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Now is the time to weigh in on proposed severance tax changes

Published Jul. 18, 2012 | Discuss this article on Facebook
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Buckeye Farm News

The Issue

Gov. John Kasich has introduced a proposal that would make significant changes in the Ohio severance tax system, which applies to oil and natural gas wells. The proposal would increase taxes on horizontal wells and provide a tax reduction or no change in taxes on production from vertical wells.

The proposal calls for the new tax revenue from horizontal wells to pay for reductions in Ohio’s income tax rates.

 

BACKGROUND - WET GAS VS. DRY GAS

Previously, oil and gas wells in Ohio were drilled in a vertical direction only. Today’s oil and gas drilling in the shale formations use a horizontal drilling method.

When natural gas is extracted from the ground, it is “wet;” it contains a number of additional liquids such as butane, ethane, propane and natural gasoline that have to be removed before the gas is marketable. These liquids are known as condensate.

Natural gas from which these liquids have been removed is known as “dry” gas. Because the amount of gas in most vertical wells in Ohio is relatively small, these additional liquids have not typically been commercially significant to the producer.

It is believed that these liquids will now become commercially important as natural gas reserves in the shale formation are so extensive and a horizontal well makes accessing the gas comparatively easier.

 

PROPOSED TAX CHANGES

Currently, severance tax is imposed upon the extraction, or severance, of certain natural resources including oil and natural gas from the soil. Natural gas liquids are not subject to tax as natural resources. The attached chart shows the proposed tax changes. 

Proposed Income Tax Reductions

The proposed new taxes on horizontal wells are dedicated to a new fund entitled “shale resource income tax relief fund.” Estimates suggest that Ohio's income tax could be cut by 5 percent, although that amount could vary based on a variety of factors.

Other Existing Taxes

In addition to actual severance tax, there are other taxes in Ohio that may have an impact on the oil and gas industry and landowners including: State and Local Sales and Use Tax; Commercial Activities Tax (CAT); Ad Valorum tax (property taxes); and Severance Taxes.

 

FREQUENTLY ASKED QUESTIONS RELATED TO THE PROPOSED TAX FRAMEWORK

Are the proposed taxes paid by drilling companies or landowners?

How any taxes and fees are paid very much depend on how the lease between landowner and the drilling company is written. This is a good reminder to always seek experienced legal advice when entering into a lease or other contract. You may or may not be required to pay a percentage of the tax. Your lease will determine how taxes and fees are paid, just as it will determine royalty payments. If your lease is unclear or if you would like some clarification, you should seek the advice of legal counsel.

Note: Some have advocated for a change in Ohio law to require the drilling companies to pay all taxes regardless of the lease structure. Ohio law cannot change a valid contract but could establish new guidelines for future leases.

How much would my income tax be reduced if this were to go into effect?

The governor’s fact sheet estimates that income tax cuts could reach $500 million annually. In terms of the median Ohio household, rebate estimates have ranged from $40 to $70 annually. The governor argues that in general, income tax relief will help inject new capital into the economy and generate increased economic activity.

The tax reduction is going to depend on your total tax liability.

For Ohioans with a higher state tax liability, the rebate would be more. For Ohioans with a lower state tax liability, the rebate would be less.

Would this proposal reduce my royalty payments under my existing lease?

That is a possibility and would depend on how your existing lease is written.

What is Ohio Farm Bureau’s position on this proposal?

Ohio Farm Bureau has not taken a position at this time.  You can read Ohio Farm Bureau's current policies on taxes and oil and gas exploration.

 

POSITIONS OF VARIOUS STAKEHOLDERS

Proponents of the proposal have generally argued that:

Ohio’s income tax rate makes our state less competitive in drawing in business and economic development, which could be improved by an income tax reduction.

The oil and gas industry does not pay taxes that are competitive with those paid in other states or when considering their profits.

The existing investment by the oil and gas companies means that they will not leave the state.

Opponents of the proposal have generally argued that:

The proposal will make drilling in Ohio uncompetitive in terms of taxation.

The proposed taxes are actually very high because they are based on gross receipts and not revenues.

The proposal will dissuade their industry from continuing to invest here in Ohio at this time and may have the effect of driving the horizontal wells out of the state.

 

INTERESTED PARTIES

Other interested parties (including an OSU Swank Program report “Making Shale Development Work for Ohio”) have weighed in that an increase of the severance tax may make sense, but that increased revenue should be used to cover the short-term costs of extraction, including infrastructure, amenities and public services and the possible long-run costs of providing increased levels of education and maintaining a diverse local economy that does not rely so heavily on a single source of revenue.

The argument is that this would help prepare local areas for the possible volatility that occurs in regions rich in natural resources.

However, others believe that the severance tax should not be increased. This includes those who fundamentally oppose increases in any taxes and landowners with wells that will pay increased taxes based on their contract.

 

DISCUSSION QUESTIONS

1. Are Ohio taxes generally too high? Will this proposal make Ohio more attractive to businesses?

2. Do you feel that the existing tax structure on oil and gas production is correct? Should it be increased? Decreased? If the existing tax structure on oil and gas production should be increased, is the current proposal the right amount of an increase?

3. Do you feel that a tax increase on oil and gas production, if levied, should go to reduce income taxes in Ohio? Is this a good use of the money, or should it be directed to another source such as education funding, property tax reduction, local government funds, providing services or general budget needs of the state? Is there another expenditure not listed above that makes more sense?

4. How does an increase in severance tax fit into our overall policy on Ohio’s tax structure?

5. How does the governor’s proposal of increasing severance tax to reduce overall income tax fit into our overall policy on Ohio’s tax structure?

6. Are there any things we’ve not considered that should be further explored during the policy development process?



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