States grapple with taxes on natural gas production

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When Gov. John Kasich introduced his 2016-17 budget proposal in February, one key component was reducing income taxes. This would have been partially funded by the modernization of Ohio's oil and gas tax system, including the imposition of a 6.5 percent severance tax on oil and gas production levels at the wellhead for fracking wells, and a 4.5 percent tax for natural gas and natural gas liquids when sold downstream. Ohio's current oil and gas tax rate is 20 cents per barrel on oil and 3 cents per thousand cubic feet of natural gas. As we noted when the governor released his budget proposal, this provision is expected to generate $76.5 million and $183.4 million in fiscal years 2016 and 2017, respectively.

This proposal has generated significant controversy. The Plain Dealer reported that in light of the looming June 30, 2015, budget deadline, lawmakers have bought themselves time by sending the issue for study by way of a proposed Ohio 2020 Tax Policy Study Commission. This means that the budget will not contain these taxes, though it is now unclear how Gov. Kasich’s proposed income tax cuts will be funded. The commission will present its findings in October.


Ohio is not the only state grappling with a fracking tax. StateImpact NPR reported that during Pennsylvania Gov. Tom Wolf’s election efforts last year a central component of his campaign was his criticism of his predecessor’s handling of Marcellus Shale gas development. At the time, Wolf pledged to impose a 5 percent severance tax on the industry and to eliminate the impact fee for each well drilling for gas in the Marcellus Shale formation.

StateImpact NPR explained that the actual amount of Pennsylvania’s impact fee, which is based upon natural gas prices and the consumer price index, changes each year. In 2013, gas companies paid $50,000 for each new well, and in the four years of 2011 through 2014, this fee generated $853.5 million of revenue for the state. From the impact fee revenue, 60 percent stays with the municipalities and counties in which the wells are located. The rest goes to certain state agencies that are involved in the regulation of gas drilling and to the Marcellus Legacy Fund, which spreads its funds around the state for environmental and infrastructure projects.

Many oppose Gov. Wolf’s bill, HB 1142, which proposes utilizing the approximate $1 billion raised from the tax, and the 4.7 cents charge per thousand cubic feet of volume on the ground for education reinvestment.

For example, PennLive described testimony from the Independent Fiscal Office which contends that Gov. Wolf’s tax, which amounts to an effective tax rate of 7.3 percent, would catapult Pennsylvania from last to first among major gas-producing states. Ohio’s rate is 0.8 percent, West Virginia’s is 5 percent, and Texas’s rate ranges from 3.1 to 3.5 percent.

Gov. Wolf asserted that the 7.3 percent effective tax rate is artificially high because that estimate does not properly account for production costs. Similarly, the president of the Marcellus Shale Coalition opined that the effective tax rate on the industry is 5.9 percent, or an annualized figure of about 4 percent, given fluctuations in gas prices. Even so, he suggested that the severance tax would cause many firms to invest elsewhere, because they are already operating at a loss and are not in a position to pay an additional tax.

Lawmakers are also concerned about the tax. One representative warned that it would hurt both the gas companies and the ancillary beneficiaries, like the local contractors who service the wells and the communities that rely on impact fees for infrastructure.

In a study titled "The Economic Impacts of the Proposed Natural Gas Severance Tax in Pennsylvania," the author, a distinguished professor of energy economics at the University of Wyoming, concluded that a parade of horribles would befall the state if the tax were to take effect, including the following:

  1. Reducing the number of wells, leading to a cumulative investment loss of $11.5 billion between 2016 and 2025.
  2. During that same time, cumulative losses in natural gas and liquids production amounts to about $11.2 billion.

  3. Reducing supported employment by nearly 18,000 by 2025 as compared with levels without the tax.

  4. Reducing Pennsylvania’s natural gas output by over 900 million cubic feet per day by 2021.

The author opines that because the new oil and gas production technologies offer more flexibility, producers can move their equipment to more profitable areas relatively easily, if and when costs rise. The American Petroleum Institute funded the study, but the author states that his findings and conclusions are his alone.

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