A Severance Tax: The Basics

Marc Stier |

Pennsylvania has been considering a severance tax on natural gas for years. Here are four reasons it is long overdue:

TALKING POINT #1: A severance tax can bring in substantial and, as natural gas prices rise, growing revenues to help close our budget and investment deficits now and in the future.

Governor Wolf’s proposal is projected to bring in $349 million next year, $712 million in 2018-2019 and $1.15 billion a year by 2021-22. (These are net revenues after deducting a credit for the impact fee already paid by natural gas drillers.) Even a tax at slightly lower levels brings in over $200 million next year and close to a billion dollars a year 2021-2022.

TALKING POINT #2: Oil and gas development companies pay comparatively little in state taxes now.

Even though gas production has increased from 4,070 billion cubic feet in 2004 to 5,096 in 2016, total revenue from the impact fee has declined from $222 to $172 million. The effective tax rate of the impact fee has fallen to a bit more than 2%, which is far below West Virginia’s rate of 5%.  Natural gas drillers also pay little to no corporate income tax in Pennsylvania due to federal energy development tax incentives, their status as limited partnerships (which allows them to pay taxes at the personal income tax rate rather than the much higher corporate income tax rate), as well as our porous corporate income tax for companies based out of state. Gas drillers pay somewhere between 7% and 37% less in corporate income taxes than they did in 2011-2012 at the beginning of the boom.

TALKING POINT #3: Every other major gas-producing state has a severance tax, so a severance tax would create no incentive for drilling companies to leave Pennsylvania.

Tax policies make little difference in the development of resources in one state over another. Montana offered tax rates of about half that of neighboring North Dakota, yet from 2009 to 2012 production doubled in North Dakota and fell in Montana by 14%. What is important to development are gas prices, access to markets, and the relative costs of producing the gas. Pennsylvania’s Marcellus/Utica shale play is the largest, lowest-cost gas producing region in the country, so it is very attractive to drillers. It will become more important as new pipelines already under construction make investment in Pennsylvania even more attractive.

TALKING POINT #4: Pennsylvania residential consumers will pay a tiny portion of a severance tax.

Most of the gas produced in Pennsylvania is exported to other states so, according to the Energy Information Agency, residents of those states would pay 90% of a Pennsylvania severance tax. Pennsylvania consumers already pay severance taxes to other states that ship gas here. Less than 7% of a severance tax will be paid by Pennsylvania consumers, and they will see their gas prices go up by a very small amount.

Here’s a more detailed look at the severance tax.