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March 31, 2014
For Immediate Release:
NARO-PA Discusses Post-production Cost Deductions and Endorses HB 1684

The issue of post-production costs being deducted from royalty checks is a major issue facing royalty owners in Pennsylvania today. The practice is costing Pennsylvania natural gas royalty owners millions of dollars each year.

Trevor Walczak, vice-president of the National Association of Royalty Owners PA Chapter (NARO-PA) says, “Unfortunately, this issue is one of the growing pains that accompany the positive, transformational phenomenon that the Marcellus shale has meant for us. Yes, our gas law does need to catch up to the technology via the courts, but when we have the opportunity to clarify existing law in the legislature; we need to draft clear, concise, gas law that protects royalty owners, the people who are on the front lines of energy independence.”

The Pennsylvania Supreme Court ruling in Kilmer vs. Elexco, March, 2010, stated the following:

“We note that the General Assembly is the branch of government best suited to weigh the public policies underlying the determination of the proper point of royalty valuation in the deregulated gas industry.”

On March 17, 2014, the House Environmental Resources and Energy Committee amended HB 1684 to include a definition of royalty. The bill, originally introduced by Rep. Garth Everett (R-Lycoming), intends to protect royalty owners from unwarranted post-production cost deductions. The “royalty definition amendment” has four important components:

1. It adds a definition for post-production costs and provides that royalties for unconventional wells are to be “calculated at the point at which production enters the commercial market place and ownership transfers to another unrelated business entity.”

2. In cases where production enters the commercial marketplace and a transfer of ownership is not between two parties at arm’s length, the lessee shall have the burden to prove that the royalty calculation and royalty paid are at fair market value.

3. Deductions for post-production costs shall not be taken if the deduction results in a royalty of less than 1/8th.

4. Finally, language is added to the bill to insure that nothing in the act shall be construed to require retroactive recalculation or repayment of royalty payments made prior to the effective date of the act, and no lease shall be invalidated for deductions that resulted in royalty payments of less than 1/8th, prior to the effective date of the act. The act is to apply to all current and future lease agreements.

This bill and the royalty definition amendment are supported by the National Association of Royalty Owners PA Chapter (NARO-PA), and they have drawn broad support from royalty owners statewide. The proposed royalty definition amendment passed the committee 15-10 in a bi-partisan fashion. The amended bill passed the committee 25-0 and is scheduled for a vote before the entire PA House of Representatives on March 31, 2014.

Walczak continued, “The bill is straightforward in its approach and makes a bold statement with this amendment that Pennsylvania is taking a stand for its citizens. Pennsylvania’s royalty owners are the keystone of our energy independence, and they need to be treated fairly. It is imperative that the legislature take this timely opportunity to define royalty in an effort to clarify language in the Guaranteed Minimum Royalty Act.”

Mineral owners and gas companies are partners in a natural gas production venture. Mineral owners contribute 100% of the gas while the gas companies are providing the knowledge, expertise and equipment for developing well sites, drilling, completing wells, and gathering and transporting the gas to market. In exchange, the mineral owners expect to receive royalties of 12.5% to over 20%, depending on the terms of the individual lease.

Mineral owners typically do not have a working interest in a well. In fact, many of the leases clearly state the only costs to be borne by the mineral owner are those costs that actually enhance the value of the gas, such as a cracker plant in regions which produce wet-gas.

In most cases, royalties were paid without deductions for any of these costs until January, 2012. At that time, some companies interpreted the findings of the Kilmer vs. Elexco case as a means to allow them to begin deducting expenses from royalty payments. This has resulted in royalty owners receiving far less than the expected minimum royalty of 12.5% in many cases.

However, many Marcellus operators agree with our definition of royalty, which is demonstrated by the fact that they do not take deductions for “post-production costs” as they do not feel they are entitled to take those deductions under their interpretation of the lease.

Jacqueline Root, a President of the Pennsylvania Chapter of NARO states, “Individuals are not the only mineral owners in the state. Schools, churches, cemetery associations, businesses, local municipalities, and universities are also mineral owners, as well as the Commonwealth itself. For example, the DCNR and PA Game Commission own approximately 1.75 million acres of mineral rights in the Marcellus region. These agencies’ royalties will be subject to deductions, just as those of individuals, local governments, and other organizations.”

Mrs. Root continues, “This could have a huge impact on revenue received by the state for years to come. Therefore, every resident of the state of Pennsylvania has a stake in this issue.”

The amended bill will be up for second consideration before the Pennsylvania House of Representatives during the week of March 31. NARO-PA requests that you would please contact your state representative and ask him or her to support a “clean” HB 1684 with the “royalty definition amendment” intact.

Walczak, the NARO-PA VP, reminds mineral owners statewide “these next few weeks are critical in moving this legislation forward and keeping the momentum going because there is still a long road ahead before this bill becomes law. Get engaged. This is a bill from the people that needs to be promoted by the people. If there is one thing I have learned in my work with NARO-PA is that our state government is accessible to those who are passionate, informed, and respectful. Your legislators want to hear from their constituents on these important issues. ”

"On behalf of all Pennsylvania royalty owners, NARO-PA would like to thank our Marcellus representatives, Rep. Garth Everett, Rep. Tina Pickett, Rep. Sandra Major, and Rep. Matt Baker. It is because of their dedicated work on the issue of post production cost deductions that we have this opportunity to clarify this existing law to the benefit all Pennsylvanians. They have shown tremendous resolve throughout this effort and should be recognized for their work. Please take the time to thank them as well." Walczak advised.

Walczak concluded, “As an education, outreach, and advocacy organization, NARO-PA will continue our work in Harrisburg to bring the stories of Pennsylvania’s mineral owners to the entire legislature, but we need your support. We need royalty owners to join NARO-PA and be actively involved in managing their mineral estate because of the value it holds to them, their families, and the future of Pennsylvania.”

Media Contact: Trevor Walczak, VP NARO-PA, (570)510-3952, pennroar@yahoo.com

The National Association of Royalty Owners (NARO) is the only national organization representing solely and without compromise the interests of all oil and gas royalty owners.

"The mission of NARO is to encourage and promote exploration and production of minerals in the United States while preserving, protecting, advancing and representing the interests and rights of mineral and royalty owners through education, advocacy and assistance to our members, to NARO chapter organizations, to government bodies and to the public."