January 2004

Overview

About half of all American homes - around 56 million - are heated with natural gas.  The demand for domestic natural gas is expected to grow, but natural gas production is not expected to keep pace.  In the last year alone, the number of new gas wells completed in the shallow waters of the Gulf of Mexico dropped by 20%. The MMS has published a new set of incentives to accelerate the exploration for and production of natural gas to meet the nation’s near-term energy needs.

The increased production spurred by the incentives will save America’s families and other consumers an estimated $570 million a year over the next 10 years.  With infrastructure and lease-specific facilities already in place, the OCS shelf is one of the best available sources for additional near-term domestic natural gas supply.

Natural gas deposits at deep depths on the shelf hold great potential—MMS estimates that undiscovered gas resources of up to 55 trillion cubic feet (TCF) may underlie this "frontier" area.  If converted into electricity, 55 TCF could provide nearly a 5 year supply of energy for every home in America.  While the shallow waters of the Gulf have been actively explored, relatively few wells have penetrated below 15,000 feet due to the high cost and risk. The rule provides royalty relief to previously issued leases for the first time in the shallow waters of the Gulf of Mexico for drilling deep gas wells.

There are about 2,400 pre-existing leases in the area targeted for relief in the rule.  Most lessees are eligible for royalty relief on their existing leases if they drill and produce new and deeper prospects located more than 15,000 feet below sea level.

Authorized drilling must have commenced on or after the proposed rule was published on March 26, 2003. Any ensuing production must start before five years after the effective date of the final rule to qualify for the incentive

MMS has provided a deep gas royalty incentive for new leases issued since March 2001.  This new rule allows those lessees a window of time to exercise an option to replace their existing deep gas royalty terms on leases acquired from sales held after January 1, 2001, with the new terms offered in this rule.
 

Need

The DOE’s Energy Information Administration forecasts the demand for natural gas will continue to increase in the United States by 42% over the next 20 years, with projected supplies from traditional domestic sources expected to remain level. 

Production of natural gas in the shallow water areas of the Gulf of Mexico declined by 23 percent in the 1990s.

About 90 percent of new energy plants to come online in the next decade will be powered by natural gas, and natural gas serves as critical raw material in plastics and fertilizer manufacturing.
 

Incentives

To qualify for incentives under the rule, leases may not have had any  deep gas production from wells drilled and completed at least 18,000 feet or deeper prior to the proposed rule.  Qualifying leases earn a royalty suspension on the first 15 billion cubic feet (BCF) of gas produced from a well to depths between 15,000 feet to less than 18,000 feet or on the first 25 BCF of gas produced from a well to 18,000 feet or deeper. 

Wells drilled from existing holes to a new bottom-hole location, known as Sidetrack wells, may receive a smaller royalty suspension.

A royalty suspension volume of 15 BCF can be increased to 25 BCF from a second well to 18,000 feet or deeper.  Drilling must have started on or after March 26, 2003 and production must begin before 5 years after the effective date of the final rule.

Up to two unsuccessful wells, or dry holes, drilled to a target reservoir 18,000 feet or deeper, may qualify for a royalty suspension supplement of 5 BCF (equivalent) applied to future production of gas and oil from any drilling depth on that lease. Hence, in total, a lease can earn royalty relief in the amount of 35 BCF - 10 BCF for two unsuccessful wells drilled prior to successful wells and 25 BCF for successful wells.

The rule also establishes price threshold provisions, beginning at $9.34 per MMbtu in 2004, that discontinue royalty relief if gas prices rise too high. 

All qualifying lessees may opt to replace existing deep gas royalty relief lease provisions with the deep gas royalty incentive terms in this final rule.

Drilling of qualified wells must have started on or after March 26, 2003 and production must begin before 5 years after the effective date of the final rule (that is by March 1, 2009). However, any royalty suspension volume or supplement earned must be applied only to production occurring after the effective date of the final rule, even if this production actually started between the proposed and final rule.

Subsequent deep wells (either sidetrack or original) may share the full royalty suspension available to the lease.

The Minerals Management Service is the federal agency in the U.S. Department of the Interior that manages the nation’s oil, natural gas and other mineral resources on the Outer Continental Shelf in Federal offshore waters.  The agency also collects, accounts for, and disburses mineral revenues from Federal and American Indian lands.  MMS disbursed more than $8 billion in FY 2003 and more than $135 billion since the agency was created in 1982.  Nearly $1 billion from those revenues go into the Land and Water Conservation Fund annually for the acquisition and development of state and Federal park and recreation lands.

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Last Updated: 10/10/2007, 05:14:07 AM