Montana Administrative Register Notice 42-2-844 No. 16   08/26/2010    
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In the matter of the adoption of New Rules I through V and amendment of ARM 42.25.1801 relating to oil and gas taxes






TO: All Concerned Persons


1. On September 20, 2010, at 1:00 p.m., a public hearing will be held in the Third Floor Reception Area Conference Room of the Sam W. Mitchell Building, at Helena, Montana, to consider the adoption and amendment of the above-stated rules.

Individuals planning to attend the hearing shall enter the building through the east doors of the Sam W. Mitchell Building, 125 North Roberts, Helena, Montana.


2. The Department of Revenue will make reasonable accommodations for persons with disabilities who wish to participate in this public hearing or need an alternative accessible format of this notice. If you require an accommodation, contact the Department of Revenue no later than 5:00 p.m., September 7, 2010, to advise us of the nature of the accommodation that you need. Please contact Cleo Anderson, Department of Revenue, Director's Office, P.O. Box 7701, Helena, Montana 59604-7701; telephone (406) 444-5828; fax (406) 444-4375; or e-mail canderson@mt.gov.

The following rules are proposed to provide direction to the industry on the reportable taxable value of gas in instances where there is not an arm's-length wellhead price. The intent of the rules is to ensure an adequate and fair taxable value.


3. The proposed new rules do not replace or modify any section currently found in the Administrative Rules of Montana. The proposed new rules provide as follows:


NEW RULE I GROSS VALUE OF NATURAL GAS (1)  If natural gas is sold pursuant to an arm's-length contract at the wellhead, the contract price multiplied by the volume of natural gas will be accepted as the total gross value.

(2)  If natural gas is sold in the absence of a contract the total gross value of the natural gas may be determined by reviewing comparable arm's-length contracts. The department will identify comparable arm's-length contracts utilizing factors including but not limited to; similar time, proximity to the location, similar duration, similar gas quality, and similar quantity of gas sold.

(3)  If natural gas is sold through a non-arm's-length contract at the well or wells and sold with an arm's-length contract further downstream of the well or wells, the gross value of the natural gas may be determined at the delivery point with delivery price adjustments.


AUTH15-36-322, MCA

IMP15-36-305, MCA


REASONABLE NECESSITY The department is proposing to adopt New Rule I to provide clear guidance to taxpayers regarding the computation of the gross value of natural gas. Section (1) of the new rule clarifies that if natural gas is sold at the wellhead pursuant to an arm's-length contract, the value will be accepted as gross value for purposes of 15-36-305, MCA.

Sections (2) and (3) establish the means to determine the gross value of the natural gas if the gas is sold under a non-arm's-length contract, is not sold at the wellhead, or is sold in the absence of  any contract.



(1)  DPA costs are reasonable and necessary costs incurred by the operator to bring the gas to the point of delivery. DPA costs must be documented, itemized, and increase the value of the gas. 

            (2) Allowable delivery price adjustment costs include but are not limited to:

            (a) Costs of direct labor associated with the central facilities. Direct labor is not meant to include personnel in corporate or headquarter offices who are not directly involved in the actual on-site central facility operations;

            (b) Costs of materials, supplies, maintenance, repairs, and utilities directly associated with the central facility;

            (c) Property taxes paid on the central facility;

            (d) Liability and casualty insurance directly paid on the central facilities;

            (e) Depreciation of the central facility is allowed as a reduction in gross value or a delivery price adjustment. The department will allow the depreciation of the initial capital investment of the central facilities, determined on a straight-line basis for a period of ten consecutive years beginning the year in which the facility first began to operate. The department will also allow additional capital investments made to the central facilities after the initial capital investment determined on a straight-line basis for a period of ten consecutive years beginning the year in which the facility first began to operate;

            (f) A return on investment percentage will be allowed to the operator of the central facility provided a balance of the initial capital investment is available to be depreciated as calculated in accordance with (2)(e). The annual rate of return will consist of the undepreciated balance of the capital investment multiplied by Moody's Baa corporate bond rate. For example assume the following: both Company Y and Company X operate gas wells in Montana, both companies do not have arm's-length wellhead contracts, but rather delivered gas contracts well downstream of the wells, Company Y made an initial capital investment of a central facility asset (a gas processing plant) for $1,000,000 and the initial investment has been fully depreciated ($1,000,000), Company Y sold the asset to Company X for $200,000 (Moody's Baa corporate rate is 3%), and Company X will be allowed a return on investment reduction of their gas value of 3% of the acquisition cost or 3% * $200,000 or $6,000.

(3) Unallowable delivery price adjustment costs include but not limited to:

            (a) State and Federal income taxes, license taxes, sales taxes, fuel taxes, excise taxes, production taxes and other fees, including royalties are not allowable expenses.

(b) Acquisition costs cannot be deducted in the year incurred or capitalized, and amortized under this rule.

(c) Costs incurred in the normal lease separation of the natural gas are not allowed.

(d) No company overhead costs will be allowed.

(e) Indirect labor such as supervisory labor or office labor will not be allowed.

(f) No allocable costs that are not considered direct costs will be allowable.

AUTH15-36-322, MCA

IMP15-36-305, MCA

REASONABLE NECESSITY  The department is proposing to adopt New Rule II to provide taxpayers with specific examples of allowable and unallowable reductions to the gross value of natural gas. Direct labor, supply costs, property tax, insurance, and depreciation of the original capital investment are all possible delivery price adjustments. 

New Rule II also provides that a return on investment will be an allowable reduction to the gross value of natural gas. The rule states that the rate of return will only be allowed if there is an undepreciated balance of the capital asset. Since capital investments are only depreciated over ten years, the rate of return will only be allowed for the same ten years.

New Rule II also states that various taxes, acquisition costs, separation costs, overhead, or indirect labor are not allowable reductions in gross taxable value.



(1)  Deductions are allowable only to the extent that they represent directly related costs of the operator's central facilities and were actually incurred and paid.

(2)  The Montana Oil and Gas Production Tax is not an income tax. Therefore, the delivery price adjustment rules do not allow the broad spectrum of deductions allowed under an income tax.

AUTH15-36-322, MCA

IMP15-36-305, MCA

REASONABLE NECESSITY The department is proposing to adopt New Rule III to provide taxpayers with guidance regarding delivery price adjustments. The policy is careful to state that if costs are not incurred and paid for, they are not delivery price adjustments. 

New Rule III also informs taxpayers of the distinction between extraction taxes and income taxes. In the case of income taxes, if a cost is incurred generally it is deductible because the goal is to calculate the tax on net income.

The goal of extraction taxes is to tax the product at a market or taxable value. Some costs incurred, such as delivery price adjustment, increase the value of the gas. 

New Rule III simply states that not all costs incurred are allowable as delivery price adjustments or reductions in gross value. 

NEW RULE IV NECESSITY OF PROOF (1)  Any delivery price adjustment or reduction in value will be disallowed if the operator does not keep adequate records or other proof to show the amount and purpose for the expense. To satisfy the adequate records requirement, there must be records maintained that were prepared at or near the time of use, and the records must be supported by receipts, vouchers, or other documentary evidence.

AUTH: 15-36-322, MCA

IMP: 15-36-305, MCA


REASONABLE NECESSITY The department is proposing to adopt New Rule IV to explain the source document requirements for delivery price adjustments. New Rule IV mirrors the record keeping requirements for all tax types when an entity or an individual is attempting to take a reduction in gross taxable value.



(1) Qualifying production time period begins immediately after the last day of the month preceding the month when production first started. The qualifying production time period continues for 12 or 18 contiguous months, 12 for vertical production or 18 for horizontally completed wells.

            (a)  Example – A vertical oil or natural gas well first produces May 2010. The well will have a reduced tax rate as illustrated in 15-36-304, MCA for the months May 2010 to April 2011.

(2) The tax incentive applies to the total gross value of all oil or natural gas sold in the 12- or 18-month period. If the sales occur after the 12- or 18-month period nonqualifying production tax rates as described in 15-36-304, MCA apply.

AUTH15-36-322, MCA

IMP15-36-304, MCA


REASONABLE NECESSITY  The department is proposing to adopt New Rule V to explain the department's current and long standing practice for qualifying production. Specifically the rule states that in order to receive a lower rate and be classified as qualifying production, the production and sales of the gas must be done in the first 12 months for vertical wells and the first 18 months for horizontally completed wells.


4. The rule proposed to be amended provides as follows, stricken matter interlined, new matter underlined:


42.25.1801 DEFINITIONS  In addition to the definitions found in 15-36-303, MCA, the following definitions apply to terms used in this chapter:

(1) "Arm's-length contract" means a contract or an agreement to sell that has been arrived at between independent, nonaffiliated parties with adverse economic interests. Contracts or agreements for the purposes of these rules will be defined to be non-arm's-length if the parties to the contract or agreements have business relationships other than the agreement between the buyer and seller which have influenced the sales price. 

(2) "Central facilities" are installations which are used to cool, heat, separate, dehydrate, compress, sweeten, or gather natural gas at a point remote from the well or wells.

(3) "Delivery point" means a point away from the well or lease where the natural gas is sold.

(4) "Delivery price adjustments" includes all expenses directly incurred and paid for in the operation and maintenance of "central facilities". Delivery price adjustments are merely a reduction in price and are not meant to be a deductible expense beyond the well or wells. Delivery price adjustments only occur when the department deems it necessary to establish the correct natural gas gross value.

(5) "Lease" means that particularly described tract of land contained in a contract in writing whereby a person having a legal estate in the land so described conveys a portion of his interest to another, in consideration of a certain rental or other recompense or consideration. A lease may contain one or more wells. One operator shall be named as the lease operator and shall be responsible for filing the oil and natural gas production tax return.

(2) through (5)(c) remain the same but are renumbered (6) through (9)(c).

(10) "Qualifying production time period" is the first 12 months of production of a vertical well or the first 18 months of production of a horizontally completed well. 

(6) through (8) remain the same but are renumbered (11) through (13).


            AUTH15-36-322, MCA

IMP15-1-101, 15-36-301, 15-36-302, 15-36-303, 15-36-304, 15-36-305, 15-36-309, 15-36-310, 15-36-311, 15-36-312, 15-36-313, 15-36-314, 15-36-315, 15-36-319, 15-36-321, 15-36-326, 82-1-111, MCA


REASONABLE NECESSITY The department is proposing to amend ARM 42.25.1801 to address new definitions contained in the rules in this subchapter.

Arm's-length contracts are further clarified to alert the reader where the gross value of the natural gas will be determined. 

Central facilities are specifically defined in the rule because costs incurred by central facilities may qualify to be delivery price adjustments.

Delivery point is defined to provide a distinction between the well and the delivery point. This is an important distinction as delivery price adjustments may be allowable reductions in natural gas gross value at the delivery point to ultimately arrive at the gross value of the natural gas.

Delivery price adjustments are defined as adjustments to a delivered price downstream of the well or wells. The definition states that reductions in gross value are not automatically awarded but rather reviewed and approved by the department.

Qualifying production time period is defined in the rule to establish that for vertical wells the first contiguous 12 months of production are eligible for the lower tax rate. The same holds true for horizontal production.


5. Concerned persons may submit their data, views, or arguments, either orally or in writing, at the hearing. Written data, views, or arguments may also be submitted to: Cleo Anderson, Department of Revenue, Director's Office, P.O. Box 7701, Helena, Montana 59604-7701; telephone (406) 444-5828; fax (406) 444-4375; or e-mail canderson@mt.gov and must be received no later than September 24, 2010.


6. Cleo Anderson, Department of Revenue, Director's Office, has been designated to preside over and conduct the hearing.


7. An electronic copy of this Notice of Public Hearing is available through the department's site on the World Wide Web at www.mt.gov/revenue, under "for your reference"; "DOR administrative rules"; and "upcoming events and proposed rule changes." The department strives to make the electronic copy of this Notice of Public Hearing conform to the official version of the notice, as printed in the Montana Administrative Register, but advises all concerned persons that in the event of a discrepancy between the official printed text of the notice and the electronic version of the notice, only the official printed text will be considered. In addition, although the department strives to keep its web site accessible at all times, concerned persons should be aware that the web site may be unavailable during some periods, due to system maintenance or technical problems.


8. The Department of Revenue maintains a list of interested persons who wish to receive notices of rulemaking actions proposed by this agency. Persons who wish to have their name added to the list shall make a written request, which includes the name and e-mail or mailing address of the person to receive notices and specifies that the person wishes to receive notices regarding particular subject matter or matters. Notices will be sent by e-mail unless a mailing preference is noted in the request. Such written request may be mailed or delivered to the person in 5 above or faxed to the office at (406) 444-4375, or may be made by completing a request form at any rules hearing held by the Department of Revenue.


9. The bill sponsor contact requirements of 2-4-302, MCA, apply and have been fulfilled. The primary bill sponsor of Senate Bill 430 (1999), Senator Glenn Roush, was contacted on July 29, 2010, by regular mail. 



/s/ Cleo Anderson                             /s/ Dan R. Bucks

CLEO ANDERSON                          DAN R. BUCKS

Rule Reviewer                                   Director of Revenue


Certified to Secretary of State August 16, 2010.


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