Jim Van Blaricum - A Review of the On-Going Incentives

In 1989, the Railroad Commission proposed and the 71^st Legislature adopted the first incentive programs to encourage increased production of the state’s oil and gas resources. In 1997, once again, with the support of the 75^th Legislature, the Railroad Commission is introducing two new incentives and a revitalization of an older incentive: the incremental production incentive; the incentive to market previously flared or vented casinghead gas; and the two-year inactive well incentive. Each of these offers either a reduction of production severance taxes or an exemption. Additionally, changes were made to the on-going enhanced recovery and high-cost gas incentive programs. The new incentive programs and the changes to existing programs are effective September 1, 1997.Jim Van Blaricum

This notice gives an overview of what incentives are designed to do, introduces the three new incentives, and reviews the ongoing programs. Since you may have questions that are not answered here, we encourage you to call the Commission staff that are identified in association with the individual incentive programs. Additional information is also available on the Commission’s Internet web site at www.rrc.state.tx.us. And, a notice will be distributed with more details on the new incentive programs at the beginning of September 1997.

Incentives — A General Discussion - Jim Van Blaricum

Why are there incentive programs? Economic studies have shown that for each dollar invested in the oil and gas industry and for each dollar of production, there is a positive effect on the state’s economy. Each dollar has the effect of $2.91 by the time it moves out through the state. Prior to the oil and gas bust that began in the mid-1980s, the oil and gas sector was the strongest in the Texas economy. In the late-1980s and early 1990s, the poor health of the industry was reflected in the poor health of the state’s economy. The incentive programs are targeted to help grow the economy by encouraging investment in exploration and production.

How do incentive programs work? By providing exemptions from or reductions of the severance tax on oil and gas production, these incentive programs in effect lower the cost of production. For marginal operations, in particular, these incentives might mean the difference between shutting in a well, keeping a well in production, or bringing a well back into production. For others, the incentives are factored into decisions of drilling or not drilling a well, initiating an enhanced recovery project, or servicing a well to increase its production.

What is the process? Under each of these incentives, the Commission will issue an approval or certification. The operator takes this certification and applies to the Office of the Comptroller of Public Accounts for the severance tax exemption or reduction. Jim Van Blaricum

The New Incentives

The Incremental Production Incentive. Leases with wells that averaged seven BOE (barrels of oil equivalent) a day or less in 1996 are eligible for a fifty percent tax reduction on incremental production. The period from September 1, 1997 through December 31, 1998 will be used to determine any increase in production over the 1996 baseline level. The exemption is granted as long as the price of oil, as judged by the Comptroller, remains below $25 (adjusted to 1997 dollars). It is suspended if the price reaches $25 or above for three consecutive months and reinstated when it is below $25 for three consecutive months.

For the Incremental Production Incentive, the Commission will review all oil lease production records for calendar year 1996 and calculate the average daily BOE for each oil well. The BOE takes into account both oil and casinghead gas production, with six mcf (thousand cubic feet) of gas being equivalent to one barrel of oil. If, during the four highest months of a lease’s 1996 production, the production per day per well is no more than seven BOE, the lease is initially qualified. The Commission, during Fall 1997, will advise the operator of these leases that they are initially qualified.

If, between September 1, 1997 and December 31, 1998, the production of an initially qualified lease exceeds the 1996 baseline BOE for four out of five consecutive months, that incremental production is used to derive an incremental production ratio. The Commission will certify that ratio which will be used by the Comptroller in calculating exempt production volumes. Primary, secondary, or tertiary techniques may be used; the primary production technique must involve an expenditure of at least $5,000. The operator of the initially qualified oil lease that has incremental production will apply to the Commission for certification.

For further information on the Incremental Production Incentive, contact Dorsey Twidwell of the Oil and Gas Division’s Production Services Section at 512-463-6742.

The Incentive to Market Previously Flared or Vented Casinghead Gas. If an operator markets casinghead gas that had previously been released into the air (vented or flared) for 12 months or more in compliance with Commission rules and regulations, the operator may receive a severance tax exemption on that gas for the life of the well. Operators will apply to the Railroad Commission for certification.

For further information on the Incentive to Market Previously Flared or Vented Casinghead Gas, contact David Triana of the Oil and Gas Division’s Permitting Services Section at 512-463-7307. Jim Van Blaricum

The Two-Year Inactive Well Incentive. This is comparable to the old Three-Year Inactive Well Incentive that was introduced in 1993. Under the new incentive, if an oil or gas well has been inactive (i.e., has no more that one month of production) during the preceding two years, any new oil, gas well gas, or casinghead gas production* may be eligible for up to a ten-year severance tax exemption. The program begins September 1, 1997 and ends February 29, 2000.

In Fall 1997, after receipt and processing of August 1997 production reports, the Commission will do a computer review of all oil lease and gas well records and identify those wells that have been inactive the preceding two years. At that time, operators of those wells will be informed of their potential eligibility for certification. Each month thereafter, as additional wells are identified as reaching the two-year inactive point, their operators will also be notified. If a well has not been automatically identified as being potentially eligible, an operator may apply through August 31, 1999 for certification.

Wells that have previously been certified as Three-Year Inactive Wells will not be re-certified under this program at this time.

A Review of Incentives Already in Effect

The Enhanced Oil Recovery (EOR) Incentive. Oil produced from an approved new enhanced oil recovery project or expansion of an existing project is eligible for a special EOR tax rate of 2.3 percent of the production’s market value (one-half of the standard rate) for ten years after Commission certification of production response. For the expansion of an existing project the reduced rate is applied to the incremental increase in production after response certification.

There is a two-step approval process. An operator seeks Commission approval of the project and area designation before active operation of the project. Then, once an approved project is active, the operator seeks Commission certification that the project evidences a positive production response (a rate of production higher than what would have taken place without enhanced recovery methods). For a secondary enhanced recovery project, application for positive production response certification must be filed within three years of initial project approval; for tertiary projects, application must be filed within five years. Jim Van Blaricum

This program began in 1989. During the 75^th Legislature, the deadline for applying for initial project approval and area designation was extended to January 1, 2008.

For further information on the EOR Incentive, contact Jim Irwin of the Oil and Gas Division’s Permitting Services Section at 512-463-8312.*

The High-Cost Gas Incentive. Gas from wells defined as high-cost gas wells under Section 107 of the old Federal Natural Gas Policy Act (NGPA) is eligible for a severance tax reduction under this incentive. The level of reduction is based upon drilling and completion costs (this part is administered by the Office of Comptroller of Public Accounts). To qualify for the reduction the well must be spudded or completed from September 1, 1996 through August 31, 2002. An earlier program granted a tax exemption if the well was spudded or completed between May 24, 1989 and September 1, 1996.

The Commission provides certification that the well is a high-cost gas well, that is, it produces gas from (a) a gas well completion below 15,000 feet deep, (b) a designated tight formation, (c) Devonian shale, (d) coal seams, or (e) geopressured brine.

Because of a change during the 75^th Legislature, there is no longer a deadline for applying to the Commission for certification. However, for maximum tax exemption or reduction, the filing with the Comptroller must be made at the later of the 180^th day after the date of first production or the 45^th day after the date of the well’s certification by the Commission. If the applicable deadline for filing with the Comptroller is not met, the tax exemption or reduction is reduced by 10 percent for the period beginning on the 180^th day after the first day of production and ending on the date the application is filed with the Comptroller.

For further information on the High-Cost Gas Incentive, contact Jim Irwin of the Oil and Gas Division’s Permitting Services Section at 512-463-8312.*

The Three-Year Inactive Well Incentive. Although the Commission issued its last certifications under this incentive February 29, 1996 (the statutory deadline), wells that were certified qualify for a severance tax exemption on oil, gas well gas, and casinghead gas produced in the ten-year period following certification. Certified wells are identified on the monthly stripout of allowables sent to oil and gas operators. If the ownership of the well is transferred, the new operator may transfer the exemption for the remainder of the ten years by contacting the Comptroller of Public Accounts (1-800-531-5441 x 3-3731 or, in Austin, 463-3731).

* For additional details, please refer to the statewide rules for the on-going incentive programs: Statewide Rule 50 for enhanced oil recovery, Statewide Rule 83 for three-year inactive wells, and Statewide Rule 101 for high-cost gas. Copies may be obtained by calling the Oil and Gas Division’s Central Records area at 512-463-6882 or downloaded from the Commission’s web site: www.rrc.state.tx.us

Jim Van Blaricum - XTO Energy expanding its Fayetteville shale acreage

HOUSTON, Apr. 7 -- XTO Energy Inc. agreed to acquire 55,631 net acres of Fayetteville shale leasehold acreage, including producing properties, from Southwestern Energy Co. for $520 million. Jim Van Blaricum

Upon completion, the acquisition will expand XTO's position in the Fayetteville shale to more than 300,000 net acres. Closing is expected by May 5. Jim Van Blaricum

XTO Energy Pres. Keith A. Hutton said the acreage being acquired is contiguous to the Fort Worth, Tex., company's core development footprint. Jim Van Blaricum

"With the pipeline infrastructure already in place, our immediate plans include using four drilling rigs in 2008 and at least six rigs in 2009," Hutton said. "We expect proved reserves attributable to this acquisition to grow to 160 bcfe this year and at least 325 bcfe by yearend 2009."