CHAPTER 6 LAW OF PRODUCING STATES REGARDING VALUATION OF OIL AND GAS FOR SEVERANCE TAXES
| Jurisdiction | United States |
(Dec 2008)
LAW OF PRODUCING STATES REGARDING VALUATION OF OIL AND GAS FOR SEVERANCE TAXES
Liskow & Lewis, PLC
Lafayette, Louisiana
Robert S. Angelico
Liskow & Lewis, PLC
New Orleans, Louisiana
Philip Jordan
Liskow & Lewis, PLC
Houston, Texas
Lawrence P. Simon, Jr. is a Shareholder in the Lafayette office of Liskow & Lewis. He received his law degree from Tulane Law School in 1972, where he served on the Tulane Law Review. He received his undergraduate degree with honors from Notre Dame Seminary in 1965 and a graduate degree with honors from Catholic University of Louvain, Belgium in 1967, where he also did further graduate work with highest honors through 1968. Larry handles oil and gas, property and commercial litigation, with an emphasis on royalty and mineral lease issues, energy marketing contract disputes, and disputes involving the processing of natural gas and the contracts affecting such operations. He also has extensive experience in litigating issues involving regulatory rulings and orders of the Department of Conservation. Additionally, Larry has considerable background in telecommunications regulation having served as counsel for the Louisiana Public Service Commission. He was on the Board of Directors of the American Judicature Society and is a past President of the Young Lawyers Division of Louisiana State Bar Association, and a past member of the Board of Directors of the Young Lawyers Division of the American Bar Association. He is a past president of the Acadiana Inn of Court, and currently serves on the Board of Governors of the Louisiana State Bar Association. He has been selected a Fellow of the American Bar Foundation, and a Fellow of Litigation Counsel of America. He is listed in The Best Lawyers in America. Larry has been a frequent speaker on oil and gas issues and litigation topics.
Robert S. Angelico is a shareholder in the New Orleans office of the law firm of Liskow & Lewis, APLC, where he heads up the firm's tax practice. Mr. Angelico concentrates a significant part of his practice in the area of Louisiana state and local taxation representing multinational, national, and local clients. He assists clients in connection with state and parish tax audits, tax planning strategies, and in administrative appeals and state and local tax litigation, involving all areas of Louisiana taxation. Mr. Angelico earned his accounting degree from LSU and his law degree from Loyola University. Mr. Angelico is a board certified tax specialist and a licensed certified public accountant. He has been listed in Best Lawyers in America in the specialty of tax law for the past several years. He is the past chairman of the Louisiana Tax Conference Committee, the Louisiana Taxation Committee, and the Legislation Committee for the Society of Louisiana Certified Public Accountants. He is currently the Treasurer of the LCPA. Mr. Angelico has over twenty seven years experience in the tax field, the last 22 years as a lawyer with Liskow & Lewis. Mr. Angelico is the past chairman of the Taxation Section of the Louisiana State Bar Association, and he is the past President of the New Orleans Chapter of the LCPA. For several years Mr. Angelico has taught courses for the LCPA on Louisiana Sales and Use Tax, Louisiana Ad Valorem Taxation, and Louisiana Tax Incentive Programs, and he is a frequent author and lecturer on Louisiana state and local tax topics.
Philip Jordan is a third year law student at South Texas College of Law who clerks for Liskow & Lewis in the Houston office and will join the firm as an associate following graduation and admission into the Bar.
I. Initial View of the Problem - The Louisiana Experience
A. 1. Background: The genesis of this paper was the experience in Louisiana of an expanded use of royalty theories of valuation of crude oil and condensate production in severance tax audits and in lawsuits initiated by the State of Louisiana against several producers. In these suits, the State was represented by some of the same attorneys who represented various plaintiff interests in MDL 1206,1 the multi-district litigation that consolidated numerous royalty suits in a royalty/antitrust action in federal court in Corpus Christi, Texas. That suit was eventually settled but part of its heritage was the adoption in Louisiana of a royalty theory of market value as a methodology for analyzing the value of production in the context of the assessment of severance taxes, even when the transaction being taxed was an arms-length sale.
As will be detailed more fully below, the Louisiana Constitution states that severance taxes can be based on "value", and the attorneys for the State argued that this predicate allowed them to assert that the state severance tax system was designed to be based essentially on a market value analysis. As had been urged by lessors in MDL 1206, the State argued that producers had collaborated to commit fraud and had subverted or corrupted the concept of "posted price" as it was originally intended when posted price actually represented true value. The focus of the attack on posted price as an arms-length measure of value was the use of buy-sell and overall balance agreements and exchanges to conceal the value of the production at the place and time of production. Buy-sell agreements and exchanges, at least, were common marketing techniques used in the sale of crude oil and condensate. The State alleged that such arrangements enabled a producer to obtain and camouflage additional value beyond that reflected in the price used in the "buy" side of the transaction. According to this theory, that singular price had been disconnected from the total transaction, and thus reflected only a part of the value that producers had in fact received. In addition, since the industry set the posted prices, the State viewed the use of that price as an artificial "self assessment" of taxes that devalued crude and condensate. These same allegations were repeated in cookie cutter fashion as to all producers, presumably under the assumed rubric that the use of posted prices and the various marketing arrangements that were the target of the State's attacks were part of an industry conspiracy. The State concluded that as a result of their distortion of the true price received, the valuation of production must be on the basis of market value. Of course, at least as it affected arms-length sales, in the view of defendant companies, that analysis ran directly contrary to the statutory language and the regulatory framework for the determination of value for Louisiana severance taxes, though the State very creatively strove to incorporate those elements of the legal structure into their arguments.
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The market value solution proposed by the State was that the price to be used to value the oil and condensate was the price being obtained in any given month at one of two market centers on the Mississippi River, less transportation. The transportation allowance that was proposed was $0.25 per barrel, which under Louisiana law was designed to be used only if a producer used its own facilities for transportation. (If that occurred, the use of $0.25 as a transportation allowance was unchallenged, though a producer could seek a larger transportation rate, if it could prove a greater expense per barrel.) The use of market center pricing was simple and elegant, though it was far different from normal market value analysis, which typically compared prices paid for production of like quantity and quality in the field or in the area. That latter, customary analysis may well not have been available at the time that these lawsuits were filed, or at least as to the target period between 1986 and 1997, inasmuch as during those years the market was still developing and changing and had not yet matured into a generalized pricing system with its various more sophisticated elements.
There were several key weaknesses in the State's position. First, it could not be used at all with outright sales, and in settling, these were the first volumes which were eliminated from negotiations. Second, where there were arms-length sales, it was difficult, if not impossible, to reconcile the State's theories and conclusions with the statutes and the regulations. As a tax mechanism, Louisiana law was designed to look at the price received, i.e., the gross proceeds to the producer-seller. This specific focus of the tax regime is decidedly unlike the accepted analysis in royalty litigation, where a court can examine the prudence of a price or value used to account for royalty. For purposes of tax valuation, it should be immaterial whether the producer made a good deal in selling its product; the sole inquiry is how much it received in the sale. Of course to arrive at that value of the true gross proceeds, it may be necessary to unwind a transaction and view both sides of the exchange or buy-sell and the barrels that the producer received back as those might be considered in light of the location differential specified by the parties.
Third, the use of market center pricing, less transportation, was itself an encumbrance because it seemed highly artificial in the context of actual marketing by producers, especially where the oil did not even go to that market center. Also, the transportation costs to reach the market center were grossly undervalued and made the State's negotiating position untenable. Producers rightly insisted that if the State wanted to value the crude as if it were sold at a market center, it had to allow transportation to that market center, and those costs were substantial. However, as mentioned above, the use of traditional market value analysis may not have been feasible at the time of these suits, especially since the premise of the argument was that posted price was not a valid method of...
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