Marginal and stripper wells: What tax breaks are available to low production oil and gas companies?

The fluctuations that occur in oil & gas prices can pose a large challenge for many oil and gas companies. After rising to near $120 per barrel in 2013, crude oil dropped sharply from 2014 through 2016, bottoming out below $30 a barrel in January 2016. Oil finally began to see an upward turn as 2016 continued, with a sharp rise to $50 a barrel in just a few months. In the last two years the price of oil has continued to gradually rebound to approximately $68 a barrel, where it rests today.

While the market dictates the price oil can be sold at, the costs to produce oil are largely constant, causing price fluctuations to massively affect upstream oil companies. Upstream refers to the companies that extract and produce oil and natural gas (E&P), as opposed to downstream companies, which buy crude oil from the upstream companies, refine it and sell it, and hence suffer little from fluctuating prices.

Many oil wells were hit hard by the low oil prices, especially small rigs and stripper or marginal wells. NWSA estimates there are over 770,000 stripper wells operating that contribute 11.3 percent of the U.S. oil production and 8.3 percent of U.S. gas production. The government has created incentives for these types of companies to keep operations running smoothly.

What is a “stripper well” or a “marginal well?”

The term “stripper well” is sometimes confused with the term marginal well, although they are technically different. A stripper well is, simply put, a well that produces a very low amount of oil or gas - see tax definitions in the paragraph below. A marginal well, on the other hand, is a well whose production costs are higher than the cost the business earns from selling the gas/oil at its critical point. Because of this, the well can only earn a profit when the price for oil rises above the critical break-even level.

Despite the difference, the terms are often used interchangeably by the government for tax purposes.

For tax purposes in Texas, an upstream oil or gas production company may generally qualify as a stripper well if it is:

• An oil well that produces a daily average of 15 barrels of oil or less over 365 days
• A natural gas well that produces a daily average gas level of 90 thousand cubic feet or less over 365 days

Does Texas provide tax relief for stripper wells?

The severance tax on the market value of oil produced in Texas is generally 4.6 percent. In 2014-2016, Texas faced a crisis in which many stripper and marginal wells found it unprofitable to extract oil and gas, and so the State of Texas finally stepped in to mitigate the situation by adding a tax break for every barrel of oil produced by stripper wells, of 25-50 percent. Unfortunately, this tax break no longer applies, as the law was set to only take effect if the oil prices of early 2016 continued for 3+ months, which did not happen.