Sttep Right Up! Get Your Tax Loophole Here!

The bill known as the “Close Big Oil Tax Loopholes Act” was introduced last Tuesday (May 10, 2011) by United States Senators Robert Menendez (D-NJ), Sherrod Brown (D-Ohio) and Claire McCaskill (D-Mo). The bill would have redirected the billions of dollars in savings from ending the tax breaks currently enjoyed by the U.S. oil industry and would have gone a long ways towards closing the budget deficit.

“At a time when families are feeling the pain at the pump and our deficit keeps growing at an alarming rate, we simply can’t afford to keep giving away billions in taxpayer handouts to oil companies that are doing nothing to help lower prices” Menendez said in a statement. “The Close Big Oil Tax Loopholes Act was based on a simple premise: we need everyone to do their share to lower the deficit, not just working families and the elderly.”

The bill would have also modified the foreign tax credit rules applicable to major integrated oil companies. U.S. taxpayers who happen to live and work outside of the United States are taxed on their income just as those of us who live and work here are. They are entitled however to a dollar-for-dollar tax credit for any income taxes paid to a foreign government. American oil and gas companies have been accused of disguising royalty payments to foreign governments as foreign taxes, allowing them to lower their taxes in the U.S. The bill would close this loophole for foreign oil produced by the Big Five American oil companies.

This bill would have also limited the Section 199 domestic manufacturing tax deduction for any income attributable to the production of oil, natural gas or their primary by-products. Back in 2004, Congress enacted this tax deduction but in 2008, Congress froze the Section 199 deduction at six percent for all oil and gas activity. This bill would have gone further by eliminating altogether the Section 199 deduction for the Big Five.

American oil companies have always gotten deductions for intangible drilling and development costs. This bill would have limited those deductions by denying the Big Five oil companies the option of expensing Intangible Drilling Costs (IDC) and require these costs to be capitalized IDCs such as expenditures for wages, fuel, repairs, hauling and supplies necessary for the drilling of oil wells. Currently, oil companies can expense 70 percent of the cost of IDCs. This bill would have required that the Big Five capitalize all of their IDCs.

Another loophole eliminated by this legislation would have limited the percentage depletion allowance for oil and gas wells. Today, firms that extract oil and gas are permitted a deduction to recover their capital investment under one of two methods: First, there is the recovery of actual capital investment such as the costs of searching, discovering, purchasing and developing the well over the period that the well actually produces income. Under this method, the oil company’s total deduction cannot exceed its original investment. Percentage depletion allows the cost recovery to be computed using a percentage of the revenue from the sale of the oil or gas. Under this method, total deductions could exceed the taxpayer’s capital investment. This bill would have repealed percentage depletion for the Big Five.

Second, oil and gas companies today receive a deduction for “tertiary injectants” which are used in enhanced oil drilling—to drive more oil from an existing well. Oil companies are currently allowed to deduct the cost of “tertiary injectants” rather than capitalizing their costs and then recovering those costs over time. This bill would have limited the deduction for “tertiary injectants” by requiring the Big Five to capitalize the cost of “tertiary injectants” they use during the year and recover those costs over time.

Finally, this bill would have repealed outer continental shelf deep water and deep gas royalty relief by repealing Sections 344 and 345 of the Energy Policy Act of 2005. Section 344 extended existing deep gas incentives, while Section 345 provided additional mandatory royalty relief for certain deepwater oil and gas production.

President Obama has urged Congress to repeal tax breaks for the largest oil companies as part of a deficit reduction effort. Republican congressional leaders however have argued that the oil companies would only increase the cost of gasoline to make up for the loss of tax breaks. On Tuesday, all of the Senate Republicans and three of the Senate Democrats agreed with Republicans and voted this bill down.

The oil industry has been lobbying fiercely to protect the tax breaks. "More taxes would do nothing to lower prices,” said Brian Johnson, a senior tax advisor with the American Petroleum Institute, during a press briefing Monday. “They would not affect the global economics underpinning oil supply and demand, which explain today's gas prices. They would, however, hurt the economy by reducing energy investment and the new jobs that would flow from that investment. Proponents of tax increases need to get serious about American jobs and American investment. Oil and natural gas companies can do much more to help, but the right policies are needed to facilitate this. Increasing taxes is not the answer.”

The truth is, had this bill passed last Tuesday, it apparently would have been unconstitutional since all revenue-raising bills must originate in the House. But Senate Democrats have clearly decided to use the current legislative session to force Republicans to take a series of votes sure to be unpopular with a majority of the American electorate. Now that 235 House Republicans have voted to end Medicare as we know it via the Paul Ryan plan, there is no way that any of them and possibly more importantly, no Republican presidential candidate can deny. Democrats plan to continue forcing Republicans to demonstrate who they really are and what they truly believe in.

With polls showing Americans vehemently opposed to any changes to Medicare, and very much in favor of taxing the wealthy and ending special interest subsidies, Republican candidates could very well find themselves on the short end of a stick in 2012, dragging several unpopular votes behind them.

Let’s hear one for the Grand Ole Party!