Big Oil’s Influence Shrinks as Tax Perks Face Axe in Biden Plan

Source: By Jinjoo Lee, Wall Street Journal • Posted: Wednesday, April 14, 2021

Cutting the fossil-fuel industry’s tax perks might not dramatically affect hydrocarbon output or the environment, but it will mark the end of an era for Big Oil

President Biden’s tax plan proposes to extend tax credits for renewable energy while ending tax benefits for fossil fuels. Photo: Matthew Busch/Bloomberg News

It doesn’t take long before a typical conversation with a U.S. energy executive turns to subsidies—those enjoyed by others. The fossil-fuel industry often brings up green energy’s explicit tax incentives, while the latter will point to the longevity of special tax preferences for oil and gas.

President Biden’s tax plan proposes to extend tax credits for renewable energy while ending tax benefits for fossil fuels. Oil-and-gas lobbyists could soon find themselves in the awkward position of denying that any special treatment for those companies exists, while digging in their heels to protect that treatment. And while the impact on actual hydrocarbon production could be limited, such a move would mark the end of an era for an industry that has held much influence over the past century.

The U.S. Treasury said last week the tax plan would “end long-entrenched subsidies to fossil fuels,” which it estimates would increase government tax receipts by more than $35 billion over the next 10 years.

For the oil-and-gas industry, the bulk of tax perks come from deductions, which the industry lobbying group American Petroleum Institute argues aren’t unique because other sectors get their own sets of deduction benefits. It has been far easier to single out tax benefits for renewable energy as subsidies because they come in the form of technology-specific tax credits. Yet there are undoubtedly tax breaks oil and gas gets that renewables don’t: Master limited partnerships, which are tax-advantaged vehicles, are available to hydrocarbon production but not renewable energy.

Semantics aside, the fossil-fuel tax provisions most likely up for elimination are two deductions that help lower taxes for exploration-and-production companies. One is the intangible-drilling-cost deduction, which allows oil-and-gas producers to deduct most of the costs associated with finding and preparing wells. The second is something known as percentage over cost depletion, which also effectively helps oil-and-gas companies lower taxable income. Michael Threet, partner at law firm Haynes and Boone, notes that both of these have come up on the chopping block in previous administrations, and yet survived. The two deductions together comprised 46.9% of fossil-fuel tax benefits in 2018, according to the Congressional Research Service.

In absolute terms, tax benefits available to fossil fuels have been much smaller than those available to renewable energy in recent years. In 2018, tax provisions supporting fossil fuels added up to $3.2 billion, while those for renewable energy totaled $9.8 billion, according to the Congressional Research Service. But tax benefits for fossil fuels have been around much longer, matching the maturity of the industry. The deduction for intangible drilling costs has been around since 1913, while percentage depletion has been around since 1926. If those tax benefits are essentially centenarians, the two main tax credits for renewable energy fall into the millennial and Gen Z category: They were introduced in 1992 and 2006, respectively.

However drastic the cuts to fossil-fuel tax provisions turn out to be, the actual impact on oil production and the environment may not be as dramatic as Mr. Biden hopes. In a 2018 paper that the tax plan cites, Gilbert Metcalf, economics professor at Tufts University, estimated that eliminating the two tax benefits for fossil fuels, alongside another one known as the domestic manufacturing deduction, wouldn’t substantially decrease domestic oil-and-gas production or greenhouse-gas emissions in the long run.

Still, the fate of fossil fuel’s tax benefits will be a revealing litmus test for the industry. “The oil-and-gas business has always had a pretty decent-sized voice in American business; it’s been able to stave off threats like this in the past,” says Dan Pickering, Chief Investment Officer at Pickering Energy Partners. “If it can’t do it this time, we just know the winds have shifted.”

This intergenerational squabble is about to get interesting.

Write to Jinjoo Lee at jinjoo.lee@wsj.com