New: the Burn Rate Calculator. Know your runway in 30 seconds →

Severance Tax

The removal of natural resources within a taxation jurisdiction is subject to severance taxes. In the United States, states that produce oil are most likely to implement severance taxes. Oil, natural gas, coal, uranium, and lumber are examples of resources that frequently have severance taxes applied when they are removed. Other phrases, including gross output tax, are used in some jurisdictions.

Understanding Severance Tax

Resource producers must pay a severance tax, as well as anyone who owns a working or royalty stake in an oil, gas, or mineral enterprise in the states that impose it. States occasionally combine the two to determine the tax based on both the value and volume of production.

The severance tax is levied to make up for the states' loss of the non-renewable source, or "severance," as well as to pay for the expenses related to its extraction. Yet the state government of each individual state decides when a drilling well can produce more natural resources than a specific threshold.

Since the tax rate could be too onerous for extractors to plug and abandon the wells, various tax incentives in the form of credits or lower tax rates are frequently permitted.

Thus, these tax incentives are offered to promote the development and growth of oil and gas enterprises.

Oil severance taxes must be paid in full by royalty owners. This deduction is shown on their royalty owner revenue statement each month. Even if these owners do not make a net return on their investment, they may still be subject to severance tax.

It's important to note that while state severance taxes are deductible from federal business income tax obligations, they are not the same as income tax. If you're a royalty owner or producer, you must still pay all applicable federal and state income taxes on oil and gas income in addition to severance tax.

Severance Tax Revenue Generation To Government

Severance taxes generated $15 billion in combined revenue for state and local governments in 2019, or 0.4 percent of total revenue. While it increased from $13 billion in 2018 and $9 billion in 2017, the whole amount is still lower than the almost $20 billion per year between 2012 and 2014 (all in 2019 inflation-adjusted dollars) Severance tax income, even at its peak, accounted for less than 1% of state and municipal general revenue.

Severance tax revenue is also heavily concentrated in a small number of states. In fact, North Dakota and Texas' combined severance tax revenues made up roughly 60% of all state and municipal severance tax receipts in 2019.

However, only a few governments relied heavily on the tax as a revenue source. Severance tax revenue made up 23 percent of North Dakota's state and municipal general revenue in 2019. Wyoming, Alaska, and New Mexico came in at 8 percent, 7 percent, and 6 percent, respectively (6 percent). The only other states where the tax contributed more than 1% of state and local general revenue in 2019 were Louisiana, Montana, Oklahoma, Texas, and West Virginia.

Conclusion

A state tax known as the severance tax is levied when non-renewable natural resources are extracted with the intention of being used by other states.

States are supposed to get compensation via severance tax for the loss of non-renewable resources.

  • Twitter
  • Facebook
  • LinkedIn
  • Instagram

Recommended Reading

After Incorporating a Business: Financial and Compliance Steps to Follow

Learn the essential financial and compliance steps after incorporating a business in the United States. Understand EIN registration, business banking, startup accounting, tax setup, and ongoing compliance requirements. Fincent supports U.S. startups and small businesses with incorporation services, registered agent support, banking guidance, and professional bookkeeping to maintain accurate financial records and support business growth.

Read more

The Financial Challenges Founders Often Miss

Understand the financial challenges founders often overlook as their businesses grow. Learn why increasing revenue doesn't always indicate financial stability and how cash flow problems, declining profit margins, limited financial visibility, delayed bookkeeping, and inconsistent financial reporting can affect business performance. Drawing on Fincent's experience working with growing businesses, this article highlights the importance of accurate financial records, regular financial reviews, proactive cash flow planning, and scalable financial processes in helping U.S. small businesses make informed decisions, maintain financial stability, and support sustainable growth.

Read more

How to Choose an AI Bookkeeping Platform?

Learn how to choose the right AI bookkeeping platform for your business. Understand the key factors to consider, including AI-powered automation, transaction categorization, bank reconciliation, financial reporting, integrations, data security, pricing, and professional bookkeeping support. Discover how Fincent combines AI-powered bookkeeping software with expert bookkeeping services to help U.S. small businesses reduce manual work, maintain accurate financial records, gain better financial visibility, and support business growth.

Read more