How Falling Oil Prices Affect Overriding Royalty Interest

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Falling oil prices are being felt across the country and overseas. In addition to oil and gas discovery, production and refinement workers, investors and landowners are feeling the dry spell too. Overriding royalty interest (ORRI) payments, or the royalty payments made above and beyond standard royalty payments to investors, are dwindling alongside quickly declining oil barrel prices.

 

How Oil Prices Affect Overriding Royalty Interest Payments

 

The proceeds from the sale of oil and gas determine overriding royalty interest payments. Because of this, when a mineral rights lease breaks or expires, overriding royalty interest payments will dissolve.

The main players in the oil and gas industry to feel the strain include geologists, landmen, brokers, investors or anyone with a direct interest in funding the land lease, not the mineral rights owner. However, the mineral rights owner will notice declining mineral royalties payments (which are separate from ORRI payments) during times of distress in the oil and gas industry.

ORRI payments are generally calculated based on shares of oil and gas, independent of drilling and operating costs. Production and severance taxes are often deducted from ORRI payments, depending on the individual agreement.

When oil prices fall, and production dwindles or ceases, contracts with investors may be reevaluated and broken if production is deemed unnecessary. This has a direct effect on non-operating interests receiving ORRI payments. In addition to a halt in their cash flow, and few investment opportunities on the horizon, it may lead the investors to contemplate bankruptcy since ORRI interest is considered income by the United States government. Investors should clarify with their legal team whether their ORRI payments are income or property ownership, the latter of which could possibly be omitted from a bankruptcy proceeding.

 

About ORRI Payments and Bankruptcy

 

It’s not uncommon for oil and gas production projects to be broken into various sectors referred to as fractional interests. The exploration and production company, along with the mineral rights owner(s) make up the working interest sections. The investors and recipients of ORRI payments make up the non-working interests.

During a bankruptcy involving oil and gas income, the courts will look closely at these divisions. If the ORRI income resembles a loan, it may be included in the bankruptcy settlement. If the payments are considered a direct investment in property, they may be exempt.

Investors should have a clear understanding of their ORRI designation when entering into a contract with an exploration and production company, especially during difficult financial times. A document review from a lawyer, independent of the oil and gas exploration and production company, as well as a personal review of the Bankruptcy Code for your state is advised before signing or breaking any agreements.

If you’d like to learn more about oil and exploration, overriding royalty interest payments and how to invest in mineral production, we’d love to answer your questions. Contact BWAB today.