Big Oil Is an Easy Target, Even When Criticism Is Unfair

Rep. Chris Van Hollen, a Maryland Democrat in the U.S. House of Representatives, introduced a bill in February that would eliminate alleged tax breaks for oil companies.  However, the claimed tax breaks are hardly a “giveaway” to large oil companies, but rather the same breaks that are available to other industries.  H.R. 699, entitled the “Stop the Sequester Job Loss Now Act,” would eliminate three tax benefits currently available to the oil industry.

First, the bill would prohibit oil companies from claiming the domestic production deduction under Section 199.  This deduction is available to companies that manufacture, produce, grow, or extract products in the United States.  It is meant to encourage companies to operate their businesses in the United States rather than offshore them.  The deduction is subject to several caps but can reach as high as 9 percent of a company’s income from manufacturing, production, and extraction in a given year.  Notably, oil companies are already subject to a cap of 6 percent rather than 9 percent, so portraying the Section 199 deduction as a perk for the oil industry is incorrect.  If anything, it is the opposite.

Second, the bill prohibits oil companies from using the LIFO (last in, first out) accounting method in valuing their inventories.  Using LIFO often results in a higher cost of goods sold figure, which reduces taxable income.

Third, H.R. 699 would limit the ability of oil companies to treat royalties paid to foreign countries as “taxes” for purposes of the foreign tax credit (FTC).  The FTC allows U.S. companies (not just oil companies) subject to taxes by foreign countries to claim a credit for such taxes against their U.S. income tax liability.  Without the FTC, companies would face double taxation on their income- one tax from the foreign country, and one from the United States.  Oil companies operating in foreign countries generally must pay very large royalties to these countries when they extract oil.  Treating such royalties as non-taxes slashes the FTC an oil company can claim, making it subject to higher income taxes.  But treating royalties paid to foreign governments as different than taxes paid to foreign governments is a distinction with no economic difference and subjects oil companies to double taxation.

Ironically, in attempting to crack down on “Big Oil,” H.R. 699 targets deductions available to a wide variety of businesses, but it does not target tax incentives that are specific to the oil and gas industry, such as the expensing of intangible drilling costs and cost recovery through percentage depletion.  However, President Obama’s proposed budget for the 2014 fiscal year would eliminate these tax incentives.

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