Texas Severance Tax: What Owners Need to Know

Texas severance tax is an excise tax on natural resources produced and severed from the land in Texas. Mineral rights owners, as recipients of royalty income, are often connected to the severance tax through the operator or the company that pays the royalty. The post below is general information; verify the current state with a Texas-licensed CPA.

What the severance tax is

Texas assigns the reporting and payment obligation differently by product. For crude oil, the first purchaser generally pays the production tax based on the oil’s market value. For natural gas, the producer primarily pays, although the producer and purchaser may agree that the purchaser will pay. The Texas Comptroller publishes those current rules on its Crude Oil Production Tax and Natural Gas Tax pages. Whether a royalty statement shows a severance-tax-related deduction depends on the lease, the payor’s accounting, and how the statement presents deductions; the deduction line alone does not identify the legal taxpayer.

Royalty owners generally are not required to file a Texas production-tax return merely because they receive royalties. The tax still affects well economics and may affect the amounts shown on an owner’s statement depending on the governing documents. The severance tax is separate from the owner’s federal income tax and from the Texas franchise tax (which applies to certain entities, not to individuals).

The current rate structure

The Texas Comptroller currently states the oil production tax as 4.6% of the market value of oil on its Crude Oil Production Tax page. For natural gas, the Comptroller currently states 7.5% of the market value of gas and 4.6% of the market value of condensate on its Natural Gas Tax page. Verify those published pages for the current rate, fee, exemption, and reporting details before relying on any specific number.

Reduced rates can apply only when a well or project qualifies under a certified exemption or incentive program. Owners often consider severance tax when they look at a high recent royalty check stub and ask whether the run-rate is sustainable, but the current Comptroller rate pages do not describe the basic oil, gas, or condensate rates as a progressive price-threshold schedule.

What the royalty owner actually sees

Whether a royalty statement shows a severance-tax-related deduction depends on the lease, the payor’s accounting, and how the statement labels deductions. An owner should not infer the legal taxpayer solely from whether a severance-tax line appears. Statement items that may require review include:

• Severance tax reimbursement. In some leases, the operator passes a portion of the severance tax through to the royalty owner. The lease controls this; verify with the owner’s lease language or a Texas-licensed attorney.
• Post-production costs. Gathering, transportation, and processing costs. The lease controls how these are calculated; some leases permit broad deductions, others are narrower. Texas case law has narrowed some of these deductions in recent years; verify with a Texas-licensed attorney.
• Marketing and compression. Costs of moving the gas to a pipeline. The lease controls.

The headline royalty fraction (e.g., 1/4 or 3/16) is the starting point, but the net check is the result of those deductions and the calculations in the lease. The underwriter review walks through the net calculation as part of the income approach.

Reporting and compliance

The first purchaser generally handles crude-oil production-tax payment and reporting. For natural gas, the producer primarily handles the tax unless the producer and purchaser agree that the purchaser will pay. The Comptroller publishes the forms, schedules, rates, fees, and exemption guidance on its crude-oil and natural-gas tax pages. Receiving royalty income does not by itself make the owner the production-tax filer, but royalty income can create federal income-tax obligations, and basis, depletion, and holding period can matter at the federal level.

A Texas-licensed CPA is the right professional for the federal income tax treatment, particularly for the depletion calculation (cost depletion vs. percentage depletion), the installment treatment on a sale, and the basis recovery. The severance tax and the federal income tax are different mechanisms; one does not displace the other.

Exemptions and deductions

A few specific exemptions and deductions apply. The Comptroller’s published guidance is the source of truth. Owners often consider the following, but each requires verification with a CPA or the Comptroller’s office:

• Two-year inactive well severance tax incentive. A reduced rate for inactive wells returned to production.
• Low-producing well severance tax incentive. A reduced rate for low-volume wells.
• Enhanced oil recovery (EOR) projects. Specific incentives for EOR projects.
• Offshore and deepwater. Different rate structures; verify with the Comptroller for any specific situation.

The list changes. The Comptroller’s office is the source of truth.

What the underwriter review does with severance tax

An underwriter review typically does not size the severance tax. The review is focused on the income side (production × royalty fraction × deductions) and the discount-rate side. The production tax affects well economics; whether a related deduction appears on an owner’s statement depends on the lease and the payor’s accounting. The review should use the lease and actual royalty statements rather than assume a typical pass-through.

When to involve a Texas-licensed CPA

For any specific situation, the right move is a Texas-licensed CPA familiar with mineral-rights tax. The CPA will:

• Confirm the current severance tax rate with the Comptroller’s published guidance.
• Review the lease for any severance tax pass-through language.
• Calculate the federal income tax treatment, including basis, depletion, and the installment treatment on a sale.
• Coordinate with the owner’s federal tax preparer on the year-of-sale reporting.

A short summary

For crude oil, the first purchaser generally pays the Texas production tax; for natural gas, the producer primarily pays unless the producer and purchaser agree otherwise. Receiving royalties does not by itself make the owner the production-tax filer. The Texas Comptroller currently lists oil production tax at 4.6% of market value, natural gas at 7.5% of market value, and condensate at 4.6% of market value, with reduced rates available only through qualifying certified exemptions or incentive programs. A royalty statement may show severance-tax-related deductions depending on the lease and payor accounting. Verify any specific situation with a Texas-licensed CPA and the Comptroller’s published guidance.

Sources

• Texas Comptroller: Crude Oil Production Tax
• Texas Comptroller: Natural Gas Tax