With billions of dollars at stake, the Texas Supreme Court heard arguments Tuesday in a tax showdown whose outcome could shake up the next legislative session while straining the historically friendly relationship between state lawmakers and the iconic oil and gas sector.
Throughout a spirited debate over arcane accounting rules and oil-tinged science, the justices offered few clues as to how they might rule.
“They’re all great poker faces,” said James LeBas, an economist with the Texas Oil & Gas Association and a former chief revenue estimator for Texas, following arguments.
The case ultimately focuses on a single question: Are metal pipes, tubing and other equipment used in oil and gas extraction exempt from sales taxes?
David Keltner, an attorney representing Southwest Royalties, argued that certain extraction equipment clearly fits the exemption’s definition.
The company’s equipment “processes” West Texas crude by separating it into marketable oil and gas, he argued, at times pointing to a chart that displayed the various stages of petroleum extraction. Once the crude is brought up from the ground, it is no longer part of a mineral owner’s estate, he said.
“It is tangible personal property. People own it,” Keltner said. “If you were to hold otherwise, there would be serious consequences.”
Among the consequences he named: Texas regulators would struggle to hold drillers accountable for the oil they extract.
Arguing for the state, Texas assistant solicitor general Michael Murphy disagreed, arguing that minerals are not “tangible personal property,” and that Southwest’s equipment was not necessarily responsible for transforming the crude.
“Southwest’s mineral extraction is really like gathering raw materials,” he said, dubbing the mechanics “pre-production or pre-processing.”
“Until that oil and gas bubbles out of the ground, it’s part of the [real estate].”
Justice Phil Johnson, questioned that interpretation.
“It’s not personal property in the tubing, when it’s coming up, it’s still realty?” he asked. “Even though it’s outside the ground, outside the natural environment?”
Justice Eva Guzman wondered how Texans could determine the precise moment the crude changes phases. “But how would we know when?” she asked.
Keltner, the driller’s attorney, said that instrumentation on the surface would reveal that information. Murphy disagreed.
Murphy also pointed to a separate tax exemption on the books for purchases of some of the same equipment in question — if it’s used for offshore drilling outside of Texas. Texas lawmakers, he said, would not likely intend to consruct overlapping exemptions.
He also argued that the court must revert to a narrow interpretation of the tax code — siding with the state — if a rule is deemed ambiguous.
But Keltner argued that the wording clearly supported the driller’s side, and that denying the exemption was unfair. He listed several other purchases that Hegar’s office has allowed companies to write-off under the policy — including equipment that speeds the ripening of bananas.
“Our concern here is, that we have a new stance applied to the oil and gas industry differently,” he said. “A banana is going to ripen anyway. That is inevitable.”
See here and here for the background. As I said, it’s all angels-dancing-on-the-head-of-a-pin stuff, just with billions of dollars on the line. There’s a part of me that’s rooting for the court to rule for the plaintiffs on the grounds that this would force the Legislature to take action and try to make our tax system better. It quickly gets overwhelmed by the much larger part of me that recognizes the huge potential for mischief and malfeasance by the Lege if this door ever gets opened. So for better or worse I do want to see the state win.