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The Case for a Natural Gas Severance Tax

by Michael Levi
August 9, 2011

A big fight is underway in Pennsylvania over the possible introduction of a “severance tax” on natural gas producers. Severance taxes are paid when natural gas is extracted from the ground. They are taken either as a percentage of the wellhead gas price or on a per-unit basis, on the theory that natural resources are at least in part public property, and the public should thus be compensated when they’re extracted. Most of the country – Texas, Louisiana, Alaska, etc – imposes severance taxes on natural gas drilling. Pennsylvania, however, does not.

This has become the subject of heated debate. Last fall, the Pennsylvania House of Representatives passed a severance tax (39 cents per thousand cubic feet), but the Senate vowed to reject it. Then on Sunday, Pennsylvania Lieutenant Governor Jim Cawley published an op-ed arguing strongly against any severance tax. His political opponents were unimpressed.

Those opponents appear to have the better argument. Supporters of shale gas development have consistently underestimated how much of the public is skeptical (at best) of drilling. Modest steps that would deliver additional public benefit, particulary to those who are not yet profiting from the shale gas boom, would help consolidate public support for development, allowing shale gas production to proceed on more solid ground.

That argument would be undermined if a severance tax threatened to crush the industry. Indeed that is what Cawley has claimed: his op-ed suggests that gas drillers would flee the state if a severance tax were imposed. But the economics of don’t add up. The Marcellus shale is relatively cheap to produce: the recent MIT Future of Gas study, for example, shows breakeven gas prices that are much lower than for any other shale play. A modest severance tax would still leave the Marcellus as the place to be. To be fair, if natural gas prices crashed, it’s plausible that an excessive severance tax could deter production at the margin. But, assuming that gas can’t stay super-cheap forever, that’s not necessarily bad: rational resource management says that you should produce more when prices are high and less when they’re low.

This is not just important for residents of the Keystone state — it has national consequences. If Pennsylvania and others can find a smart policy balance, whether on severance taxes or environmental regulation, that will help put shale gas on firmer ground, benefiting everyone. If policymakers and industry shortsightedly assume that public opposition will never amount to much, though, they could find themselves badly burned.

Post a Comment 7 Comments

  • Posted by J.McDowell

    This Alaskan has been following this issue from up here. I hope the good folks of Pennsylvania set up at least a minimally fair tax, just to install the revenue collection and audit system that was lacking in Alaska for so long, stifling the ability to closely monitor tax issues. In Alaska we just fixed that. Our auditing capability is JUST NOW being computerized for ease of operation. It had been done by hand since oil was first put into the oil pipeline. The citizens of any state deserve a fair share of the revenue from extraction. Call it a tax, or a “permanent fund” like we have in Alaska, that has raised Alaska`s credit worthiness and lessened our cost to borrow money, besides giving Alaska a “poke” with which to build the road and bridge infrastructure this state was TOLD to build (TO EXTRACT RESOURCES!) when it became a state. I`m certain Pennsylvania was told at one time to fend for itself as a state. A fair production tax on oil and gas and any gas liquids from shale production will greatly help the state reach that objective, and quickly. Without it..the untaxed wealth produced will be used completely for the profit of the ones pumping it out of the state`s ground for next to nothing. Is that fair to the people of Pennsylvania who are struggling hard enough with high energy costs now? If your company sends you to Fairbanks, you`ll see what high heating costs are doing to a city here in Alaska. And we don`t have many cities left to fritter away up here. Just how this old Alaskan see`s things. Good luck to the voters of Pennsylvania. I hope they don`t get snookered by all that industry money floating around the halls in the capital.

  • Posted by Levis Kochin

    In the 2010 campeign the current Governor of Pennsylvania promised not to sign any bill imposing a severence tax on the natural gas industry. If he backtracks he loses all political credability. There will be elections again in 2012 and 2014. The Democrats can raise the issue in them. They may win in which case a severence tax is likely. What no one should expect is that any severence tax in before new elections.

  • Posted by Don Dixon

    Being a resident of Pennsylvania, I disagree with Gov. Corbett’s view on severance taxes. I know he said no new taxes but I think most voters thought that pertained to them personally. The cost of repairing damage to infrastructure in the state will be high due to Marcellus gas production. As it is, our state’s infrastructure is already in poor condition. The gas industry is not opposed to a fair severance tax. How can a governor not accept that invitation? Add to the lack of a severance tax the fact that a bond of only $5k per well is required for environmental damage and you get a receipt for taxpayer disaster. A remediation company would charge that much just to look at the site.
    The state is cutting subsidies to education and giving these energy companies unlimited profits. I didn’t vote for Gov. Corbett in ’08 and I hope many will follow my lead and vote him out in ’12.

  • Posted by John Renfro

    I’m not against the severance tax on natural gas drilling, but I am curious as to how they came up with the 39 cents per MCF. Is based on precedent set by other states or some other benchmark?

  • Posted by Jim Lit

    These companies already pay a high tax as Pa has one of the highest business tax structures in the US. It is these high business taxes that have hurt Pa for many decades. If an extraction tax is passed, it should be done only with an accompanied tax reform of business taxes. This would then benefit all of the state by making it more competitive. Lower the corporate rate from its US highest of 9.9% Get rid of the Capital Stock tax. Lower some other business taxes and fees.

    Another problem is that no one can trust the government to not cook the Golden Goose. If they start the tax a 5%, they will soon raise it to 7% ” ’cause we need the money.” Then it will go to 10% and on up and up until they kill the industry. Only pass the tax by constitutional amendment. That way it will be difficult to keep raising it until it does serious damage to the industry. Never trust the government.

    Last, make 25% of the tax go to converting truck stops and gas stations to CNG stations fro at least the first five years, maybe ten years. Help in financing municipalities to convert all their vehicles to CNG. This will create thousands of jobs, increase tax revenues, help grow the industry, improve the country’s balance of trade, reduce foreign imports, and clean our environment.

  • Posted by Julieann Wozniak

    Our infrastructure is decaying. Our schools are underfunded. There should be a severance tax on gas. These corporations should pay for the resource they extract from Pennsylvanian ground the same way the coal barons were made to pay in my grandparents’ day. Why is gas special? It’s not going anywhere. The resource is right here. It is a fallacious argument to state that extractive industry will move elsewhere to dodge such a tax. Where will they go? All our neighbors have such a tax. The talking point that taxes kill jobs is also untrue. Instead of budget -cutting and eliminating more jobs, tax the resource!

  • Posted by David B. Benson

    Michael Levi — I’m certainly in favor of such taxes on all mineral extraction, including natural gas.

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