In drilling tax debate, Oklahoma lawmakers should recall past tax lessons

April 29, 2014

The Oklahoman: Critics of the lower rate, particularly those representing tax consumers, aruge that horiztonal drilling is now commonplace and therefore the incentive no longer impacts drilling activity. The most aggressive critics think a return to the 7 percent rate for all drilling activity is warranted, saying it would generate hundreds of millions of tax dollars for education and other programs.

Those claims appear to be inflated. Estimates generated by the Oklahoma Oil & Gas Association, which take into account the impact of higher taxes on drilling decisions at the margins, show a higher tax rate would ultimately translate into fewer tax dollars.

Should the incentive rate expire in 2015 and the rate return to 7 percent, the association doesn’t claim drilling will dramatically decline aside from the first year. But its estimates show slower growth in drilling activity will occur.

With a 7 percent rate, the association estimates energy production will generate around $1 billion in taxes by 2020. But if the 1 percent rate is maintained, it estimates drilling activity will provide nearly $1.2 billion in taxes by 2020. Thus, those seeking more education funding through a higher tax rate could actually deprive schools of millions of dollars annually.

The debate on the horizontal drilling tax rate is ongoing. It’s worth having. But this debate can’t focus solely on the potential for more tax revenue from a higher rate. Economic activity doesn’t take place in a laboratory. In the real world, investments are fluid. Incentives — and disincentives — flow in more than one direction.

Critics of the lower rate, particularly those representing tax consumers, argue that horizontal drilling is now commonplace and therefore the incentive no longer impacts drilling activity. The most aggressive critics think a return to the 7 percent rate for all drilling activity is warranted, saying it would generate hundreds of millions of tax dollars for education and other programs.

Those claims appear to be inflated. Estimates generated by the Oklahoma Oil & Gas Association, which take into account the impact of higher taxes on drilling decisions at the margins, show a higher tax rate would ultimately translate into fewer tax dollars.

Should the incentive rate expire in 2015 and the rate return to 7 percent, the association doesn’t claim drilling will dramatically decline aside from the first year. But its estimates show slower growth in drilling activity will occur.

With a 7 percent rate, the association estimates energy production will generate around $1 billion in taxes by 2020. But if the 1 percent rate is maintained, it estimates drilling activity will provide nearly $1.2 billion in taxes by 2020. Thus, those seeking more education funding through a higher tax rate could actually deprive schools of millions of dollars annually.

The debate on the horizontal drilling tax rate is ongoing. It’s worth having. But this debate can’t focus solely on the potential for more tax revenue from a higher rate. Economic activity doesn’t take place in a laboratory. In the real world, investments are fluid. Incentives — and disincentives — flow in more than one direction.