Executives from three of Oklahoma’s largest oil and natural gas companies have proposed a new plan for the state’s tax on oil and natural gas production.
The proposal is the latest offering in the ongoing struggle at the Capitol to address the current tax plan, which is set to expire next year.
The newest proposal would change the gross production tax rate to 2 percent for both horizontal and vertical wells for the first four years of production. The rate would then rise to 7 percent. The proposal has earned the backing of Larry Nichols, executive chairman at Devon Energy Corp.; Harold Hamm, CEO of Continental Resources Inc.; and Chesapeake Energy Corp. CEO Doug Lawler.
“We’ve come up with a proposal that makes the tax simpler, makes it permanent, treats everyone in the industry the same way so it’s totally fair for everyone in the industry,” Nichols said. “It has a modest tax increase to it and continues the economic activity, which benefits everybody.”
The plan has drawn swift criticism from others in the state, including fellow oilman George Kaiser, who said he is concerned the state regularly is among the lowest in the country in teacher pay and health care.
“I have lived here for more than two-thirds of the life of the state. I see what’s happening to the state,” said Kaiser, owner of Tulsa-based Kaiser-Francis Oil Co. “Something has to give. I’m prepared to pay my fair share to the state of Oklahoma.”
Kaiser said he would like to see oil and gas companies — including his — pay 7 percent in gross production taxes
Gov. Mary Fallin’s office indicated a willingness to discuss the 2 percent proposal.
“The governor is inclined to support the concept and thanks the industry and Legislature for collaborating in the review process we recommended last summer,” Secretary of Finance Preston L. Doerflinger said.
The state historically has assessed a 7 percent tax on most oil and natural gas production. In 1994, the Legislature created an incentive for horizontal drilling. The incentive initially lowered the tax rate to 1 percent for the first two years or until costs were recovered. In 2002, the incentive was extended to up to four years.
The incentive program is set to expire next year in a move that would return the tax rate to 7 percent. Industry leaders have said the tax credit should be extended because it has been successful in boosting drilling throughout the state, and that higher taxes would leave less money available for drilling.
Critics, however, say the tax credit has served its purpose and is no longer necessary. They point out that the lower rate was put in place when horizontal drilling was new and risky, but that it now represents about 90 percent of the drilling activity in the state.
Industry leaders say the low tax rate is needed to make Oklahoma competitive with drilling in other states, such as North Dakota and Texas.
“While we have a lot of opportunity, Oklahoma does not have the best rock,” Lawler said. “We have good rock, but not the best rock.”
“We are very focused on driving additional value and additional investment towards the opportunities in Oklahoma, but with an increased tax, a 100 percent tax increase is what we’re endorsing. But ... if we go beyond that, it will limit the amount of activity and reduce the investment in the state,” Lawler said.
A good oil well in Oklahoma produces up to 400 barrels a day. In east Texas, wells are producing up to 1,500 barrels a day, and North Dakota wells can produce up to 4,000 barrels a day.
“The rates of return on a whole lot of wells being drilled in Oklahoma are 10 to 15 percent compared to 20, 30, 45 percent returns elsewhere,” Nichols said. “Like with any business, you spend your money where you can get the best return. If you don’t, you’re not going to be CEO very long. Some activist is going to come in and teach you economics 101.”
Expiration is next year
While the tax credit will not expire until the middle of next year, the issue needs to be addressed before the legislative session ends later this month.
Like most companies, oil companies will set their 2015 budgets this fall. If the tax structure is not changed this session, they will assume that the rate will move to 7 percent next summer.
“That will undoubtedly result in the budgets we prepare in the fall having less drilling in Oklahoma because we cannot get it all drilled before July 1,” Nichols said.