In Harrisburg, Rep. Garth Everett’s push for oil and gas royalty legislation — the bare-bones part of it — now goes by the motto “an eighth is an eighth.”
It’s a reference to a 1979 Pennsylvania law requiring that mineral owners who lease the right to develop their land to an oil and gas company receive at least 12.5 percent — or an eighth — of that company’s profits from selling those minerals.
That was easy to calculate when gas flowed from the well into a local utility’s pipeline.
Shale gas requires more fussing. It needs to be processed, treated, transported from one pipeline to another and marketed to users, some of them an ocean away. With all those expenses, some companies now deduct from landowners’ royalties their share of “post-production” costs, a practice that sometimes dips the royalty percentage below the one-eighth mark.
At the very least, Mr. Everett, a Republican from Muncy, Lycoming County, would like to make sure an eighth stays an eighth.
“I believe we can pass that law,” he said. “However, I don’t think I could get it to the floor.”
One of the arguments against such legislation, which Mr. Everett said he understands, is that royalty deductions are often hashed out in leases. Dictating something different by law undermines that contract and the ability of companies and landowners to set their own terms.
The oil and gas industry started out opposing House Bill 1684, which, among other things, aimed to define what would be an eligible post-production cost and at what point in a fuel’s travels from wellhead to customer it could be calculated. Over the past month, language has been altered, stripped out, added and stripped again. Amendments have come and gone.
The bill still hasn’t made it to the floor of the House for a vote. Last week, the majority leader told Mr. Everett that there are other, more important matters the House needs to move on to, which Mr. Everett said he understands.
“They probably feel like they killed this bill and they’re really happy about that,” Mr. Everett said about oil and gas companies.
Recently, the industry has begun to give him suggestions about what’s practical, Mr. Everett said, and he’s happy to see them participating in the process.
The Marcellus Shale Coalition, through its Shale Advocates organization, encouraged people to write to their legislators opposing the legislation, but its spokesman Travis Windle said Thursday, “Prudent changes have been made, and we continue to monitor its development.”
Checking it twice
It usually takes a few years for landowners to start looking more closely at their royalty statements and feeling like something is amiss, said Joe Nicola, a tax partner with Downtown-based accounting firm Sisterson & Co.
“In general, it dawns upon them at one point in time, perhaps after two years, that their royalty payments are decreasing without explanation,” Mr. Nicola said. “[At first], the landowner who’s never been down this road is star struck that they’re getting money that they didn’t have.”
After awhile, they start talking to neighbors about this, maybe join a landowners group.
“Then they realize, wait a second — what I thought was good a year ago isn’t good,” Mr. Nicola said. “It’s human nature to speak in relative terms.”
When that point comes, some landowners request a royalty audit, which can run between $2,000 and $30,000, he said.
Mr. Nicola’s firm has been doing royalty audits for the past decade, the numbers and frequency intensifying since the development of the Marcellus began.
Some leases are specific about what can be deducted as a post-production cost, like treating, transporting and marketing gas. But often there is ambiguity.
“Are taxes covered, and to what extent? What about the impact fee?” Mr. Nicola said.
“Recently, it’s become more complex,” he said. “The errors have become a little more complex.”
In fact, it’s not as much errors as differences in how companies and landowners are interpreting the original lease agreement, Mr. Nicola said.
The Pennsylvania Department of Conservation and Natural Resources, which has 386,000 acres under lease for oil and gas development and gets millions of dollars in monthly royalties, has run into such issues with both conventional and shale oil and gas drillers, according to Chris Novak, a spokeswoman for the department.
Since Marcellus drilling in state forests picked up, the department hired an accountant to monitor its royalty stubs and recently engaged two professors at Penn State University to carry out a volumetric audit — to verify that the gas coming out of the wells matched what the company said.
The confusion over post-production costs has reached Gov. Tom Corbett, who in February called out Chesapeake Energy Corp. for questionable treatment of such deductions, asked for the attorney general to investigate the company, and promised lawmakers he would work to “advance legislation which protects the royalty rights of leaseholders.”
The package of bills that has made it the furthest in the legislative process thus far came from Pennsylvania Sen. Gene Yaw, another Republican from Lycoming County.
Early last month, the state Senate passed a bill that guarantees landowners the right to inspect company records in a royalty audit, and another other sets parameters for companies that haven’t developed their leased acreage during the time span agreed upon in the lease to file a surrender document with a county record of deeds office. That gives clarity to landowners and other companies wanting to negotiate new leases.
The third bill in the “Oil and Gas Lease Protection Package” prohibits companies from stopping development, production or royalties to a landowner who questions the payment details.
Many landowners never opt for an audit, either because they feel they can’t afford to pay for it or they find the whole idea of challenging the oil and gas company intimidating, according to Jackie Root, president of the Pennsylvania chapter of the National Association of Royalty Owners.
“A lot of royalty owners are getting ripped off,” she said, and some fear retaliation.
“There are clauses in leases that say in case of a dispute, they’ll stop payment of royalties,” she said.
Mr. Yaw’s bills are now awaiting their fate in the same House committee that debated Mr. Everett’s legislation.
Anya Litvak: email@example.com, 412-263-1455.