Oil and natural gas production in Oklahoma is on the rise. New horizontal drilling and hydraulic fracturing technologies have allowed companies to cost-effectively extract “unconventional” oil and gas trapped inside tight shale rocks.
These new technologies are expensive and intensive. Extracting unconventional oil and gas requires more wells, trucks, water and workers compared with conventional vertical wells.
While these greater investments and activity result in more job opportunities, they also impose greater demands on roads, public safety, housing and other local government services. Oklahoma's gross production tax raises revenue to facilitate development and mitigate these impacts, but as a result of generous tax subsidies, it's proving to be too little to pay for these services. The state continues to face budget shortfalls.
Oklahoma has a relatively simple gross production tax on oil and natural gas of 7 percent, with an incentive rate of only 1 percent on new horizontal wells for a “holiday” period of four years. As states across the country look to benefit from economic development opportunities that unconventional oil and gas drilling provides, can Oklahoma remove its drilling incentive to ensure adequate revenue is available to facilitate development, reduce budget shortfalls and remain competitive?
A study conducted by my firm, Headwater Economics, finds that Oklahoma's tax rate on oil production — accounting for the holiday — is the lowest of seven major oil-producing states, including Colorado, Montana, New Mexico, North Dakota, Texas and Wyoming. Only one other state (Montana) extends a holiday incentive.
Among seven leading natural gas-producing states, Oklahoma's tax rate ranks sixth. Three other natural gas-producing states (Arkansas, Louisiana and Texas) extend holiday incentives, while three do not (New Mexico, Pennsylvania and Wyoming). Even without the four-year tax incentive, Oklahoma's tax rate of 7 percent would still compare favorably to most major producing states, including Texas, for both oil and natural gas.
Studies show that the differences between state tax policies, while important, aren't enough to shift industry activity from state to state in a significant way. Instead, geology, available technology and price remain the primary factors driving all oil and gas drilling activity. States without incentives haven't suffered for industry's attention — North Dakota's tax rate on oil is three times higher and Texas' oil tax is twice as high as Oklahoma's current rate.
If Oklahoma chooses to remove its 1 percent holiday incentive, it will stand out only for having an unremarkably simple and middle-of-the-road tax policy. On the other hand, the state would stop the loss of significant tax revenue that could benefit the state's roads, schools and local governments where drilling is taking place, better facilitate oil and natural gas development and create broader job opportunities across the state.
Haggerty is a policy analyst with Headwaters Economics, an independent, nonprofit research organization. The state tax comparison report is available at www.okpolicy.org.