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Independents fight to save incentives

May 03, 2010
Plans by the Obama administration to scrap billions of dollars in tax provisions has independent producers across the nation, including Oklahoma's Devon Energy, up in arms,

From the Dallas Morning News:

As the Obama administration tries to show its commitment to reducing the deficit and greenhouse gas emissions, it has targeted the elimination of decades-old tax incentives that benefit independent oil and gas companies. The independents have reacted with a lobbying push to salvage their tax incentives, as they blast the White House proposal as evidence of bias against oil and gas.

"It is about ideology, really," said William F. Whitsitt, executive vice president for public affairs at Oklahoma City-based Devon. "It's about, 'We're going to decide there are other more productive sectors of the economy, and we're going to divert this money to things that we determine have a higher social good.' "

The administration makes no bones about wanting to build what it calls "a new, clean-energy economy." Treasury officials say oil and gas subsidies drain investment from cleaner but less profitable sources of energy. Repealing them would raise about $36 billion that could be put to other uses, including deficit reduction.

The skirmish is also a stark reminder of the difficult task of overhauling tax expenditures, the hundreds of deductions, exclusions and exemptions that pockmark the tax code. Federal Reserve Chairman Ben Bernanke has urged members of the president's deficit commission to consider tax changes, while two senators pushing their own legislation want to repeal numerous deductions and exclusions as part of an effort to lower individual and corporate rates.

The oil industry has argued that its tax expenditures which can mean millions of dollars of added cash for energy companies are available in some shape to virtually every industry.

Oil and gas executives say repealing them is tantamount to raising taxes on just one industry. Critics say they are artifacts from the early 1900s, when the country produced most of its own oil and needed to stimulate more production.

Most of the tax subsidies aren't available to Big Oil, the six majors that include Irving-based Exxon Mobil. Lawmakers have restricted them to independents, firms as large as Devon and as small as Houston-based Goldston.

"This proposal really is a continuation of a trend that has been going on over the past 20 or 25 years to take back some of these preferences for oil and gas that we did early in the life of the industry," said Gilbert E. Metcalf, a professor at Tufts University and an expert in taxation and energy economics.

"Now it's a mature industry and doing quite well at $80 a barrel of oil. We really don't need to continue to hold their hand," he said.

Three provisions key

While the administration has targeted eight tax provisions for repeal, there are only three that would raise a meaningful amount of revenue, according to administration estimates.

Those are a so-called Section 199 deduction, which effectively reduces the corporate tax rate for companies that perform manufacturing and construction activities in the U.S.; a write-off for "intangible drilling costs," which includes most noncapital costs associated with extracting oil or gas; and "percentage depletion," a form of depreciation that applies to natural resources.

Percentage depletion, which is only available to independents, allows producers to write off 15 percent of the revenue generated by a well. That percentage was set arbitrarily when the provision was established during the 1920s, said Eric Toder, a senior fellow and tax expert at the Urban Institute who previously served as a top tax official at the U.S. Treasury Department.

"They didn't know how much oil was in the well or how much oil they should take out every year, so they just said a percentage of gross income," Toder said at a recent event on tax expenditures at the Center for American Progress. "That turned out to be way too generous."

Depreciation allows a business to reduce taxable income by allocating the cost of an asset over its life. But percentage depletion can result in a write-off that is "two, three or four times the cost of the asset," Metcalf said.

While critics say oil producers no longer need percentage depletion, the industry argues that it has been part of the tax code for so long that repealing it would be jarring, particularly for the thousands of small producers that make their money from marginal wells.

"It would be a substantial blow to exploration activities," said Tad Mayfield, an owner and director of Goldston and president of the Texas Independent Producers and Royalty Owners Association, which lobbied Texas members of Congress this week to oppose the proposal.

Independents also can write off, or "expense," their noncapital production costs including labor, engineering costs and supplies in the year they are incurred. Oil and gas companies say this provides extra cash that can be invested in developing new resources.

Chip Minty, a Devon spokesman, said a repeal of expensing would add $800 million to the company's taxes in the first year. That would reduce drilling by about 500 wells, he said.

"If you took that much capital out of the system for taxes, it would be very dramatic," Whitsitt said.

Top of agenda

Whitsitt said the tax fight tops his company's Washington agenda more than its concern over climate change legislation and potential regulations covering natural gas drilling. Devon spent $480,000 on lobbying lawmakers during the first quarter of 2010, according to House disclosure reports.

Devon and other producers say the tax subsidies don't give them any special favors. They note that the incentives were originally designed to help offset the risk of prospecting for oil and gas. They argue that the same risk exists today, particularly in offshore exploration.

Renewable energy also benefits from tax incentives. In a study published in 2009, Metcalf of Tufts found that solar, wind and nuclear power were the most subsidized forms of energy. Oil produced by independents was the fourth most subsidized source, according to his study.

Repealing all three oil and gas tax incentives would raise $36 billion in government revenue over 10 years, according to the Obama administration's 2011 budget proposal.

But the administration has probably overstated the impact of oil's subsidies on renewable energy, according to economists. That is because oil, a transportation fuel, doesn't really compete against wind and solar energy, which are used to generate electricity.

"If [the motivation] is a shift from fossil fuels to renewable sources, it doesn't really do a lot, except maybe symbolically," Toder said.

The administration made the same request to repeal the incentives last year. But many members of Congress, including Democrats from energy-producing states, objected.

"For not much money, you are taking on a pretty big political fight," Toder said.
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