February 14, 2006
By EDMUND L. ANDREWS
nytimes.com
WASHINGTON, Feb. 13 - The federal government is on the verge of one
of the biggest giveaways of oil and gas in American history, worth an
estimated $7 billion over five years.
New projections, buried in the Interior Department's just-published
budget plan, anticipate that the government will let companies pump
about $65 billion worth of oil and natural gas from federal territory
over the next five years without paying any royalties to the government.
Based on the administration figures, the government will give up more
than $7 billion in payments between now and 2011. The companies are
expected to get the largess, known as royalty relief, even though the
administration assumes that oil prices will remain above $50 a barrel
throughout that period.
Administration officials say that the benefits are dictated by laws
and regulations that date back to 1996, when energy prices were
relatively low and Congress wanted to encourage more exploration and
drilling in the high-cost, high-risk deep waters of the Gulf of Mexico.
"We need to remember the primary reason that incentives are given,"
said Johnnie M. Burton, director of the federal Minerals Management
Service. "It's not to make more money, necessarily. It's to make more
oil, more gas, because production of fuel for our nation is essential
to our economy and essential to our people."
But what seemed like modest incentives 10 years ago have ballooned to
levels that have alarmed even ardent supporters of the oil and gas
industry, partly because of added sweeteners approved during the
Clinton administration but also because of ambiguities in the law
that energy companies have successfully exploited in court.
Short of imposing new taxes on the industry, there may be little
Congress can do to reverse its earlier giveaways. The new projections
come at a moment when President Bush and Republican leaders are on
the defensive about record-high energy prices, soaring profits at
major oil companies and big cuts in domestic spending.
Indeed, Mr. Bush and House Republicans are trying to kill a one-year,
$5 billion windfall profits tax for oil companies that the Senate
passed last fall.
Moreover, the projected largess could be just the start. Last week,
Kerr-McGee Exploration and Development, a major industry player,
began a brash but utterly serious court challenge that could, if it
succeeds, cost the government another $28 billion in royalties over
the next five years.
In what administration officials and industry executives alike view
as a major test case, Kerr-McGee told the Interior Department last
week that it planned to challenge one of the government's biggest
limitations on royalty relief if it could not work out an acceptable
deal in its favor. If Kerr-McGee is successful, administration
projections indicate that about 80 percent of all oil and gas from
federal waters in the Gulf of Mexico would be royalty-free.
"It's one of the greatest train robberies in the history of the
world," said Representative George Miller, a California Democrat who
has fought royalty concessions on oil and gas for more than a decade.
"It's the gift that keeps on giving."
Republican lawmakers are also concerned about how the royalty relief
program is working out.
"I don't think there is a single member of Congress who thinks you
should get royalty relief at $70 a barrel" for oil, said
Representative Richard W. Pombo, Republican of California and
chairman of the House Resources Committee.
"It was Congress's intent," Mr. Pombo said in an interview on Friday,
"that if oil was at $10 a barrel, there should be royalty relief so
companies could have some kind of incentive to invest capital. But at
$70 a barrel, don't expect royalty relief."
Tina Kreisher, a spokeswoman for the Interior Department, said Monday
that the giveaways might turn out to be less than the basic forecasts
indicate because of "certain variables."
The government does not disclose how much individual companies
benefit from the incentives, and most companies refuse to disclose
either how much they pay in royalties or how much they are allowed to
avoid.
But the benefits are almost entirely for gas and oil produced in the
Gulf of Mexico.
The biggest producers include Shell, BP, Chevron and Exxon Mobil as
well as smaller independent companies like Anadarko and Devon Energy.
Executives at some companies, including Exxon Mobil, said they had
already stopped claiming royalty relief because they knew market
prices had exceeded the government's price triggers.
About one-quarter of all oil and gas produced in the United States
comes from federal lands and federal waters in the Gulf of Mexico.
As it happens, oil and gas royalties to the government have climbed
much more slowly than market prices over the last five years.
The New York Times reported last month that one major reason for the
lag appeared to be a widening gap between the average sales prices
that companies are reporting to the government when paying royalties
and average spot market prices on the open market.
Industry executives and administration officials contend that the
disparity mainly reflects different rules for defining sales prices.
Administration officials also contend that the disparity is illusory,
because the government's annual statistics are muddled up with big
corrections from previous years.
Both House and Senate lawmakers are now investigating the issue, as
is the Government Accountability Office, Congress's watchdog arm.
But the much bigger issue for the years ahead is royalty relief for
deepwater drilling.
The original law, known as the Deep Water Royalty Relief Act, had
bipartisan support and was intended to promote exploration and
production in deep waters of the outer continental shelf.
At the time, oil and gas prices were comparatively low and few
companies were interested in the high costs and high risks of
drilling in water thousands of feet deep.
The law authorized the Interior Department, which leases out tens of
millions of acres in the Gulf of Mexico, to forgo its normal 12
percent royalty for much of the oil and gas produced in very deep
waters.
Because it take years to explore and then build the huge offshore
platforms, most of the oil and gas from the new leases is just
beginning to flow.
The Minerals Management Service of the Interior Department, which
oversees the leases and collects the royalties, estimates that the
amount of royalty-free oil will quadruple by 2011, to 112 million
barrels. The volume of royalty-free natural gas is expected to climb
by almost half, to about 1.2 trillion cubic feet.
Based on the government's assumptions about future prices ? that oil
will hover at about $50 a barrel and natural gas will average about
$7 per thousand cubic feet ? the total value of the free oil and gas
over the next five years would be about $65 billion and the forgone
royalties would total more than $7 billion.
Administration officials say the issue is out of their hands, adding
that they opposed provisions in last year's energy bill that added
new royalty relief for deep drilling in shallow waters.
"We did not think we needed any more legislation, because we already
have incentives, but we obviously did not prevail," said Ms. Burton,
director of the Minerals Management Service.
But the Bush administration did not put up a big fight. It strongly
supported the overall energy bill, and merely noted its opposition to
additional royalty relief in its official statement on the bill.
By contrast, the White House bluntly promised to veto the Senate's
$60 billion tax cut bill because it contained a one-year tax of $5
billion on profits of major oil companies.
The House and Senate have yet to agree on a final tax bill.
The big issue going forward is whether companies should be exempted
from paying royalties even when energy prices are at historic highs.
In general, the Interior Department has always insisted that
companies would not be entitled to royalty relief if market prices
for oil and gas climbed above certain trigger points.
Those trigger points ? currently about $35 a barrel for oil and $4
per thousand cubic feet of natural gas ? have been exceeded for the
last several years and are likely to stay that way for the rest of
the decade.
So why is the amount of royalty-free gas and oil expected to double
over the next five years?
The biggest reason is that the Clinton administration, apparently
worried about the continued lack of interest in new drilling, waived
the price triggers for all leases awarded in 1998 and 1999.
At the same time, many oil and gas companies contend that Congress
never authorized the Interior Department to set price thresholds for
any deepwater leases awarded between 1996 and 2000.
The dispute has been simmering for months, with some industry
executives warning the Bush administration that they would sue the
government if it tried to demand royalties.
Last week, the fight broke out into the open. The Interior Department
announced that 41 oil companies had improperly claimed more than $500
million in royalty relief for 2004.
Most of the companies agreed to pay up in January, but Kerr-McGee
said it would fight the issue in court.
The fight is not simply about one company. Interior officials said
last week that Kerr-McGee presented itself in December as a "test
case" for the entire industry. It also offered a "compromise," but
Interior officials rejected it and issued a formal order in January
demanding that Kerr-McGee pay its back royalties.
On Feb. 6, according to administration officials, Kerr-McGee formally
notified the Minerals Management Service that it would challenge its
order in court.
Industry lawyers contend they have a strong case, because Congress
never mentioned price thresholds when it authorized royalty relief
for all deepwater leases awarded from 1996 through 2000.
"Congress offered those deepwater leases with royalty relief as an
incentive," said Jonathan Hunter, a lawyer in New Orleans who
represented oil companies in a similar lawsuit two years ago that
knocked out another major federal restriction on royalty relief.
"The M.M.S. only has the authority that Congress gives it," Mr.
Hunter said. "The legislation said that royalty relief for these
leases is automatic."
If that view prevails, the government said it would lose a total of
nearly $35 billion in royalties to taxpayers by 2011 ? about the
same amount that Mr. Bush is proposing to cut from Medicare, Medicaid
and child support enforcement programs over the same period.
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