II. RECOMMENDATIONS
What follows is a high-level blueprint to begin to modernize the onshore and offshore oil and gas leasing programs in order to better restore balance and transparency to public land and ocean management and deliver a fair and equitable return to American taxpayers.
Providing a Fair Return to American Taxpayers and States
Onshore
Adjusting and modernizing the fiscal terms used in the Federal onshore oil and gas program increases returns to the public and disincentivizes speculators or less responsible actors. The GAO has reported extensively that taxpayers have not received a fair rate of return due to outdated fiscal terms. For example, Federal onshore oil and gas royalty rates are consistently lower than on State-issued leases and Federal offshore leases (see Tables 1 and 2); in fact, onshore royalty rates have never been raised. Likewise, bonding levels have not been raised for 60 years, and minimum bids and rents have been the same for over 30 years. If a lease is not sold competitively at auction, for two years it can be sold non-competitively for a modest administrative fee, with no bonus bid required. These noncompetitive leases are frequently less diligently developed as competitively issued leases. From 2013 to 2019, average revenues from competitive leases were nearly three times greater than revenues from noncompetitive leases.
Such low prices for leases, coupled with generous 10-year lease initial terms that are frequently extended, encourage speculators to purchase leases with the intent of waiting for increases in resource prices, adding assets to their balance sheets, or even reselling leases at a profit rather than attempting to produce oil or gas. In one particularly egregious recent case, an individual purchased nearly 300 oil and gas leases and resold many of them almost immediately for up to 13 times the original purchase price. Speculators, not taxpayers, receive the profits from these resales. Because information on lease resales is not easily accessible, local communities are often in the dark when it comes to who has the right to develop oil and gas nearby.
The BLM should improve the return to taxpayers and create an oil and gas program that is more consistent with BLM's multiple-use and sustained yield mandates. Consideration should be given to raising royalty rates and, to the extent allowed by statute, to increasing the current minimum levels for bids, rents, royalties, and bonds. Congressional passage of pending bipartisan legislation could further modernize fiscal terms. States will also benefit from a modernized fiscal system since they receive 49 percent of all oil and gas revenues generated from public lands within their borders. Onshore revenues also fund water reclamation projects throughout the West through contributions to the Reclamation Fund, and may also contribute to the National Parks and Public Land Legacy Restoration Fund.
Royalties
The Mineral Leasing Act was passed in 1920 and set royalties at a minimum of 12.5 percent for oil and gas produced from public lands. Today, 100 years later, leases are still being sold using these low rates, which are out of step with modern times. Numerous public reports provide
support for raising royalty rates for leasing on public lands, and nearly all State and private lands require that operators pay a royalty rate higher than 12.5 percent. In June 2017, GAO reported that studies showed that raising Federal royalty rates for onshore oil and gas could "decrease production on federal lands by a small amount or not at all but could increase overall federal revenue.
Taxpayers for Common Sense released a report last year stating that the Federal Government "lost up to $12.4 billion in revenue from oil and gas drilling on federal lands from 2010 through 2019" because Federal royalty rates are too low. Additionally, the same report found little evidence supporting claims that increasing the Federal onshore royalty rate would drive developers away and reduce overall revenues. This finding aligns with the results seen in Colorado and Texas, where there was no significant effect on production from State lands after State royalty rates were raised.
The BLM should begin to adjust royalties for competitive leases offered in individual lease sales and initiate a rulemaking to establish a higher minimum royalty for onshore oil and gas leases. The BLM also should consider limiting discretionary royalty relief, which it has provided extensively to lessees in the recent past, while it updates its current royalty relief guidance and reassesses the economic assumptions used during royalty relief application evaluations.
Bonus Bids
A bonus bid is the price paid at a lease sale for an oil and gas lease. The minimum bonus bid is set at $2 per acre—an amount that has not been changed since 1987. If an area offered for lease does not receive a bid during the lease sale, the bonus bid is waived, and the area can be acquired during the next two years by the first party that pays a nominal application fee.
The GAO found that leases purchased with a higher bonus bid of more than $100 per acre are over 20 times more likely to be developed in their first lease term than leases purchased with the minimum bid of $2 per acre. The BLM should initiate rulemaking to increase the minimum bid to discourage speculators and to provide a better return to the taxpayer.
Rental Rates
Companies pay rent until the lease is in production, and then they pay royalties on the oil and gas produced. The rental rates, which have not changed since 1987, are $1.50 per acre per year for the first five years, then $2 per acre per year for the next five years, at which point a non- producing lease would expire. The lease is automatically extended as long as production continues.
A GAO report from 2009 concluded that:
Interior does less to encourage development of federal oil and gas leases than some state and private landowners. Interior officials cited one lease provision that may encourage development––escalating rental rates. ... Compared to Interior, the eight states we reviewed undertook more efforts to encourage development on their oil and gas leases, using increasing rental rates as well as shorter lease terms and escalating royalty rates. Some states also do more than Interior to structure leases to reflect the likelihood of oil and gas production, which may encourage faster development.
The BLM should initiate a rulemaking in order to increase rental rates for future lease sales.
Bonding
Current regulations require financial assurance from all lessees to ensure compliance with lease terms and requirements, which is generally provided in the form of a lease surety bond. A lease surety bond remains in place until all lease obligations have been met, including decommissioning, which can extend beyond the expiration of the lease. A surety bond can be issued as a lease-specific bond, a statewide bond, or a nationwide bond, and additional bonds may be necessary to ensure compliance with lease obligations and regulations.
Insufficient bonding levels provide an inadequate incentive for companies to meet their reclamation obligations and increase the risk that taxpayers will be required to cover the cost of reclaiming wells in the event that the operator refuses to do so or declares bankruptcy. According to a 2019 GAO report:
... weaknesses with bonds for coal mining and for oil and gas development pose a financial risk to the federal government as laws, regulations, or agency practices have not been adjusted to reflect current economic circumstances. We have also reported that BLM has no mechanism to pay for reclaiming well sites that operators have not reclaimed.
The risks associated with low bonding rates have become more apparent in light of the recent increase in bankruptcies. Company liquidations often result in wells becoming orphaned, which then fall to the Federal Government or States to address, while some companies have used Chapter 11 restructuring to get out of reclamation obligations.
According to the same 2019 GAO report, oil and gas lease bonds do not provide sufficient financial assurance because, among other things, most individual, statewide, and nationwide lease bonds are set at regulatory minimum values that have not been adjusted for inflation since the 1950s and 1960s. These minimum bond amounts and the year calculated are: individual lease, $10,000—1960; statewide, $25,000—1951; nationwide, $150,000—1951. The National Petroleum Reserve—Alaska bonds were set in 1981; an individual lease is $100,000, and a reserve-wide bond is $300,000. While individual States have bonding levels that are often too low to fully reclaim modern horizontally-drilled wells, most States require significantly higher bonds than the Federal Government, often with bonding requirements that adjust based on the depth and number of wells covered.
The BLM should increase minimum bond amounts and set the appropriate levels taking into consideration changes in technology, the complexity and depth of modern wells, inflation, and the risk of abandonment. While such regulations are being developed, BLM should adjust bonds for individual, high risk leases through adequacy reviews and when leases are reinstated or applications for permits to drill are extended.
Offshore
Royalties and Royalty Relief
The BOEM evaluates lease terms on a sale-by-sale basis to ensure they are consistent with current market or resource conditions. The OCSLA sets the minimum offshore royalty rate at 12.5 percent and directs that leasing be conducted in a way that ensures the government receives fair market value (FMV). OCSLA also directs that management of the OCS be conducted in a way that considers economic, social, and environmental values, and protects the human, marine, and coastal environments.
A 2019 GAO report that assessed BOEM's process to evaluate whether it was receiving FMV for offshore leases recommended that BOEM take steps to reform its methodology to ensure that it was capturing the full value of the lease tracts it was offering. The BOEM is in the process of responding to several of GAO's recommendations concerning oil and gas valuation procedures.
Revenues from lease sales, royalties on production, and rental fees are distributed to the U.S. Treasury, several coastal States through OCSLA section 8(g) and the Gulf of Mexico Energy Security Act, the Historic Preservation Fund, the Land and Water Conservation Fund, and Legacy Restoration Fund.
As with BLM, BOEM, and BSEE will be continuing to study the most appropriate method for revising royalty rates and other fiscal terms to monetarily account for the costs of carbon dioxide, methane, and nitrous oxide.
Also similar to BLM, BOEM and BSEE have the authority to provide discretionary royalty relief depending on economic circumstances, and those agencies likewise will be reevaluating existing royalty relief guidance and the economic assumptions used to evaluate royalty relief applications, insofar as royalty relief can have the effect of subsidizing uneconomic production at taxpayers' expense. The BSEE recently determined, for example, that the April 2020 Special Case Royalty Relief guidance neither formalized application and evaluation procedures nor provided adequate training to implement them, and BSEE has discontinued this specific royalty relief option.
Financial Assurances
Financial assurance requirements for operators offshore are similar to those onshore: all lessees must provide a general lease surety bond, which covers all terms and conditions of a lease and remains in place until all lease obligations have been met, including decommissioning, which can extend beyond the expiration of the lease. A surety bond can be issued as a lease-specific bond or as an area-wide bond that guarantees obligations on all leases held by a lessee within a specified area. Additional bonds may be necessary to ensure compliance with lease obligations and regulations.
Lessees, owners of operating rights, and ROW holders are jointly and severally responsible for decommissioning obligations and are required to perform this duty in a timely manner, consistent with regulations and guidance.
Recent bankruptcies have in some cases resulted in companies being unable to cover their decommissioning liabilities, leading to orphaned wells and idle infrastructure. The BSEE estimates that the liability for currently orphaned infrastructure on the OCS is approximately $65 million, with the potential to increase if more companies go bankrupt and create additional orphaned infrastructure. The GAO recently found that there were approximately $2.3 billion in decommissioning liabilities on the OCS that were not covered by bonds, and roughly $33 billion in liabilities had bonds waived because the financial condition of the leaseholder was considered strong enough.