'Royalties at Risk' hearing reaches few conclusions

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WASHINGTON - A hearing in the House of Representatives on royalties collected from oil and gas on federal lands by the Minerals Management Service didn't reach any certainties beyond the assertion of Mark Gaffigan, acting director of natural resources and environment at the Government Accountability Office.

Gaffigan told the House Resources Committee that MMS's leading problems in the proper collection of royalties are lack of skilled personnel and timely information. In boom times for oil and gas, trained personnel gravitate toward the higher pay of the private sector (MMS is a part of the Interior Department). And MMS has not developed the information systems to track the administrative cost and revenue impact of key programs.

Committee members heard Gaffigan out and didn't disagree.

MMS has come under a storm of criticism for bungling lease contracts with oil companies that left out a key ''price threshold'' clause. The standard clause links oil and gas royalty payments to the rising price of oil on the theory that deep-water oil exploration is prohibitively cost intensive. The lower upfront royalty encourages oil exploration and development; the later high royalty, paid from found oil as it rises in price, in a sense recompenses the federal Treasury for value lost on non-renewable national resources at the front end of the lease. But the price threshold was left out of the leases in question, at a cost of billions of dollars in public revenue.

Tribes haven't needed the price threshold debacle to accuse MMS of under-collecting

royalties due to Indians for leases on federal land. David Lester, executive director of the Council of Energy Resource Tribes, said oil and gas companies report their production - and by extension the royalties due tribal resource owners - on ''the honor system,'' which ''persists to the detriment of Indian royalty owners'' only.

C. Stephen Allred, assistant secretary for land and minerals management at Interior, acknowledged that the MMS royalties collection process ''begins when companies calculate their payments for royalties owed the federal government.'' He compared it to tax collection at the Internal Revenue Service, which similarly accepts reports and payments into its accounting system (of course in most cases, employers have already withheld an IRS portion from employee paychecks).

Then the MMS audit and compliance program assesses the company royalty payments for accuracy. Committee questioning made it clear that MMS has turned to a regime of compliance review procedures as a supplement to full-dress audits, where an auditor knocks on a company's door and demands to see the books. The less thorough compliance review procedure is another sore point for CERT. ''We have no confidence at all in compliance review,'' Lester said.

Allred noted that the Office of the Inspector General at Interior has approved compliance review as a useful tool. He added that compliance review is a function of limited resources. ''And given the resources we have, we need to try to cover the largest population of royalty figures that we can. If we do just audits, we will cover a much smaller portion of that population.''

Other problems for Indians are royalties-in-kind, ''a fraction of the oil and gas that the MMS then sells to recover the government's share of oil and gas revenue,'' according to Gaffigan; and royalties-in-value, ''a fraction of the revenues companies receive from sale of oil and gas produced on federal leases.'' Historically, oil royalties have been collected in value, but recently MMS has expanded its royalties-in-kind collections, exchanging the oil for other oil that has gone into the nation's Emergency Petroleum Reserve. ''Under the Energy Policy Act of 2005, MMS is charged with ensuring that the revenues it receives when it sells RIK oil are at least as great as the revenues it would have received had it taken the royalties in value,'' Gaffigan stated in written testimony.

Data limitations at MMS mean that a determination cannot be made, Gaffigan said, but again the CERT tribes have little doubt they are losing money.

CERT also weighed in against MMS resistance to well-by-well reporting, which Lester described as being susceptible to swindle.

''A mineral operator can keep a lease in force in perpetuity, even after the primary lease term has expired, as long as the lease is producing 'in paying quantities' on a major part of the lease. This is true whether the lease is 160 acres or 250,000, and regardless of the number of wells. However, if the operator does not report on a well-by-well basis [but on the well production of the lease property as a whole], there is no accurate way to know whether the production is 'in paying quantities.' When the 'major part' of the lease is not producing 'in paying quantities,' the wells must be shut in and the lease expires. Once wells are shut in, the only way to resume production is to negotiate a new lease. To ensure correct pricing, the mineral operator's production on a well-by-well basis should be recorded.''