A severance tax is a tax imposed on the value of non-renewable natural resources that will be used outside the state from which they are extracted. These taxes are instated to cover costs associated with extraction and to compensate the state for the loss of a non-renewable resource.
The Independent Petroleum Association of America is held responsible for preparing the industry to be responsible for these taxes. When energy extraction begins taking place in some towns, there are also increased job opportunities and a growing population to go along with it. There are also increased public costs for planning, services for road traffic and reconstruction, and an increased demand on schools, social services, and public safety. The public costs associated with extraction are usually covered through taxation of the extraction resource via a severance tax.
Do state severance taxes inhibit industry investment?
This can be a very controversial question for many reasons. Severance taxes can affect industry decisions as to where drilling takes place. Some states have increased and decreased their tax rates based on drilling information – and this has not deterred gas companies from drilling in the higher based tax areas. The drilling is influenced by reserves and several studies are stating that severance taxes have little effect on natural gas companies and their decision on where to drill. State severance taxes are deductible against federal corporate income tax liabilities. While several taxes do not reduce investment in drilling activity, some economic models indicate that severance taxes may affect the pace and scale of drilling. This can be considered a benefit as it enables areas to adjust to the impact of drilling over a longer period of time. Regardless of the pace, drilling is ultimately driven by the reserves that are available.
How can severance tax revenue cover short and long term costs of drilling?
The following recommendations are made to insure states cover the cost of drilling and to insure that states cover the long term economic viability in drilling regions.
- Create a tax that effectively pays for the short-term and long-term costs of drilling. If a state has a severance tax that is too low, shale gas extraction will require additional government services.
- Distribute tax revenue fairly between state and local governments. Regardless of the exact distribution, the primary purpose of a severance tax is to cover costs by the local and county governments.
- Limit deductions and exemptions. Many states have relatively high tax rates but so many tax loopholes. Be sure the effective rates covers the long and short term costs of drilling.