Misguided Tax Proposals

Jane Van Ryan
Posted October 12, 2009

Did you know that President Obama's 2010 budget proposal calls for more than $80 billion in new taxes on the oil and natural gas industry? If the budget is approved by Congress, these new energy taxes could have a negative impact on virtually everyone in the United States.

Taxes raise the cost of doing business, discourage investment in future energy supplies, threaten jobs and likely lead to higher costs for consumers. And despite claims of the industry's critics, the oil and natural gas industry does not receive "subsidies." Efforts to label certain tax provisions as subsidies misrepresent the established policy of the U.S. tax system. And the Treasury Department's assertion that the government's tax policy encourages the overproduction of oil and natural gas is ludicrous.

Here's a thumbnail sketch of the new taxes under consideration:

Adding new severance tax on offshore oil and natural gas production - A few years ago, the federal government reduced the amount of royalties paid on deepwater energy development to encourage oil and natural gas production from technically challenging and costly areas of the Gulf of Mexico. The incentive worked. Deepwater natural gas production is up 407 percent and deepwater oil production is up 386 percent since 1996. Adding new severance taxes would halt this trend.

Reinstating Superfund taxes - Superfund is the federal program that pays for the cleanup of waste disposal sites that were abandoned or whose owners are bankrupt. Today more than 70 percent of these sites are cleaned up by the responsible parties. A variety of individuals, businesses and government agencies are responsible for the remaining 30 percent. Prior to the Superfund's expiration, the petroleum industry paid $7.5 billion or 57 percent of the tax, even though its share of the liability was less than 10 percent. Reinstating the tax would be unfair and could result in higher energy costs for all Americans.

Repealing LIFO (Last In-First Out) accounting - LIFO was approved in the 1930s as a way to track and value a taxpayer's inventory and account for the cost of goods sold. Repealing it could reduce jobs across American industry because it would result in a significant up-front tax on businesses. It's likely that many companies would have to redirect cash or sell assets to make the tax payments, potentially destroying some businesses.

Eliminating the ability to expense intangible drilling and development costs - The only sure-fire way to find oil and natural gas is to drill. Many so-called intangible drilling costs cannot be recovered, so oil and natural gas companies are allowed to deduct them. Independent companies can deduct 100 percent of their intangible drilling costs; the large integrated companies can deduct 70 percent. About half of the wells drilled today are classified as dry holes, and if the ability to expense intangible drilling costs were eliminated--fewer wells would be drilled, the United States would produce less oil and natural gas, and America would become increasingly dependent on energy from other countries.

Changing the tax treatment for G&G (geological and geophysical) costs - Exploration for oil and natural gas requires geological studies and other similar development activities. Independent energy companies can expense these costs over two years; major integrated companies can expense them over seven years. Extending the expensing period would make it more expensive to drill for oil and natural gas, send jobs overseas and reduce the amount of energy produced domestically.

Repealing Section 199 of the American Jobs Creation Act of 2005 - Section 199 makes deductible a portion of income derived from U.S. manufacturing and production in order to encourage U.S. companies to invest and create jobs here. Discriminatorily repealing this section for the oil and natural gas industry would have the opposite effect, hurting American workers and prospects for economic recovery.

For more information, read API's series of papers on the administration's tax proposals.