Don't Let Royalties Become a Royal Pain

Audit|Energy & Resources

By Patrick Kerns

In recent months, exploration and production companies are receiving notice of subpoena, and/or threats of lawsuits, over the treatment of royalty payments for gas produced in Pennsylvania. The issue centers on cases where royalty holders are wondering if they are being incorrectly paid under Pennsylvania’s Guaranteed Minimum Royalty Act of 1979.

The law stipulates that royalty holders are to be paid at least 12.5% on the gas that is produced. The issue that is currently being debated is whether or not it is permissible to deduct certain post-production costs or gather fees from the amount of royalty revenue. Several court cases over the past years, which include, Kilmer v. Elexco Land Services Inc, ruled in favor of the production companies that permitted them to interpret the definition of royalty and the costs for bringing gas to market that could be removed.

Pennsylvania House Bill 1391 seeks to provide definitions for minimum royalty payment for unconventional gas well production, which further provides for apportionment, and remedy for a failure to pay the minimum royalty on unconventional gas wells. While this bill is not currently being considered, it is the latest attempt to clarify the Guaranteed Minimum Royalty Act of 1979.

Without passage of this clarification bill, it is strongly recommended that all companies that enter into leases not only have their leases reviewed by appropriate legal counsel, but also ensure that any and all deductions are clearly and completely described in the lease. This will help to ensure that royalty holders can be aware of these deductions. In addition, other best practices include ensuring your royalty holders are appropriately educated on the terms of their leases and that all deductions are clearly described and matched up to the lease. This will hopefully help you avoid some of the issues seen by some of the other companies.

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