Severance Taxes on Oil, Gas, and Timber Could be Due for Reforms

By Josiah Dalke
October 19, 2021

Mississippi currently levies specific taxes on timber, gas, and oil extraction within the state. These taxes are known as severance taxes. While these taxes are a small part of the overall state tax structure, the small and unpredictable revenues suggest that these taxes should potentially be reformed or repealed.

The amount of revenue from severance taxes has been on the decline. According to the Mississippi Revenue Annual Report (FY 2020), severance tax revenue was well over $80 million in 2012.  However, that number took a steep decline between 2014 and 2015.  Now, severance revenue is at its lowest point: a little over $20 million. 

In 2020, the severance tax comprised a mere 0.5 percent of the total state tax revenue. When this much fluctuation occurs, and the tax makes up such a small portion of the state revenue, the question should be asked whether or not this tax merits being in place at all.

Mississippi’s severance tax rate rests at 6 percent and is evaluated based on the gas and oil’s value at the time.  On the other hand, Georgia’s rate is based on volume and collects 3 cents per barrel of oil or 1 cent per 1,000 cubic feet of gas.  Meanwhile, Pennsylvania, the largest producer of natural gas in the United States, does not have a severance tax and instead charges a well fee that is allocated to various local and state entities. In 2014, Elizabeth Stelle from the Commonwealth Foundation in Pennsylvania warned readers that a severance tax would harm local landowners, schools, and business owners for the sake of meeting the state’s “chronic budget shortfalls.” 

How does this compare to other states?  Thirty-four states have a severance tax and sixteen states have elected not to impose them. Comparing the rates and effects can be difficult in this respect as nearly all of these severance tax systems are constructed in many different ways and are designed by varying tax methodologies

It also important to note that severance taxes are among the most unpredictable form of tax revenue. With this in mind, the question must be asked whether or not the state can really justify having the tax when the revenues are small and unpredictable. The tax carries very little value from a budgetary angle since the expected revenues cannot be predicted easily.

For instance, as the value for natural gas has decreased, the tax revenues have decreased. According to the Mississippi Department of Revenue, between 2008 to 2017, the value of natural gas has decreased in value by 24 percent. This substantial decrease led to a decline in the total amount of revenue collected from the tax. If the state had budgetary funds dependent on the taxable value of natural gas, the funds would see negative effects from the decrease in natural gas value. A better model is to base state budget projections on revenues with greater predictability.  

Furthermore, while the severance tax impact on the total general fund is small, that does not isolate the taxpayers from its effects. The current tax rate of six percent on the total proceeds of fossil fuels and varying percentage rates for timber could actually have a real impact on the state's timber and fossil fuel industry. Both fossil fuels and timber are in competitive markets. A lower tax on these commodities could help Mississippians in the industry have a better market advantage.  

Of course, that raises further questions as to why the value has decreased so steeply in such a relatively short amount of time.  A popular answer is that renewable energy is taking the place of energies that traditionally contributed to severance tax revenue.  As the oil and natural gas industry seeks to find new business models to keep up with new technologies and cultural preferences, the government should not overburden the industry with taxes that have relatively low value to the state.

As a general rule, taxes do not solve problems.  In fact, problems are often solved when taxes are eliminated.  If states like Mississippi are worried about the decline of the oil and gas industry and the reduction of government revenue from it, perhaps a viable option is to simply decrease or eliminate the tax and let Reaganite economics take its course.  If severance tax revenue continues in the direction the trend is pointing, there may not be much to lose anyways.


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