The Shale Play: Its Effects on Property Taxes

by John Zimpel  on Monday, Aug. 27, 2007 12:00 am  

State and local taxes are not collected in vacuums. Each affects the other, and their interaction performs a major role in the delivery of governmental services. 

The state of Arkansas relies on the proverbial three-legged stool of taxation: At the state level we collect income and sales and use taxes; local government is the domain of property taxes.

The best illustration of state and local tax interaction is the funding of public education in Arkansas. In fact, the line between state and local government becomes blurred when considering public school funding.

Excluding federal government inputs, state general revenue accounts for about two-thirds and local property taxes the remaining one-third of public school funds, over three-quarters of all property taxes collected are for school purposes, and about half of state general revenue is spent on public education. 

The distribution of state general revenue to school districts is based on the wealth of each district measured by the assessed value of property. The locally elected county assessor is responsible for determining the assessed value of most property in Arkansas. So, in effect, the distribution of half of state general revenue depends on the work of 75 people.

Natural gas exploration and production in the Fayetteville Shale Play is projected to have a large economic impact on the state and more particularly in the counties where the play is located. Property values in the Fayetteville Shale are already showing increases where exploration and production are active, and county assessors are reacting to these changes.

Land Information

County government is Arkansas' treasury for land information. Though local abstract offices maintain land ownership information, the county courthouse is where the public learns when ancestors bought and sold estates or otherwise acquired or lost them, where the properties can be located, and a reasonable or at least legal estimate of a property's value. 

Each county office, judge, sheriff, circuit clerk, county clerk, collector and treasurer plays a role in property record management, but it all comes together at the assessor's office.

The traditional job of a county assessor involves completing three tasks: the discovery of, the valuing of and the listing of property for taxation purposes.

The Fayetteville Shale crosses counties where mineral rights have not contributed to the property tax base; at least, natural gas has not been a known commodity in these counties. Historically, up until the Fayetteville Shale Play became active, mineral rights in the counties have been assessed only at the insistence of the property owners, and the assessed values were nominal. No one felt compelled to assess mineral rights, and the records of who owned them faded away. 

Retrieving mineral rights ownership is a difficult task. The most challenging property tax aspect of the Fayetteville Shale is finding property ownership. Reserving mineral rights ownership - severing these rights from the rest of the property by sellers - is a common practice, and thoroughly checking deeds for these reservations is the only way to determine when severed mineral rights are created. 

Checking deeds and separating severed mineral rights in the records was a low priority in assessor offices in the past. However, the Fayetteville Shale development has changed that, and thoroughly checking deeds is required, including property owner-supplied legacies left by unknown ancestors and those filed daily in the courthouse. It will remain a challenge, one that likely will grow as development of the play expands.

Other discovery issues include:

Mineral rights tax sales by the land commissioner or sheriff were invalidated due to illegal listing. The effect on the discovery process has been a compounding of the ownership claims on minerals and many people trying to involve the assessor's office in title disputes. To our knowledge most operating companies do not recognize mineral rights tax sales, and none has occurred since the early 1980s.

Division orders, the documents showing ownership of the various rights, working royalty, overrides, etc., are not always shared with assessor offices.  With these documents assessors could produce a thorough ownership database and better distribution of the mineral rights tax base. 

The laws concerning mineral rights taxation only refer to severed rights and do not address the contributory value of mineral rights production to property where there is single ownership of surface and mineral rights. Producing mineral rights properties not severed from surface estates have not been included in the assessed value property and the potential added value has not been taxed.

Tax Sales Voided

Listing - building the data about and the official record of mineral rights assessments in the Fayetteville Shale - has been particularly difficult. Ownership information has not been well maintained, and the minerals that were assessed have often reverted to the government because of nonpayment of taxes. 

However, all tax sales have essentially been voided and the ownership reverted to those who may have abandoned the property and left no heirs to claim it.  Mineral rights are no longer sold for taxes. When mineral rights properties go delinquent and are certified to the state, they can only be redeemed or retained by the state. The owner of the mineral rights or surface estate above them may redeem them from the land commissioner. If they are not redeemed, the land commissioner retains the mineral rights and the state receives the benefits of the leases and production.

With the law allowing surface right owners to redeem severed mineral rights certified to the state land commissioner's office, county assessors have seen quite a few surface rights owners trying to get them to assess mineral rights to the last known or sometimes unknown owners. The intention appears to be for the mineral rights to go delinquent, get certified to the state and then be redeemed by the surface rights owner. 

Comparatively speaking, natural gas is a small and localized product in Arkansas, and the value of the properties reflects that status. Its contribution to the property tax base is minor on a statewide basis.

As a result, the assessment of natural gas has been a low priority; the valuation methodology, based on annual production and not necessarily the reserves in the ground, was adopted many years ago and remained unchanged. The assessment of mineral rights has also not been audited by the Assessment Coordination Department in the past.

The Fayetteville Shale Play will impact the counties where it's located, but to what extent the discovery, listing and valuation of mineral rights assessed will change is unknown. It's probably safe to say some property assessment methods will change, and there will be a better understanding of the process in the future. And the results will benefit taxpayers, taxing units and county officials alike.

(John Zimpel is a certified general real estate appraiser, researcher, educator and special projects coordinator with the Arkansas Assessment Coordination Department.) 



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