Billions at Stake
Oil and gas companies stand to get royalty relief on top of record profits
One wouldn't think an industry rolling in historic profit--nearly $23 billion for the top four players in the past quarter--would need any federal government relief. And yet, Uncle Sam is poised to dole out $7 billion in breaks to the oil industry over the next five years, a figure that could increase fivefold because of a legal battle underway.
At issue are royalties, the percentage of the action that oil and natural gas companies fork over to the U.S. treasury for the privilege of drilling on federal lands. In 1995, when energy was cheap and the feds were trying to prod more Big Oil development, Congress gave companies a break on royalties if they sank money into risky exploration in the Gulf of Mexico's deep water. The carrot worked; the deepwater Gulf business now accounts for nearly 20 percent of U.S. oil production.
The Department of Interior's proposed budget projects the industry will pull $65 billion worth of fuel from the Gulf's deep waters through 2011. And the government will forgo $7 billion in royalties. But does the relief Congress offered at the market's nadir make sense at today's sky-high prices? "There is no need for an incentive,"says Republican Rep. Richard Pombo of California, chairman of the House Resources Committee. "They have a market incentive to produce at $70 a barrel."
Legal battle. In dispute is whether the Interior Department has authority to set thresholds based on the market price of oil to limit industry relief. Pombo and others say that was Congress's intent, and, indeed, the department earlier this month said that 41 companies had improperly claimed more than $500 million in 2004 royalty relief because prices had surpassed Interior's triggers. Nearly all companies agreed to pay up, but one, Kerr-McGee, has vowed to take the matter to court. A government loss in this high-stakes legal battle would mean $35 billion more in royalty relief through 2011.
American Petroleum Institute chief economist John Felmy points out that companies made billions of dollars in investments in high-risk deepwater. Production there is growing even more expensive, as the industry rebuilds to more-rigorous specifications after last season's hurricane damage, he says.
"This has been perhaps one of the most successful programs the government ever enacted in terms of energy policy," he says. "We found 10 billion barrels of oil that likely would not have been found otherwise, and consumers have benefited significantly."
But Keith Ashdown, analyst for Taxpayers for Common Sense, says royalty relief dwarfs the estimated $3 billion in explicit energy tax breaks each year. "This is by far the biggest subsidy to the industry that we have," he says.
Pombo has asked Interior for a full explanation of why the royalties issue has become so muddled, but it looks certain that the courts will decide if one of the nation's most profitable industries gets an even bigger helping hand.
This story appears in the February 27, 2006 print edition of U.S. News & World Report.
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