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Impact Fee Could Affect Your Royalty Payments

February 17, 2012
By: Scott P. Borsack

After years of wrangling, political debate and lobbying, the Pennsylvania Legislature has agreed to a special fee assessed against oil and gas exploration companies. On February 13, 2012, Governor Corbett signed into law House Bill 1950. You should have heard about this legislation, upon which there was legislative agreement only moments before the governor delivered his budget address to the Legislature. It has the potential to affect landowners and municipalities.  Some important highlights of the new law are discussed below. 

First and foremost, the new law creates an impact fee that can potentially be applied to every producing well in the Commonwealth. I say potentially because to be liable for the fee a well must be found in a county that enacted an ordinance based upon the state law. If a county fails to act, it will not share in the statewide receipts from impact fees, and wells in its jurisdiction may not be subject to the fee. Seems odd to me that the state would pass a law to charge an impact fee that would require the counties to enact an enabling ordinance to fix the obligation of exploration companies to pay the state mandated fee, but that is what the law provides.

There are essentially different charges for vertically drilled wells and those that start vertically and have horizontal legs. Those with horizontals face the highest fee under the law. In order for a well to be subject to the levy it must be capable of producing more than 90,000 cubic feet of natural gas a day during a calendar month. The fee is collected during the first 15 years of production, on a reducing scale. Based upon current gas prices, in the first year, the fee is $45,000, then $35,000 in the second year, $30,000 in the third, $15,000 in the fourth through tenth years and $10,000 in the eleventh through fifteenth years, or $265,000 based upon current gas prices. The law contains an adjustment factor changing the fee as the price of natural gas rises and falls. With the current price of the commodity, and the imbalance between supply and demand right now, the price of gas is not likely to require an adjustment in the near future. If a well is fractured for a second time, drilled into a new formation, say for example a well which starts in Marcellus but is later drilled for Utica, or has additional horizontal legs drilled after initial exploration, it is treated as a new well once these new activities are completed. That means the higher rates apply. So millions of dollars are to be collected as the result of this new impact fee. We should know where this money is going.

After relatively minor allocations to County Conservation Districts, Fish and Boat Commission, State Fire Commissioner, Emergency Management Response, a new fund to support natural gas development in the Commonwealth, the Pennsylvania Public Utility Commission and the Department of Environmental Protection, the balance of the fees collected are shared between affected counties and other beneficiaries across the state – major urban areas. That division is made 60% for the affected counties and 40% across the state. So the impact fee addresses the burdens placed on gas producing regions by allocating only 60% of the amounts collected to those regions. Major population centers, such as Philadelphia and Pittsburgh stand to do very well once the impact fees begin to flow into the State treasury.

Buried at the end of the law are provisions intended to eliminate nearly all regulation by municipalities of oil and gas exploration activities within their borders. Several municipalities had begun to interpret their land use laws in such a way as to control exploration activities. The new law reinforces the supremacy of state law and clearly commands that all such local ordinances are “superseded.”  Municipalities and counties have begun to scramble to determine which of their ordinances and regulations have been rendered meaningless by this new state law. Others are trying to identify what activities they can still regulate. Exploration companies are likely cheering the uniformity which this provision will introduce to the regulation of their activities. The law also contains a myriad of public safety provisions intended to make drilling activities safer, to limit the placement of wells, and the activities on a well pad. 

As you can see, there is quite a bit to this new law. At this point you have to be wondering whether this new law will affect you where it counts – in the wallet. If you are a landowner with a natural gas lease and are receiving royalties, it might affect you. Your exploration company might seek to reduce the amount of your royalty payments by this new impact fee. Some leases provide that the landowner is entitled to a royalty “in an amount equal to the current market value at the wellhead as and when produced of one-eighth (1/8) of all oil, gas and the constituents thereof produced…”  In that case you would think that impact fees, costs of transportation, taxes, etc. are not subtracted from the base to determine your royalties. Other leases add in the words “free of costs” further reinforcing the notion that royalty payments should not be reduced by the expenses and costs incurred by the exploration companies to extract and transmit gas. Another popular form of lease pays the royalty on the “revenue realized” by the exploration company, potentially creating the opening to charge the impact fee to the landowner on the theory that the exploration company only “realizes” as much revenue as it is permitted to retain. The language used, together with the veneer placed on leases by the courts could lead an exploration company to reach into your pocket to recover its loses from the impact fee. Every well being drilled today is subject to the first year fee which is due in September of this year. It may take negotiation or litigation with exploration companies to reverse overreaching if it is discovered. Examine your royalty statements closely to be sure that this fee is not charged to you. We can help protect your rights in this regard. 

Marcellus Shale Tax Seminar

With the New Year comes our new seminar schedule for the 2012 year. We are planning 12 stops on our tour this year. On April 16 and 17 we will be in Williamsport, May 7 in Mansfield, May 8 in Towanda, June 19 in Liberty and June 20 in Troy. This year we will introduce a new topic – Avoiding Planning Nightmares – to our time honored program addressing tax concerns in the leasing relationship. For more information please refer to our website at www.marcellusshaletax.com.  

This correspondence should not be construed as legal advice or legal opinion on any specific facts or circumstances. The contents are intended for general informational purposes only, and you are urged to consult a lawyer concerning your own situation and legal questions.
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