Interior mulling higher royalties for new onshore federal leases

The U.S. Department of the Interior plans to seek public comment on whether and how to change the fiscal system for onshore oil and natural gas development on federal lands.

The federal land manager is preparing an Advance Notice Of Proposed Rulemaking on changes to the fiscal system that would ensure the public gets a fair return for its resources, according to a report from the U.S. Government Accountability Office.

A backlog of higher priority rulemaking projects — including regulations for hydraulic fracturing — will likely keep the Interior Department from releasing the proposed rulemaking for some time, but any changes would greatly impact Alaska, where North Slope development is beginning to creep into the National Petroleum Reserve-Alaska.

The department planned on publishing a notice of proposed rulemaking in July 2012 that would have increased the royalty rate for oil production on new onshore leases to 18.75 percent while keeping the royalty rate for onshore natural gas production at 12.5 percent.

The proposal also would have given the Secretary of the Interior the ability to change onshore royalty rates before lease sales. The department already has that authority for offshore royalty rates, which has led to a discrepancy between the rates in recent years.

The department scrapped the proposal because it wanted more information before moving forward, according to the GAO report. The new proposal will seek comments on specific royalty structures, such as whether the department should set a uniform rate, or different rates by region, state, geologic formation and resource type — a major issue considering the rise of unconventional production. The proposal will also seek comments on whether the department should have a sliding royalty rate tied to commodity prices.

A 2011 Interior Department study estimated the government could collect an additional $1.25 billion over 10 years by increasing the onshore royalty rate to 18.75 percent.

Better procedures

The department is launching its first assessment in 25 years, according to the GAO, but “without documented procedures, Interior cannot ensure that it will consistently conduct such assessments in the future, and without periodically conducting such assessments, Interior cannot know whether there is a proper balance between the attractiveness of federal leases for investment and appropriate returns for federal oil and gas resources, limiting Interior’s ability to ensure a fair return on federal oil and gas resources.”

Those procedures might set specific timeframes or market conditions when the department would be required to take a look at its fiscal system for oil and gas resources.

The federal fiscal system has been a regular topic of criticism for decades.

In 1981, after a string of critical reports, the Interior Department formed a commission to investigate the system. The commission found that the industry was “essentially on an honor system” and made numerous recommendations for reform. The report led to the creation of the Minerals Management Service. (The Interior Department replaced the Minerals Management Service with the Bureau of Ocean Energy Management following the Deepwater Horizon oil spill in 2010.) Congress passed legislation in 1982 and 1996 to improve the process of collecting revenues from development on federal lands.

An Interior Department subcommittee made more than 100 additional recommendations in 2007 aimed at improving the system, many of which have since been implemented.

The GAO also looked at the system in 2007, and determined that the government had one of the lowest government takes in the world. A 2008 GAO report called for a comprehensive reassessment of the fiscal system and regular follow-ups. The GAO added the oil and gas management system to its list of federal programs at high-risk of abuse.

Those reports kicked off many changes.

Since 2007, the Interior Department has been incrementally increasing royalty rates for some offshore leases. Those changes came in response to higher commodity prices, improved technologies for deepwater development and the general market for offshore leases. The offshore royalty rate in the U.S. Gulf of Mexico is now 18.75 percent.

The offshore royalty rate remains at 12.5 percent for Alaska, where production in federal waters remains in its infancy compared to activities in the U.S. Gulf of Mexico.

The department has also increased rental rates and minimum bids for some offshore leases in the Gulf of Mexico in recent years. The changes don’t extend to Alaska.

The department recently contracted an assessment of its fiscal system. The study will compare to the U.S. to other oil-producing regions, look at leasing policies in the Gulf of Mexico and take a broad look at the pros and cons of raising onshore royalty rates.

—Eric Lidji