AN OVERVIEW OF THE FEDERAL MINERAL ROYALTY AUDIT PROCESS

• Jurisdiction: United States

Federal and Indian Oil and Gas Royalty Valuation and Management Book 1
(Feb 2004)
CHAPTER 6C
AN OVERVIEW OF THE FEDERAL MINERAL ROYALTY AUDIT PROCESS
Pamela L. Williams
Shell Exploration and Production Co.
Houston, Texas

Introduction

The Minerals Management Service (MMS) has the right to audit the records of a company's federal and Indian oil and gas royalty payments. ¹ This paper will address the industry perspective on the federal oil and gas royalty audit as it pertains to MMS resident audit staffs located onsite at the company's offices based on the experience of this author over the last 15 year period in the handling of the federal audit for a major oil company. Federal royalty payments are due the month following the month of production. ² Later on in time as it gets into the MMS audit cycle these royalty payments are subject to audit.

Compliance

The MMS' auditors' function is to audit the federal oil and gas royalty payments to make sure they are in compliance with the regulations that govern royalty payments. The regulations cover everything from valuation of the product to the calculation of transportation and manufacturing allowances to volumes reported and more. ³ Records pertaining to oil and gas royalty payments are required to be maintained in order for the MMS to conduct the audit. ⁴ Payments made by a company are required to be in compliance with the regulations.

Audit process

A. Logistics

Since about 1983 the MMS has had resident audit staffs in companies that hold large number of leases and make large monthly royalty payments. They are in residence year round, 365 days a year except holidays. The MMS staff in house consists of a MMS resident audit supervisor and their audit staff. The number of auditors in place varies over time relative to the size of the audit being undertaken at a particular time.

In my experience, office space has been provided to the MMS auditors as well as access to copy machines and copy paper. Computer hook ups are included in the office space. Coffee is provided free of charge also. The MMS is responsible for providing their own computer systems as well as handling their own long distance charges on the phone.

The auditors are issued contractors security badges go and although they have limited access to the office complex they can go wherever they have a need to get. There is also a 12 hour time constraint per day on contractor's badges so this limitation also applies to the auditor's badges as well. Badges expire on a six month basis so renewal every six months is required to keep the badges active. As the auditor's change in and out over time new badges are made and old ones are collected for deletion from the security system.

In Houston on holidays when the complex is closed but the federal government is open the auditors go to work at the MMS office located at 4141 N. Sam Houston Parkway East otherwise called the Northbelt offices.

B. Data requests

The method used by the MMS auditors over the years to request data to conduct their audit is to request information with a data request form. ⁵ These have changed over time from hard copy paper to electronic word document requests but the format is essentially the same.

It includes a data request number assigned by the MMS for tracking purposes by both parties. The MMS auditor and the company's MMS audit coordinator both use this assigned number. This tracking number is absolutely essential for a smoothly run audit. Without it the audit would get out of control in a hurry.

Next it has the company's name, the person to whom the request was submitted to, the date of the request, and the all important date the information is due. Extensions of the due date for reasonable cause are sometimes requested by the company's audit coordinator and are often granted by the MMS.

The actual data requested is found in the body of the request form and is the largest area on the form for obvious reasons. The request can range from a simple document that is readily available to a lengthy request that requires the initiation of much data gathering.

The bottom of the request form has the MMS representative's name that is requesting the data. Until very recently the bottom of the form also had a place for the company's representative to sign along with a receipt date. Since the requests are now all sent electronically via e-mail receipt of the e-mail is considered the company's official receipt of the request. Electronic mail requests have worked well and no major issues have arisen different from issues raised by hard copy requests.

C. Company's MMS Audit Coordinator

Creation of a staff position of MMS audit coordinator is most helpful. One of the main functions is to keep track of the data requests themselves. This can be accomplished by creating a data request log that is kept evergreen. Once a request is received a determination is made as to which department or in some cases, which affiliated company, needs to respond to the request. The request is forwarded to the appropriate party to gather data for the response. If an extension of time is needed to respond the audit coordinator requests that of the MMS auditor at this time.

Following up on the responses being gathered is another main function performed by the MMS audit coordinator. These requests compete with ordinary business demands and may not be the gatherer's top priority. It is important to stay in contact with the gatherer of the request to keep the audit moving along in a smooth manner. The coordinator can also often help provide tips on the type of data to gather to respond properly and quickly.

Packaging the data gathered for a response is another important responsibility. Simple responses are often done by e-mail particularly when the data received is electronic. The data received is attached to the original e-mail request from the MMS auditor and sent. More complicated responses require a cover letter to be written and the packaging together of the response. Depending on the nature of the request and the corresponding response the Legal department sometimes reviews the response before it is turned over to the auditors. Copies of responses provided to the requests should be maintained by the audit coordinator. These are useful either in follow up questions or in a letter appeal of a demand for additional royalty.

Some requests are more routine and if the MMS audit coordinator has the information at hand they are able to respond themselves without forwarding to anyone. Although some analysis may be required by the audit coordinator before a response can be provided it eliminates having to send the request out and the follow-up that goes along with that.

The proactive approach to the type of data that you know is going to be requested in an upcoming audit is to gather that data ahead of time and be prepared to respond in a quick manner. For example, you know in every audit plant statements are going to be requested so having them ahead of time saves both parties a lot of time.

Some requests are closed the first time...