Ms. Howe specializes in oil and gas title and transactions and issues related to real property law.  She has worked on many issues relating to federal oil and gas leases and federal exploratory units. She assists clients in drafting agreements and title curative documents. She is the author of a number of articles on oil and gas topics.

Nonconsenting Owner in a Colorado Oil and Gas Well Must First Pursue Claim for Payment of Proceeds of Production at COGCC – not District Court

A recent Colorado Court of Appeals decision involves two parts of the statutes regarding the Colorado Oil and Gas Conservation Commission (Commission):  the pooling statute and the statute regarding payment of proceeds of production.  In Grant Brothers Ranch, LLC v. Antero Resources Piceance Corporation, ___ P.3d __ (2016), 2016 COA 178, the court held that the nonconsenting owner was required to exhaust its administrative remedies by bringing its claim at the Commission, and that the nonconsenting owner’s claim brought in district court should have been dismissed without prejudice.

The Commission established two drilling and spacing units to produce oil and gas in Garfield County.  Antero Resources Piceance Corporation (Antero) offered to lease the mineral interest owned by Grant Brothers Ranch, LLC (Grant Brothers) in the units.  Grant Brothers did not lease its interest and also refused Antero’s offers for Grant Brothers to participate in the wells.  After Antero’s requests, the Commission entered orders pooling all nonconsenting interests in the units. 

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An old rule of thumb for title examiners was that a mineral reservation needs to be in the granting clause, not the warranty clause, of a deed to be valid. As the courts have moved to seeking to determine the parties’ intent in a deed, these old rules have been whittled away. A recent Colorado Court of Appeals case shows that a title examiner needs to read the entire deed and that a mineral reservation does not need to be in the granting clause to be valid.

In Owens v. Tergeson, 2015 COA 164, 2015 WL 6746535 (2015), the court of appeals interpreted two deeds from 1950 and found that all oil, gas and other mineral interests were reserved in the deeds.

The reservation was not in the granting clause of the deeds. The court found the reservation was in the habendum clause of the deeds (the clause that starts out “To Have and To Hold . . . ”). The part of the deeds where the reservation was inserted read:

. . . free and clear from all former and other grants, bargains, sales, liens, taxes, assessments and encumbrances of whatever kind or nature soever. except reserving all oil, gas and other minerals and the right to use so much of the surface as is necessary to develop, produce and care for the same; also 1950 taxes; and the above bargained premises in the quiet and peaceable possession of the said party of the second part, his heirs and assigns against all and every person or persons lawfully claiming or to claim the whole or any part thereof, the said parties of the first part shall and will WARRANT AND FOREVER DEFEND.

The court of appeals found it was important that the deeds appear to be a printed form of warranty deed with the reservation language added.

The court noted that in a 1952 case, the Colorado Supreme Court rejected the old common law rule requiring the reservation to be in the granting clause, in favor of the more modern view that the overall intent from the deed considered as a whole should control.

This decision is interesting to title attorneys because it confirms the trend of the court to interpret deeds as a whole to determine the parties’ intent.

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Colorado Severance Tax – New Case Allows Operators To Deduct The Cost Of Capital

A decision in late April, 2016, by the Colorado Supreme Court, allows deduction of the cost of capital for construction of gas processing and transportation facilities in calculating Colorado severance tax.

In BP America Production Company v. Colorado Department of Revenue, 2016 CO 23, 2016 WL 1639829, the Colorado Supreme Court reversed the decision of the Colorado Court of Appeals regarding whether the cost of capital may be deducted from revenue in valuing oil and gas resources for purposes of calculating state severance tax. The court found that the Colorado severance tax statute authorizes a deduction for any transportation, manufacturing and processing costs, and that the cost of capital is a deductible cost that resulted from investment in transportation and processing facilities.

Colorado’s severance tax statute allows extractors to deduct from revenue “any transportation, manufacturing, and processing costs.” C.R.S. § 39-29-102(3)(a). The court emphasized the word “any” in this statute and said that when used as an adjective in a statute, the word “any” means “all.”

BP America Production Company’s (“BP’s”) predecessors had constructed facilities to process natural gas from coal seams and to transport it to market. The parties in the case had stipulated that if the cost of capital is allowed as a deduction, BP is entitled to refunds of $629,186 and $669,202 plus interest for tax years 2003 and 2004, respectively. The court stated that the cost of capital is the amount of money that an investor could have earned on a different investment of similar risk. In this case, the cost of capital is the amount of money that BP’s predecessors could have earned had they invested in other ventures rather than in building transportation and processing facilities. The court held that the cost of capital is a cost for purposes of the severance tax statute.

A memorandum dated May 6, 2016, from staff members to the Joint Budget Committee, states the Colorado Department of Revenue anticipates that the decision in this case will lead to significant refunds due to returns in process and that oil and gas producers will file amended returns as far back as allowed by the statute of limitations. The Department of Revenue estimates $98.4 million in required refunds. A bill that would address funding the refunds was passed by the General Assembly on May 11, 2016. (S.B. 16-218).

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Colorado Supreme Court Holds That a Revocable Option Agreement Does Not Violate The Common Law Rule Against Perpetuities

The Colorado Supreme Court held that an option to purchase oil and gas properties did not violate the common law rule against perpetuities. Atlantic Richfield Company v. Whiting Oil and Gas Corporation, f/k/a Equity Oil Company, 2014 CO 16. In 1968, Atlantic Richfield Company (ARCO) and Equity Oil Company (Equity) entered into an agreement regarding oil shale research by Equity. The 1968 agreement included provisions for money payments to Equity, conveyance of a partial interest from Equity to ARCO in certain property in western Colorado, and a provision that if oil shale was not in commercial production by 1983, Equity would convey to ARCO an additional interest in the property. Id. ¶ 8. In 1983, the parties entered into an amendment of the agreement. In the 1983 amendment, ARCO granted Equity a non-exclusive option to buy back the interest that ARCO had previously acquired from Equity as part of the 1968 agreement. The option would expire in 2008. The 1983 amendment provided “ ‘ARCO shall retain the sole and exclusive right to cancel this Option at any time during its term,’ with the exception that Equity was granted a right of first refusal if ARCO received an offer from another party to buy its interest” in the property. Id. ¶ 9. ARCO and Equity had negotiated for a year regarding the 1983 amendment. The option exercise price was tied to ARCO’s West Texas sour crude oil benchmark price. Equity exercised the option in 2006. The option exercise price at that time was significantly below the property’s 2006 market value. ARCO refused to convey the interest in the property to Equity. Id. ¶ 10.

Equity sued ARCO for specific performance of the 1983 option. ARCO argued that the 1983 option violated the common law rule against perpetuities and was void. The trial court agreed. The common law rule against perpetuities provides that “ ‘[n]o interest is good unless it must vest, if at all, not later than twenty-one years after some life in being at the creation of the interest.’” Id. ¶ 25. The Colorado Statutory Rule Against Perpetuities Act (Act), §§ 15-11-1101 to -1216 C.R.S. (2013), supersedes the common law rule against perpetuities for nonvested property interests created after May 31, 1991. (The common law rule may still apply to nonvested property interests created prior to that date, subject to other provisions of the Act.)

The trial court and the court of appeals applied § 15-11-1106(2) of the Act, which is “a reformation provision that requires courts, upon request, to reform nonvested interests created prior to May 31, 1991 to bring them into compliance with the common law rule.” Id. ¶ 4. This reformation provision was at issue in the appeal. The Supreme Court, however, affirmed the court of appeals on different grounds. The reformation provision applies only to reform instruments that are determined “to ‘violate this state’s rule against perpetuities as that rule existed before May 31, 1991.’” Id. ¶ 4. The Supreme Court held that the option did not violate the common law rule against perpetuities. “The commercial option negotiated by the parties posed no practical restraint on alienation because it was fully revocable at any time before its exercise.” Id. ¶ 6. Thus, the court found the option was valid as originally negotiated.

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Top Ten Tips For Fee Oil and Gas Leases

Pooling Clause - Review the pooling clause to ensure that it is broad enough to allow pooling for the planned spacing unit, communitization and/or unitization. Some pooling clauses may include restrictive language that limits the size of certain units.

Pugh Clause and Continuous Drilling Operations - Determine whether any Pugh clause applies at the end of the primary term or after continuous drilling operations end. (Hopefully the latter!). The definition of continuous drilling operations can vary significantly; therefore, it is important to pay attention to the language in each lease to ensure that requirements are met to continue the lease.

Shut-In Clause - Review the shut-in clause to determine whether it is indefinite or restricted to a certain time period. Pay special attention to whether the shut-in clause restricts the type of well that is subject to the clause (i.e. gas only).

Initial Well Requirements - The lease may include a requirement for the operator to drill an initial well on or before a date that is still within the primary term. Failure to meet this obligation may terminate the lease.

Royalty Clause - Check the lease to see if costs such as gathering, compression and transportation are deductible when calculating royalty. These deductions can make a big difference, so the royalty rate is not the only important part of the royalty clause.

Warranty Clause - Often warranty clauses are stricken to protect the mineral owner from liability if a title defect is discovered. If the clause is restricted or stricken and the mineral owner were to acquire additional interests after the lease (e.g. after-acquired title) the lease may not cover those interests.

Notice Requirements - Review the lease to determine when notice is required; for example, notice may be necessary prior to development, prior to filing an application with a state agency, prior to assigning the lease to a third party, or in other instances.

Additional Benefits - Oil and gas leases can include language that allows for seismic activity, specific surface use or restrictions, limited access during certain seasons, or grants of easements.  If the lessee anticipates any unique situations, they should adequately address those issues in the oil and gas lease to avoid additional costs and future negotiations.

Judicial Ascertainment Clause - A judicial ascertainment clause is often favorable to a lessee and allows a lessee the opportunity to comply with any judicially determined breach of an implied covenant before a lease is forfeited or canceled based on those grounds.

Name of Lessor - Insure that the name of the lessor is complete and correct as record title is held, and add explanatory information if the lessor is not the record owner. For example: (i) XYZ corporation, a Colorado corporation; (ii) XYZ, LLC a Colorado limited liability company; (iii) Joanne Doe, a married woman dealing in her sole and separate property; (iv) John Doe, individually as an heir of Margaret Doe, deceased; (v) Joanne Doe aka Joanne S. Doe aka Joanne Susan Doe; (vi) First National Bank of Denver, Trustee of the John Doe Revocable Trust dated June 27, 2002; (vii) First National Bank of Denver, Personal Representative of the Estate of Margaret Doe, deceased.


Tom McKee:

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