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).