In these tough economic times where many are struggling for cash, states are not an exception. In order to aid them in meeting budgetary goals, some states are proposing the idea of imposing new oil and gas levies.

Pennsylvania and California are proposing increased severance taxes on oil and natural gas production in their states (5% and 9.9% proposed severance tax, respectively). Arkansas passed, and now has in effect, a tax increase on oil and gas production. Companies in these states warn that the new tax levies could lead to lost jobs and higher energy prices as they decide to relocate their business elsewhere.

Some states, such as Colorado and Montana, have already attempted to pass legislation to increase these taxes, but the bills have died in their state legislature due to “vote no” campaigns funded by the industry.  Although there is obviously significant opposition to the higher taxes, some industry insiders point out that the higher taxes may not greatly impact a company’s drilling locations. For instance, Alaska (which has the highest severance tax rate at 25%) has not seen a reduction in drilling activity.

As companies make decisions on where to drill, they should keep an eye on the relevant state legislature as rising severance taxes may impact the economic viability of their projects.

Many deals, especially those financed by investment funds, have a tiered or waterfall structure for allocating income and distributions.  It is normal for the partners who are putting the deal together and who will run the day-to-day operations to have a relatively small ownership percentage on the front end since most of the capital will come from an investment fund.

Over time, based on the entity’s performance and the increase in value of the enterprise, these “operations partners” may increase their ownership percentage in the income and profits of the partnership.  This will usually occur once certain return hurdles are met for the “investment partners.”  Unless provided for in the partnership agreement, this switch in sharing percentages will result in the “investment partners” being allocated more income and therefore more distributions over time that the parties intend.

Although there are several options, the best way to make sure all partners end up being allocated the income and distributions everyone intends each party to receive over time, is to handle income allocation and distribution provisions independently in the partnership agreement.