil and gas produced in the Gulf of Mexico will be royalty free for the next five years, The New York Times reports.

Were oil companies ever sued in the past for not paying royalties?

Yes. In the 1990s, the Project on Government Oversight, a watchdog group, along with a number of industry insiders, sued to try to win back missing royalty payments. More than a dozen oil companies, while not admitting any wrongdoing, paid over $400 million to settle the case.