New talk in the US about tax reform should make oil and gas companies nervous.
In what might or might not be part of a trend, Burger King has agreed to buy the Canadian coffee-and-donut chain Tim Hortons and move from Miami to Ontario.
Announcement of the deal amplified political concern about tax inversion-in which US companies buy smaller outfits abroad and transfer headquarters to countries with lower corporate taxation.
As incensed US lawmakers called for boycotts of Burger King, company executives denied tax considerations drove the acquisition.
But the US does tax corporations at high rates in comparison with other industrialized countries, and executives have to respond. Tax inversion is one way to do so.
The maneuver would lose appeal if Congress lowered the tax rate. But it wouldn't do that without the political cover of tax reform, which means closing "loopholes" and ending "breaks."
Because it has tax benefits unavailable to other industries, the oil and gas business would be an easy target. Yet those breaks respond to unique industry characteristics.
A producer's future earnings, for example, depend fundamentally on oil and gas reserves. Theoretically, reserves values should be represented as an asset on the producer's balance sheet.
But accounting can't make that representation with acceptable precision. Oil and gas in the subsurface are immeasurable. Estimates of their volumes are too imprecise and variable to suit financial reporting and auditing.
Producers therefore report as assets not a financial value of reserves but the costs of finding and developing them, written down over time as depletion.
This gets complicated. Many of those costs relate to items of intangible value rather than physical property. Some apply to unsuccessful wells.
Two distinct accounting systems have evolved to accommodate these and other perplexities of the oil and gas industry, both theoretically defensible and legal.
Tax law, too, has evolved to address problems other industries don't encounter. Tax reform, if it progresses beyond political promise-making, should treat the resulting mechanisms with care.
(From the subscription area of www.ogj.com, posted on Aug. 29, 2014; author's e-mail: [email protected])