Establishing Oil Value for Royalty Due on Indian Leases

DEPARTMENT OF THE INTERIOR

Minerals Management Service

30 CFR Part 206

RIN 1010-AC24

Establishing Oil Value for Royalty Due on Indian Leases

AGENCY: Minerals Management Service, Interior.

ACTION: Notice of proposed rulemaking.

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SUMMARY: This proposed rule would modify the regulations to establish

the value for royalty purposes of oil produced from Indian leases and

establish a new Minerals Management Service (MMS) form for collecting

value and value differential data. These changes would decrease

reliance on oil posted prices and use more publicly available

information.

DATES: Comments must be submitted on or before April 13, 1998.

ADDRESSES: Mail written comments, suggestions, or objections regarding

the proposed rule to: Minerals Management Service, Royalty Management

Program, Rules and Publications Staff, P.O. Box 25165, MS 3021, Denver,

Colorado 80225-0165; courier address is Building 85, Denver Federal

Center, Denver, Colorado 80225; or e:Mail David__G[email protected]. MMS will

publish a separate notice in the Federal Register indicating dates and

locations of public hearings regarding this proposed rulemaking.

FOR FURTHER INFORMATION CONTACT: David S. Guzy, Chief, Rules and

Publications Staff, telephone (303) 231-3432, FAX (303) 231-3385,

e:Mail David__G[email protected], Minerals Management Service, Royalty

Management Program, Rules and Publications Staff, P.O. Box 25165, MS

3021, Denver, Colorado 80225-0165.

SUPPLEMENTARY INFORMATION: The principal authors of this proposed rule

are David A. Hubbard of Royalty Management Program (RMP), Lakewood,

Colorado, and Peter

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Schaumberg of the Office of the Solicitor in Washington, D.C.

I. Introduction

On December 20, 1995, MMS published an Advance Notice of Proposed

Rulemaking about possible changes to the rules for royalty valuation of

oil from Federal and Indian leases (60 FR 65610). The intent of the

changes was to decrease reliance on oil posted prices and to develop

valuation rules that better reflect market value. MMS requested

comments regarding the possible changes.

MMS used various sources of information to develop the proposed

rule. In addition to comments received on the Advance Notice of

Proposed Rulemaking, MMS attended a number of presentations by crude

oil brokers and refiners, commercial oil price reporting services,

companies that market oil directly, and private consultants

knowledgeable in crude oil marketing. MMS's deliberations were aided

greatly by a wide range of expert advice and direct consultations MMS

held with various Indian representatives.

The Department of the Interior's practice is to give the public an

opportunity to participate in the rulemaking process. Anyone interested

may send written comments, suggestions, or objections regarding this

proposed rule to the location cited in the ADDRESSES section of this

preamble. We will post public comments after the comment period closes

on the Internet at http://www.rmp.mms.gov or contact David S. Guzy,

Chief, Rules and Publications Staff, telephone (303) 231-3432, FAX

(303) 231-3385.

II. General Description of the Proposed Rule

MMS's existing regulations for valuing crude oil for royalty

purposes are at 30 CFR part 206. Basically, the same regulations apply

to Federal and Indian leases. These rules rely primarily on posted

prices and prices under arm's-length sales to value oil. Recently,

posted prices have become increasingly suspect as a fair measure of

market value. As a result, for Federal lease production, MMS proposed

new valuation rules that place substantial reliance on crude oil

futures prices on the New York Mercantile Exchange (NYMEX). See 62 FR

3742 (Jan. 24, 1997). Because of the different terms of Indian leases,

MMS is proposing separate rules for Indian oil valuation.

The proposed rulemaking would add more certainty to valuation of

oil produced from Indian leases and eliminate any direct reliance on

posted prices. Most Indian leases include a ``major portion''

provision, which says value is the highest price paid or offered at the

time of production for the major portion of oil production from the

same field. To lessen the current reliance on posted prices and to

better accommodate the major portion provision, the proposed rule

requires that royalty value be based on the highest of three different

values: (1) A value based on NYMEX futures prices adjusted for location

and quality differences; (2) the lessee's or its affiliate's gross

proceeds adjusted for appropriate transportation costs; and (3) an MMS-

calculated major portion value based on prices reported by lessees and

purchasers in MMS-designated areas typically corresponding to

reservation boundaries.

Because much Indian oil is disposed of under exchange agreements,

specific guidance for applying the valuation criteria are included for

these dispositions: (1) if the lessee or its affiliate disposes of

production under an exchange agreement and then sells at arm's length

the oil it receives in return, royalty value would be the resale price

adjusted for appropriate quality differentials and transportation costs

(unless the NYMEX or major portion values are higher); and (2) if the

lessee or its affiliate disposes of production under an exchange

agreement but refines rather than sells the oil it receives in return,

royalty value would be the NYMEX value (unless the major portion value

is higher).

The lessee would initially report royalties based on the higher of

the NYMEX value or its gross proceeds. After MMS does its major portion

calculation for the production month, explained below, the lessee would

revise its initial royalty value if the major portion value were

higher.

Adjustments for location and quality against the index values are

limited to these components:

(1) A location and/or quality differential between the index

pricing point (West Texas Intermediate at Cushing, Oklahoma) and the

appropriate market center (for example, West Texas Intermediate at

Midland, Texas, or Wyoming Sweet at Guernsey, Wyoming), calculated as

the difference between the average monthly spot prices published in an

MMS-approved publication for the respective locations; and either;

(2) A rate either published by MMS or contained in the lessee's

arm's-length exchange agreement representing location and/or quality

differentials between the market center and the boundary of the

designated area (defined term--usually an Indian reservation); or

(3) Where oil flows to the market center, and as determined under

the existing allowance rules, the actual transportation costs to the

market center from the designated area.

Calculation of differentials could vary if the lessee takes its

production directly to its own refinery and the movement in no way

approximates movement to a market center.

MMS would calculate and publish the rate from the market center to

the designated area based on specific information it would collect on a

new form: Form MMS-4416, Indian Crude Oil Valuation Report. This form

would also assist MMS in verifying data used to calculate major portion

values. It is attached to this notice of proposed rulemaking as

Appendix A. MMS requests commenters to provide comments on this form

according to the information under the Paperwork Reduction Act in part

IV, Procedural Matters, of this notice.

MMS will verify during the first 6 months after the effective date

of this rule that the values determined by this rule are replicating

actual market prices and satisfying Indian lease terms. Comments on how

best to perform this analysis are also requested.

In the next section, we describe the major regulatory changes

proposed in this rulemaking. The proposed changes for valuing

production are substantive. But some sections, particularly those

involving transportation allowances, remain mostly the same. Also, to

clarify and simplify the rules, MMS is incorporating many changes that

are not substantive but are an effort to implement concepts of plain

English.

III. Section-by-Section Analysis

30 CFR Part 206

MMS proposes to amend part 206, Subpart B--Indian Oil as described

below. Some of the provisions would be largely the same as in the

existing rules, but would be rewritten for clarity.

Section 206.50 Purpose and Scope.

This section's contents would remain the same except for

clarifications. MMS rewrote it in plain English to improve clarity.

Section 206.51 Definitions.

MMS would retain most of the definitions in Sec. 206.51. Many of

those retained were rewritten to reflect plain English. New definitions

to support the revised valuation procedures are proposed for:

Designated area, Exchange agreement, Index pricing, Index pricing

point, Location

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differential, Major portion, Market center, MMS-approved publication,

NYMEX, Quality differential, Sale, and Settle price. The definition of

Allowance would be amended and captured under Transportation allowance.

The definition of Lessee would be amended to include all of a company's

affiliates, including its production, refining, and marketing arms. The

term ``lessee'' could include multiple parties to a transaction

involving oil sales from Indian leases. For example, it could include

the lessee of record, the lessee of record's marketing affiliate, the

operator, and the purchaser, if the purchaser were paying MMS

royalties. Thus, when the term ``lessee'' is used in the proposed

regulations and this preamble, it is used expansively and refers to all

persons that are lessees under the proposed definition. For example, if

the proposed regulations require the lessee to retain all data relevant

to the determination of royalty value, this requirement would apply to

the producer, the marketing arm and the purchaser, if the purchaser

paid MMS royalties. We will discuss the new and amended definitions

below where they appear in the regulatory text.

The proposed rule would remove the definitions of Marketing

affiliate, Net-back method, Oil shale, Posted price, Processing,

Selling arrangement and Tar sands because they no longer relate to how

most crude oil is marketed or to the structure of the proposed rules.

The definition of Like-quality lease products also would be revised

under a new definition of Like-quality oil to support the new valuation

publications. We will discuss this definition below where it appears in

the regulatory text.

Section 206.52 How Does a Lessee Calculate Royalty Value for Oil?

This section would explain how you, as a lessee, a defined term,

must calculate the value of oil production for royalty purposes. It is

the principal valuation section of the proposed rules.

The current Indian oil valuation procedures rely heavily on posted

prices and contract prices. Since many contracts use posted prices as a

basis, the influence of posted prices is magnified. MMS is proposing a

different valuation approach because market conditions have changed and

because MMS believes the major portion provision of Indian leases needs

to be better implemented. Moreover, the widespread use of exchange

agreements and reciprocal sales, as well as the difficulties with

relying on posted prices, suggests that many of these past pricing

mechanisms are no longer accurate indicators of value in the

marketplace. Given the mounting evidence that posted prices frequently

do not reflect value in today's marketplace, the proposed valuation

standards do not rely at all on postings. Furthermore, the prices

referred to in exchange agreements and reciprocal sales may not

represent market values. If two companies maintain a balance between

purchases and sales, it is irrelevant to them whether the referenced

price represents market value. So, after consulting various crude oil

pricing experts and after considerable deliberation, MMS proposes to

revise this section to value production from Indian leases at the

highest of three values: NYMEX futures prices, gross proceeds, or a

major portion value. These three methods would be outlined in a table

for easy access. MMS proposes this multiple comparison largely because

of concerns that current oil marketing practices may at least partially

mask the actual value accruing to the lessee. Multiple sales and

purchases between the same participants, while apparently at arm's

length, may be suspect concerning the contractual price terms. A

producer may have less incentive to capture full market value in its

sales contracts if it knows it will have reciprocal dealings with the

same participant where it, in turn, may be able to buy oil at less than

market value. Several MMS consultants reinforced the notion that as

long as the two parties maintain relative parity in value of oil

production traded, the absolute contract price in any particular

transaction has little meaning. This is particularly obvious in the

case of exchange agreements.

Based on the information available to the lessee at the time it

needs to value and pay royalties on production, the lessee would first

determine whether its gross proceeds or a NYMEX-based index price would

yield the higher value. As explained below, MMS would later determine

and publish a major portion value. The lessee would then determine if

the major portion value was higher than the value it initially reported

and paid royalties on. If so, the lessee would owe additional monies.

Paragraphs (a), (b), (c), and (d) explain this process. They replace

most of existing paragraphs (a), (b), and (c).

Paragraphs (a)(1)-(5). The first of the comparative values would be

the average of the five highest daily NYMEX futures settle prices at

Cushing, Oklahoma, for the Domestic Sweet crude oil contract for the

prompt month. Settle price would mean the price established by the New

York Mercantile Exchange (NYMEX) Settlement Committee at the close of

each trading session as the official price to be used in determining

net gains or losses, margin requirements, and the next day's price

limits. The prompt month would be the earliest month for which futures

are traded on the first day of the month of production. For example, if

the production month is April 1997, the prompt month would be May 1997,

since that is the earliest, or nearest, month for which futures are

traded on April 1.

Paragraphs (a)(2) and (3) would explain that the NYMEX price would

have to be adjusted for applicable location and quality differentials,

and could be adjusted for transportation costs as discussed below.

Paragraph (a)(4) would maintain that where the lessee disposes of

production under an exchange agreement and the lessee refines rather

than sells the oil received in return, the lessee would apply this

paragraph (unless paragraph (c) results in a higher value). An Exchange

agreement would be defined as an agreement by one person to deliver oil

to another person at a specified location in exchange for reciprocal

oil deliveries at another location. Such agreements may be made because

each party has crude oil production closer to the other's refinery or

transportation facilities than to its own, so each may gain locational

advantages. Exchange agreements may or may not specify prices for the

oil involved and frequently specify dollar amounts reflecting location,

quality, or other differentials. Buy/sell agreements, which specify

prices to be paid at each exchange point and may appear to be two

separate sales within the same agreement, are considered exchange

agreements. Transportation agreements are purely to accomplish

transportation. They specify a location differential for moving oil

from one point to the other, with redelivery to the first party at the

second exchange point. They are not considered exchange agreements.

Paragraph (a)(5) would provide that MMS would monitor the NYMEX

prices. If MMS determines that NYMEX prices are unavailable or no

longer represent reasonable royalty value, MMS would, by rule, amend

this paragraph to establish a substitute valuation method.

Attached Appendix B is an example of the NYMEX-based index pricing

method. Assume that the production month is January 1997. The prompt

month would then be February 1997, the prompt month in effect on

January 1. In this instance, February 1997 oil futures are traded on

the NYMEX from December 20, 1996, through January 21, 1997. The average

of the five highest

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daily NYMEX futures settle prices for the February 1997 prompt month is

$26.25 per bbl. This price would be adjusted for location/quality

differentials and transportation (discussed later) to determine the

proper oil value for January production.

MMS searched for indicators to best reflect current market prices

and settled on NYMEX for several reasons. It represents the price for a

widely-traded domestic crude oil (West Texas Intermediate at Cushing,

Oklahoma), and there is little likelihood that any particular

participant in NYMEX trading could impact the price. Also, NYMEX prices

were regarded by many of the experts MMS consulted to be the best

available measure of oil market value. As will be discussed in more

detail below, the most difficult problem would be to make appropriate

location and quality adjustments when comparing the NYMEX crude with

the crude produced. Other indicators MMS considered included spot

prices as tabulated by various publications and the P-plus market. The

P-plus indicator shows premiums over posted prices to reflect oil

market value on any given day. Spot prices offer the advantage that

they are published for several different locations and might involve

somewhat less difficult location and quality adjustments. MMS is

proposing NYMEX prices primarily because they are perceived to best

reflect current domestic crude oil market value on any given day and

the minimal likelihood that any one party could influence them.

Selection of the average of the five highest daily NYMEX settle prices

for a given month is in keeping with a 75th percentile major portion

calculation as discussed below for paragraph (c). MMS's proposal to use

the five highest prices rather than a strict 75th percentile cutoff is

purely for administrative simplicity. Because the number of business

days in any given month may vary from 19 to 23, a strict application of

the 75th percentile cutoff would lead to questions about whether four,

five, or six daily prices should be included. Since 75 percent of the

range from 19 to 23 is between 4.75 and 5.75, MMS suggests simply using

the average of the five highest daily prices in the month.

MMS also considered timing of NYMEX application. Since the prompt

month changes around the 21st of any given production month, two

different prompt months exist during the production month. MMS decided

to use the prompt month in effect on the first day of the production

month. This would result in valuing the current month's production at

the nearest month's futures price, but would reflect the market's

assessment of value during the production month. The daily closing

NYMEX prices are widely available in most major newspapers and various

other publications.

MMS received comments on its proposed Federal oil rule (62 FR 3742,

January 24, 1996) that we should use a one-month-earlier futures price,

where the price would apply to deliveries in the production month but

would be determined in an earlier time period. MMS specifically

requests comments on the timing of the NYMEX application. MMS also

requests comments on each of the following, and any other related

issues you may want to address:

Use of NYMEX as a market value indicator (index),

Possible alternative market value indicators, and

Use of the average of the five highest daily NYMEX settle

prices as one of the comparison values.

MMS also received comments on its proposed rule for Federal oil

valuation suggesting that the NYMEX may not be reflective value for the

Rocky Mountain Region due to the isolated nature of that market. MMS

requests comments on whether we should use a different valuation method

for the Rocky Mountain Region.

Paragraphs (b)(1)-(4). The second of the comparative values would

be the lessee's gross proceeds from the sale of its oil under an arm's-

length contract. This value could be adjusted for appropriate

transportation costs as discussed below. If the lessee disposes of

production under an exchange agreement and the lessee then sells the

oil received in return at arm's length, the value would be the lessee's

resale price adjusted for appropriate quality differentials and

transportation costs.

Paragraph (b)(3) would state that the lessee's reported royalty

value is subject to monitoring, review, and audit by MMS. MMS may

examine whether the lessee's oil sales contract reflects the total

consideration actually transferred either directly or indirectly from

the buyer to the lessee. If it does not, then MMS may require the

lessee to value the oil sold under that contract at the total

consideration it received. MMS may require the lessee to certify that

its arm's-length contract provisions include all of the consideration

the buyer must pay, either directly or indirectly, for the oil.

Paragraph (b)(4) would embody the provisions of current paragraph

(j) and would require that value be based on the highest price the

lessee can receive through legally enforceable claims under its

contract. If the lessee fails to take proper or timely action to

receive prices or benefits it is entitled to, the lessee must base

value on that obtainable price or benefit. If the lessee makes timely

application for a price increase or benefit allowed under its contract

but the purchaser refuses, and the lessee takes reasonable documented

measures to force purchaser compliance, it would owe no additional

royalties unless or until it receives monies or consideration resulting

from the price increase or additional benefits. This paragraph would

not permit the lessee to avoid its royalty payment obligation where a

purchaser fails to pay, pays only in part, or pays late. Any contract

revisions or amendments that reduce prices or benefits to which the

lessee is entitled must be in writing and signed by all parties to the

arm's-length contract.

Paragraph (c)(1)-(5). The third comparative value would be a major

portion value MMS would calculate within 120 days of the end of each

production month based on data reported by lessees and purchasers in

the designated area for the production month. Designated area would

mean an area specified by MMS for valuation and transportation cost/

differential purposes, usually corresponding to an Indian reservation.

Paragraph (c)(2) would explain that each designated area would

apply to all Indian leases in that area. MMS would publish in the

Federal Register a list of the leases associated with each designated

area. This paragraph would list the fifteen initial designated areas

based generally on Indian reservations boundaries, plus any other areas

MMS designates. This paragraph would also provide that MMS would

publish any new area designations in the Federal Register. MMS also

would publish in the Federal Register a list of all Indian leases that

are in a designated area for purposes of these regulations.

Paragraph (c)(3) would describe how MMS would calculate the major

portion value. MMS would use price and volume information submitted by

lessees on Form MMS-2014, Report of Sales and Royalty Remittance. As

explained previously, each price reported by lessees on Form MMS-2014

would be the highest of the gross proceeds on a NYMEX-based index

price. MMS also would use information provided by buyers and sellers of

production from the designated area on new Form MMS-4416, Indian Crude

Oil Valuation Report, to verify values reported on Form MMS-2014. Form

MMS-4416 reporting is discussed in more detail below. For each

designated area, MMS would first adjust individual

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values for quality differences and appropriate transportation costs.

Then MMS would array the reported values from highest to lowest. The

major portion value would be that value at which 75 percent of the oil

(by volume, starting from the lowest value) is bought or sold. Sales

volumes would include those volumes taken in kind and resold by the

Indian lessor.

The proposed major portion calculation would be a departure from

the current regulation, where the major portion value is the value at

which 50 percent plus 1 barrel of oil is sold, starting from the lowest

price. MMS and Indian representatives had considerable deliberation on

this issue. Indian lessors have criticized MMS since the publication of

the definition of the major portion value in 1988. They have argued

that the definition of the major portion in the 1988 regulation does

not adequately represent the lease terms concerning the highest price

paid or offered for a major portion of production. They argue that

median is not synonymous with major. Thus, MMS is proposing to use the

value at which 75 percent or more of the oil is sold, starting with the

lowest value, as the definition of the term major.

Paragraph (d). This paragraph would explain how the lessee would

report and pay royalties on the values determined under paragraphs (a),

(b), and (c) above. It would explain that by the date the royalty

payments are due, the lessee would be required to report, on Form MMS-

2014, and pay the value of production at the higher of the values

determined under paragraph (a) or (b). Once MMS completes its major

portion calculations, MMS would inform the lessee of the major portion

value for its applicable designated area. If this value exceeds the

value the lessee initially reported for the production month, it would

have to adjust the value to the higher major portion value by

submitting an amended Form MMS-2014 within 30 days after it receives

notice from MMS of the major portion value. MMS intends to monitor

compliance with this requirement. MMS would specify, in the MMS Oil and

Gas Payor Handbook, additional reporting requirements related to

paragraphs (a), (b), and (c). This paragraph would also provide that

the lessee would not accrue late-payment interest under 30 CFR 218.54

on any underpayment associated with a higher major portion value until

the due date of its amended Form MMS-2014. MMS did not consider it

equitable to assess interest for periods before MMS notifies the lessee

of the major portion value.

MMS believes the major portion value at the 75th percentile from

the bottom is a reasonable safeguard to assure that major portion

provisions of Indian leases are satisfied. Thus, to build certainty

into the lessee's royalty valuation, MMS also proposes in paragraph (d)

that it could not change its major portion value once it issues notice

of the value to lessees, except as may be required by an administrative

or judicial decision. Such a decision may include an Interior Board of

Land Appeals, District Court, or Circuit Court decision overturning

MMS's calculation of the major portion price. A lessee or an Indian

lessor could appeal the major portion value if it could demonstrate

that MMS had not performed the calculation correctly.

MMS requests comments on the comparison of NYMEX prices, gross

proceeds, and a major portion value as the proper method of valuing

Indian crude oil for royalty purposes. Please also incorporate specific

comments on the proposed major portion calculation procedure,

particularly whether there is a more efficient and contemporaneous

process for calculating and publishing the major portion price.

In addition to comments on the comparison between the three

different price bases discussed above, MMS requests specific comments

on alternative valuation techniques based on local market indicators.

MMS believes that today's oil marketing is driven largely by the NYMEX

market. But the location/quality adjustments needed to derive lease

value using NYMEX would involve considerable administrative effort for

all involved. MMS requests suggestions on ways to value Indian oil

production based on market indicators in the vicinity of the lease,

with the following in mind:

(1) The methods should not rely on posted prices unless they

account for the difference between postings and market value.

(2) The methods must account for value differences related to

quality and location.

(3) The methods must be widely applicable and flexible enough to

apply to all Indian crude oil production.

(4) Most importantly, the methods must address the major portion

provisions of Indian leases--the method must reflect ``the highest

price paid or offered at the time of production for the major portion

of oil production from the same field.''

MMS has considered that maximizing royalty revenues from Indian

leases might affect the economics of mineral resource development. But

MMS believes that specific royalty values should be independent of this

concept and not effectively lowered as a result. Rather, this issue

should be examined in the context of lease term adjustments by the

Bureau of Indian Affairs and the Indian lessor. MMS requests specific

comments on whether these proposed regulations would decrease leasing

on Indian lands or otherwise affect the competitiveness of Indian

leases.

Section 206.53 What Other General Responsibilities Do I have to Value

the Oil?

This newly designated section would include several of the

provisions of the existing rules, but rewritten and reordered for

clarity. These provisions would replace part or all of current

paragraphs (d), (e), (f), and (i), under existing Sec. 206.52 and would

state that:

(a) The lessee must make its oil sales and volume data available to

authorized MMS, Indian, and other representatives on request. This

would include any relevant data it has from fee and State leases. When

the lessee entered into the lease, it expressly agreed that the

Secretary will determine royalty value and that value may be calculated

based on the price paid for the major portion of oil sold from the

field where the leased lands are located. The lessee also agreed to

provide all records necessary to determine royalty value. Finally, the

lessee agreed to abide by and conform to the Secretary's regulations.

The Secretary needs the lessee's records concerning its production from

State and fee lands to determine value under the lease terms and

regulations. Thus, MMS may require the lessee to submit records

concerning the volume and value of non-Federal and non-Indian oil

production;

(b) The lessee must retain all data relevant to royalty value

determination according to recordkeeping requirements at 30 CFR 207.5.

MMS or the lessor may review and audit the lessee's data, and may

direct the lessee to use a different value if MMS determines the

lessee's reported value is inconsistent with the requirements of this

section;

(c) If MMS determines that the lessee has undervalued its

production, the lessee must pay the difference plus interest under 30

CFR 218.54. If the lessee has a credit due, MMS will provide

instructions for taking it; and

(d) The lessee must place the oil in marketable condition and

market the oil for the mutual benefit of the lessee and lessor at no

cost to the Indian lessor unless the lease agreement or this section

provide otherwise. We would modify this paragraph to clarify that it

includes a duty to market the oil. This

[[Page 7094]]

is consistent with several Interior Board of Land Appeals decisions

construing this duty. See Walter Oil and Gas Corporation, 111 IBLA 260

(1989).

Section 206.54 May I ask MMS for Valuation Guidance?

This new section would replace existing Sec. 206.52(g) to explain

that MMS will provide guidance to lessees in determining value. MMS

points out that all value determinations are subject to later review

and audit, and the lessee later could be required to pay based on a

different value. If so, the lessee also could be liable for additional

royalties and late payment interest for the period it used an improper

value for the production.

Section 206.55 Does MMS Protect Information I Provide?

Newly designated Sec. 206.55 would include the content of existing

Sec. 206.52(l), but would be rewritten for clarity. It would also state

that MMS would protect information from disclosure to the extent

allowed under applicable laws and regulations.

Deletion of existing Sec. 206.52(e)(2) and (h)

MMS proposes to delete existing Sec. 206.52(e)(2), which requires

lessees to notify MMS if they determine value under existing

Sec. 206.52(c)(4) or (c)(5). Since MMS proposes to delete those

paragraphs, paragraph (e)(2) no longer would apply.

MMS also proposes to delete Sec. 206.52(h), which says royalty

value will not be less than the lessee's gross proceeds, less

applicable allowances. This clause would be redundant given that the

lessee's gross proceeds already form one of the value bases proposed

for comparison in Sec. 206.52.

Section 206.57 Point of Royalty Settlement

This section would not be changed from existing Sec. 206.53, but

would be redesignated as Sec. 206.57.

Section 206.60 What Transportation Allowances and Other Adjustments

Apply to the Value of Oil?

Paragraph (a) Transportation Allowances

This paragraph would be similar in scope to Sec. 206.54(a) of the

present rule, but would apply only when the lessee values production

based on gross proceeds (Section 206.52(b)) and under limited

conditions when the lessee values production using NYMEX (Section

206.52(a)) as discussed below. Paragraph (a)(1) would use a table to

outline when a lessee may claim a transportation allowance.

Transportation allowance would mean a deduction in determining

royalty value for the reasonable, actual costs of moving oil from the

designated area boundary to a point of sale or delivery off the

designated area. The transportation allowance would not include

gathering costs or costs of moving production from the lease to the

designated area boundary. MMS's proposal not to allow transportation

costs within Indian reservations would be based on consistent feedback

from Indian lessors that such costs should not be permitted. They say

that since their leases typically are silent on transportation costs,

there is no specific provision permitting such deductions. But they

acknowledge that costs to move production away from the reservation/

designated area may be legitimate deductions.

Paragraph (a)(2) would explain that transportation allowances would

not be permitted:

(i) if the oil is taken in kind and delivered in the designated

area;

(ii) when the sale or title transfer point is within the designated

area; or

(iii) when the lessee values production under the major portion

provision at Section 206.52(c)--permissible transportation costs

already would have been deducted before MMS performs this calculation.

MMS requests specific comments on permitting transportation

allowances from the designated area rather than the lease.

Paragraph (b) Are There Limits on My Transportation Allowance?

Proposed paragraphs (b)(1) and (b)(2) would include the substance

of existing Sec. 206.54(b)(1) and (b)(2) respectively, but would be

rewritten for clarity and to reflect plain English. Paragraph (b)(1)

would also contain a table outlining the allowance limits. Paragraph

(b)(1) would clarify that except as provided in paragraph (b)(2), the

allowance deduction cannot be more than 50 percent of the oil value at

the point of sale when valuing oil under gross proceeds. Under NYMEX

valuation, the allowance would not be permitted to exceed 50 percent of

the average of the five highest daily NYMEX futures settle prices

(Cushing, Oklahoma) for the domestic Sweet crude oil contract for the

prompt month.

Paragraph (c) Must I Allocate Transportation Costs?

Proposed paragraph (c) would be essentially the same as existing

Sec. 206.54(c). However, it would also point out that the lessee may

not allocate costs to production for which those costs were not

incurred.

Paragraph (d) What Other Adjustments Apply When I Value Production

Based on Index Pricing?

Proposed new paragraph (d) would state that if the lessee values

oil based on index pricing (NYMEX) under Sec. 206.52(a), MMS would

require certain location differentials associated with oil value

differences between the designated area and the index pricing point

outside the designated area. We discuss those differentials below under

Sec. 206.61(c). If the lessee produces oil in the designated area that

includes Cushing, Oklahoma, it would only be entitled to a quality

adjustment.

Paragraph (e) What Additional Payments May I Be Liable For?

Proposed paragraph (e) would contain similar requirements as

existing Sec. 206.54(d), but would be rewritten for clarity. Further,

because adjustments would be made for location and quality differences,

this paragraph would provide that the lessee would be liable for

additional payments if those adjustments were incorrect.

Section 206.61 How do lessees determine transportation allowances and

other adjustments?

Paragraph (a), dealing with arm's-length transportation contracts,

would not be changed. However, MMS notes that lessees no longer are

required to file Form MMS-4110, Oil Transportation Allowance Report,

before claiming an arm's-length allowance on Federal leases. MMS

requests specific comments on the benefits and drawbacks of continuing

to require submission of Form MMS-4110 before lessees may claim an

arm's-length transportation allowance on Indian leases.

Paragraph (b), dealing with non-arm's-length and no contract

situations, would be changed by deleting paragraph (b)(5). The existing

paragraph (b)(5) allows a lessee to apply for an exception from the

requirement that it compute actual costs of transportation; a Federal

Energy Regulatory Commission (FERC) approved tariff could be used

instead.

MMS believes that the use of actual costs is fair to lessees and

that use of a FERC-approved tariff overstates allowable costs in non-

arm's-length situations. Also, just as for arm's-length contracts, MMS

notes that lessees of Federal lands no longer are required to file Form

MMS-4110 before claiming a non-arm's-length transportation allowance.

MMS requests specific comments on whether lessees should

[[Page 7095]]

still be required to submit Form MMS-4110 before claiming a non-arm's-

length transportation allowance on Indian leases.

Paragraph (c) What adjustments apply when using index pricing?

Proposed paragraph (c)(1) would describe adjustments the lessee must

make to index prices where it values its oil based on index pricing

under Sec. 206.52(a). These adjustments and deductions would reflect

the location/quality differentials and transportation costs associated

with value differences between oil at the designated area boundary and

the index pricing point outside the designated area. Index pricing

point would be the physical location where a given price index--in this

case NYMEX--is established. For NYMEX, that location is Cushing,

Oklahoma. Although location differentials would reflect differences in

value of oil at different locations, they are not transportation cost

allowances. In fact, location differentials may increase a value rather

than decrease it. Quality differentials would reflect differences in

the value of oil due to different API gravities, sulfur content, etc.

Location differentials generally also encompass quality differentials.

Proposed paragraph (c)(1) would identify the specific adjustments and

allowances that may apply to your production. The possible adjustments

and allowances would be:

(i) A location differential to reflect the difference in value

between crude oils at the index pricing point (West Texas Intermediate

at Cushing, Oklahoma) and the appropriate market center (for example,

West Texas Intermediate at Midland, Texas). Market center would be

defined as a major destination point for crude oil sales, refining, or

transshipment. As used here, market centers would be locations where

trade publications provide crude oil spot price estimates. The market

center that the lessee would use is the point where oil produced from

its lease or unit ordinarily would flow towards if not disposed of at

an earlier point.

For any given production month, the market center-index pricing

point location/quality differential would be the difference between the

average spot prices for the respective locations as published in an

MMS-approved publication. MMS-approved publication would mean a

publication MMS approves for determining NYMEX prices or location

differentials (MMS-approved publications are discussed further below.)

The purpose of this differential is to derive a NYMEX price at the

market center by adjusting the NYMEX price at the index pricing point

to the general quality of crude typically traded at the market center,

and otherwise to reflect location/quality value differences at the

appropriate market center.

Attached as Appendices C and D are examples of how the averages of

the daily spot prices would be calculated for the index pricing point

(Cushing, OK) and a selected market center (Midland, TX), respectively.

The value difference between the two spot price averages would be the

location differential between the index pricing point and the market

center.

As an example, assume that Platt's Oilgram is an MMS-approved

publication. For the February 1997 delivery month, spot sales prices

are assessed from December 26, 1996, through January 24, 1997. The

average of the daily (mean) spot price assessments for the month is

utilized to calculate the location differential. In this instance, the

average spot price for Cushing is $25.38 per bbl. and the average spot

price for Midland is $25.20 per bbl. Since the Midland price is $.18

per bbl. lower than the Cushing price, the $.18 per bbl. would be

deducted from the NYMEX-based price (or an addition would be made if

the Midland price were higher than the Cushing price).

(ii) An express location/quality differential under the lessee's

arm's-length exchange agreement that would include a clearly

identifiable location/quality differential for the crude oil value

difference between the market center and the designated area boundary.

In the cases that involve such agreements, the differential stated

in the agreement should reflect actual value differences resulting from

differences in location and quality between crude oils at the

designated area boundary and the associated market center.

(iii) A location/quality differential that MMS would publish in the

Federal Register annually that the lessee would use if it did not

dispose of production under an arm's-length exchange agreement that

contains an express differential as described above. MMS would stratify

its calculated differentials so that specific quality differentials

attributable to different grades of crude oil would be identified

separately from location differentials. MMS would publish differentials

for each designated area and an associated market center outside of the

designated area. A designated area may be associated with more than one

market center. As discussed in more detail below, MMS would

periodically publish in the Federal Register a list of market centers

associated with designated areas. The differential would represent

crude oil value differences due to location and quality factors. MMS

would acquire the information needed to calculate these specific

differentials from exchange agreement data provided by lessees on a new

reporting form (Form MMS-4416) discussed below. MMS would calculate the

differentials using a volume-weighted average of the differentials

derived from data reported on Form MMS-4416 for the previous reporting

year. The differentials may reflect both a location differential based

on the market center/designated area pairs and a quality differential

based on the different types of crude oil exchanged. The lessee would

apply the differential on a calendar production year basis. This means

the lessee would apply it for the reporting months of February through

the following January.

(iv) The lessee's actual transportation costs from the designated

area boundary to the market center outside of the designated area as

determined under Sec. 206.61. MMS is not proposing to change the

existing methods to calculate transportation allowances. The allowance

would terminate at the market center as part of the total adjustment to

derive an index-price-based value at the lease.

The purpose of these adjustments and allowances would be to reflect

value differences for crude oil production of different qualities and

at different locations to derive value at the designated area. The

location differentials between the index pricing point and the market

center, and between the market center and the designated area, would

not necessarily reflect transportation alone. They would represent the

overall market assessment of the different relative values of similar

crude oil delivered at different locations. Only the actual

transportation costs from the designated area to the market center

would represent pure transportation costs.

MMS considered alternative index price adjustment methods ranging

from using index values with no location adjustments to picking a

specific percentage deduction from the index value to generically

reflect location differentials. A variation of the latter would be to

develop percentage or absolute dollar deductions for different

geographical zones. In addition to specific comments on the proposed

method of adjusting index values, MMS requests suggestions on

alternative methods.

Proposed paragraph (c)(2) would specify which of the adjustments

and allowances described above would

[[Page 7096]]

apply to the lessee in various situations. This paragraph would include

a table that would outline which adjustments under paragraph (c)(1)

would apply. If the lessee disposed of its production under an arm's-

length exchange agreement and the agreement had an express location/

quality differential to reflect the difference in value between the

designated area boundary for its lease and an associated market center

outside of the designated area, then it would use two of the four

possible adjustments and allowances. Specifically, it would use the

market center-index pricing point location/quality differential under

paragraph (c)(1)(i) and the designated area-market center differential

specified in its exchange agreement under paragraph (c)(1)(ii).

Attached as Appendix E is an example of a NYMEX-based royalty

computation for production from the Navajo reservation. The

publications for calculating the NYMEX price and index pricing point-

market center location differential have been discussed above and are

illustrated at Appendices B, C, and D.

The deduction from the NYMEX-based price for the location/quality

differential between the market center and designated area would be the

actual exchange agreement differential or an MMS-published

differential. (For purposes of this example, we used $.25 per bbl.)

If the lessee moved lease production directly to an MMS-identified

market center outside of a designated area that is also the index

pricing point (Cushing, Oklahoma), then it would use only two of the

adjustments and allowances. The lessee would use the designated area-

market center (index pricing point) quality differential under

paragraph (c)(1)(iii) to determine the difference in value attributable

to quality differences, and the actual transportation costs from the

designated area boundary to the market center under paragraph

(c)(1)(iv). For applying paragraph (c)(1)(iii), the lessee would use

the quality differential published by MMS corresponding to oil similar

to its production as compared to the quality of oil used for index

pricing.

If the lessee did not move lease production from a designated area

to an MMS-identified market center, but instead moved it directly to an

alternate disposal point (for example, its own refinery), then it would

use only two of the adjustments and allowances. The lessee would use

the market center-index pricing point location/quality differential

under paragraph (c)(1)(i) and the actual transportation costs from the

designated area boundary to the alternate disposal point outside of the

designated area under paragraph (c)(1)(iv). The market center for

purposes of paragraph (c)(1)(i) is the MMS-identified market center

nearest the lease where there is a published spot price for crude oil

of like quality to the lessee's. Like-quality oil would mean oil with

similar chemical, physical, and legal characteristics. For example,

West Texas Sour and Wyoming Sour would be like-quality, as would West

Texas Intermediate and Light Louisiana Sweet. The market center for

purposes of paragraph (c)(1)(iv) would be the alternate disposal point.

For example, a lessee producing sour crude from Indian leases in

Wyoming might transport its oil directly to a refinery in Salt Lake

City, Utah, without accessing any defined market center. In this case

West Texas Sour crude at Midland, Texas, might represent the crude oil/

market center combination most like and nearest to the oil produced.

The market center-index pricing point location/quality differential

under paragraph (c)(1)(i) would then be the difference in the spot

price between West Texas Intermediate at Cushing, Oklahoma, and West

Texas Sour at Midland, Texas as published in an MMS-approved

publication. In addition to that adjustment, the lessee would be

entitled to an allowance for the actual transportation costs from the

designated area boundary in Wyoming to Salt Lake City (paragraph

(c)(1)(iv), with Salt Lake City considered the market center for

applying this deduction). MMS is proposing that this method is the best

way to calculate the differences in value between the designated area

and the index pricing point due to location, quality, and

transportation when the production is not actually moved to a market

center.

In all other situations, the lessee would use the market center-

index pricing point location/quality differential (paragraph (c)(1)(i))

and the MMS-published designated area-market center location/quality

differential under paragraph (c)(1)(iii). These adjustments would cover

all location, quality, and transportation differences in value between

the designated area and the index pricing point.

Proposed paragraph (c)(3) would state that if an MMS-calculated

differential does not apply to a lessee's oil, due to either location

or quality differences, the lessee must request in writing that MMS

calculate a location/quality differential that would apply to its oil.

Conditions for an exception would include:

(1) After MMS publishes its annual listing of location/quality

differentials, the lessee must deliver to MMS its written request for

an MMS-calculated differential;

(2) The lessee must provide evidence demonstrating why the

published differential(s) does not adequately reflect its

circumstances; and

(3) MMS will calculate a revised differential for the lessee when

it receives the lessee's request or when it determines that the

published differential does not apply to the lessee's oil. If

additional royalties and interest are due, MMS then would bill for

them. If the lessee filed a request for exception within 30 days after

MMS publishes its annual listing of location/quality differentials, the

MMS-calculated differential would apply as of the effective date of the

published differentials. But if the request was received more than 30

days after MMS publishes its differential listing, the MMS-calculated

differential would apply beginning the first day of the month following

the date of the lessee's application for exception. In this case the

published differentials would apply in the interim and MMS would not

refund any overpayments made due to failure to timely request MMS to

calculate a differential.

MMS would insert paragraph (c)(4) to note that it would

periodically publish a list of MMS-approved publications in the Federal

Register. This paragraph would also specify the criteria for

acceptability. It would specify that the publications must:

(i) Be frequently used by buyers and sellers;

(ii) Be frequently mentioned in purchase or sales contracts;

(iii) Use adequate survey techniques, including development of spot

price estimates based on daily surveys of buyers and sellers of crude

oil; and

(iv) Be independent from MMS, other lessors, and lessees.

Proposed paragraph (c)(5) would allow any publication to petition

MMS to add them to the list of acceptable publications.

Proposed paragraph (c)(6) would state that MMS would reference the

specific tables in individual publications that lessees must use to

determine location differentials.

Proposed paragraph (c)(7) would explain that MMS would periodically

publish in the Federal Register a list of market centers. MMS would

monitor market activity and, if necessary, add or modify market

centers. MMS would consider the following factors and conditions in

specifying market centers:

(i) Points where MMS-approved publications publish prices useful

for index purposes;

[[Page 7097]]

(ii) Markets served;

(iii) Pipeline and other transportation linkage;

(iv) Input from industry and others knowledgeable in crude oil

marketing and transportation;

(v) Simplification; and

(vi) Other relevant matters.

MMS would initially consider the following as Market Centers:

Cushing, OK;

Empire, LA;

Guernsey, WY;

Midland, TX; and

St. James, LA.

Where Cushing, Oklahoma, is used as a market center, the index

pricing point and market center would coincide. MMS requests specific

comments on the initial list of market centers, including suggested

additions, deletions and other modifications.

(d) Reporting requirements. MMS would redesignate existing

paragraph (c) as (d) and revise redesignated paragraphs (d)(1)(i) and

(d)(2)(i). Paragraph (d)(3) would otherwise remain the same, except

that MMS would delete existing paragraph (c)(2)(viii) consistent with

the previous change to delete the use of FERC- or State-approved

tariffs. Redesignated paragraph (d)(4) would be modified to say that

not only transportation allowances, but also location and quality

differentials, must be reported as separate lines on Form MMS-2014

unless MMS approves a different procedure. MMS would provide additional

royalty reporting details and requirements in the MMS Oil and Gas Payor

Handbook.

(5) What Information Must a Lessee Provide To Support Index Pricing

Deductions, and How Is It Used?

Proposed paragraph (d)(5) would be added to require lessees and all

other purchasers of crude oil from Indian leases to submit a new form

to MMS. We realize this may result in some duplicate information being

filed by buyers and sellers, but MMS believes the buyer information

will be very useful in confirming reported royalty values. Proposed

Form MMS-4416, Indian Crude Oil Valuation Report, would capture value

and location differential information from all exchange agreements or

other contracts for disposal of oil from Indian lands. MMS would use

these data to calculate location differentials between market centers

and designated areas and to verify values reported on Form MMS-2014.

MMS would publish annually in the Federal Register the location

differentials for lessees to use in royalty reporting. MMS has included

a copy of proposed Form MMS-4416 as Appendix A to these proposed

regulations.

Information submitted on the new form would cover all of the

lessee's crude oil production from Indian leases. All Indian lessees

and all purchasers of oil from Indian lands would initially submit Form

MMS-4416 no later than 2 months after the effective date of this

reporting requirement, and then by October 31 of the year this

regulation takes effect and by October 31 of each succeeding year.

However, if October 31 of the year this regulation takes effect is less

than 6 months after the effective date of this reporting requirement,

the second submission of the Form MMS-4416 would not be required until

October 31 of the succeeding year. In addition to the annual

requirement to file this form, a new form would be required to be filed

each time a new exchange or sales contract involving the production of

oil from an Indian lease is executed. However, if the contract merely

extends the time period a contract is in effect without changing any

other terms of the contract, this requirement would not apply.

The reporting requirement would take effect before the effective

date of the remainder of the rule. Early submittal of this information

would allow MMS to publish the representative market center-designated

area location differentials in the Federal Register by the effective

date of the final regulation. Then MMS would publish location

differentials by January 31 of all subsequent years. MMS would publish

differentials for different qualities/grades of crude oil if the data

are sufficient and if multiple differentials are appropriate for the

area. Each year following the year this regulation became effective,

lessees would use the new published differentials beginning with

January production royalties reported in February.

MMS received many comments under its proposed Federal oil valuation

rule on the administrative burden created by proposed Form MMS-4415.

Therefore, MMS requests comments on how proposed Form MMS-4416 for

Indian oil could be simplified, yet remain useful, in determining

adjustments to the NYMEX-based price. Specifically, MMS requests

comments on Form MMS-4416 (See Appendix A), including:

Its layout and information requested;

Frequency and timing of submittal;

Frequency and timing of MMS's calculations and publication

of differentials; and

All other relevant comments.

Remainder of Section 206.55

MMS proposes no changes to existing paragraphs (d) and (e) except

to redesignate them as paragraphs (e) and (f).

In addition to redesignating paragraph (f) as (g), MMS proposes to

remove the reference to FERC- or State-approved tariffs to be

consistent with the proposed deletion of paragraph 206.55(b)(5). MMS

proposes no change to existing paragraph (g) except to redesignate it

as paragraph (h).

IV. Procedural Matters

The Regulatory Flexibility Act

The Department certifies that this rule will not have significant

economic effect on a substantial number of small entities under the

Regulatory Flexibility Act (5 U.S.C. 601 et seq.). This proposed rule

would amend regulations governing the valuation for royalty purposes of

crude oil produced from Indian lands. These changes would modify the

valuation methods in the existing regulations. Small entities are

encouraged to comment on this proposed rule.

Approximately 125 payors pay royalties to MMS on oil production

from Indian lands. The majority of these payors are considered small

businesses under the criteria of the Small Business Administration (500

employees or less). MMS estimates this proposal will have an annual

dollar impact of $368 per payor (Total Dollar Impact of

$45,955125 Indian Royalty Payors). The estimated yearly

industry compliance cost under this rule is $45,955. This amount is

based on an annual burden of 1,313 hours for 125 payors X $35 (industry

cost per hour).

Further, based on data obtained from the Small Business

Administration (SBA), a small business on average has estimated

receipts of $2,000,000. An annual cost impact of $368 for a small

business to comply with this rule is not considered significant.

Approximately 125 payors report and pay royalties on oil production

from Indian mineral leases. Of these 125 companies, most would be

considered small entities under the SBA criteria. Since there are

15,838 small firms in the oil and gas industry in the United States,

only about 1 percent (12515,838) are involved with MMS's

business of reporting and paying royalty on oil produced from Indian

lands. Accordingly, this rule will not affect a substantial number of

small entities.

Unfunded Mandates Reform Act of 1995

The Department of the Interior has determined and certifies

according to the Unfunded Mandates Reform Act, 2

[[Page 7098]]

U.S.C. 1502 et seq., that this rule will not impose a cost of $100

million or more in any given year on local, tribal, or State

governments, or the private sector.

Executive Order 12630

The Department certifies that the rule does not represent a

governmental action capable of interference with constitutionally

protected property rights. Thus, a Takings Implication Assessment need

not be prepared under Executive Order 12630, Governmental Actions and

Interference with Constitutionally Protected Property Rights.

Executive Order 12988

The Department has certified to the Office of Management and Budget

that this proposed rule meets the applicable civil justice reform

standards provided in Sections 3(a) and 3(b)(2) of this Executive

Order.

Executive Order 12866

The Office of Management and Budget has determined this rule is a

significant rule under Executive Order 12866 Section 3(f)(4)c, which

states: ``Raise novel legal or policy issues arising out of legal

mandates, the President's priorities, or the principles set forth in

this Executive Order.'' The Office of Management and Budget has

reviewed this rule under Executive Order 12866.

The Department's analysis of these proposed revisions to the oil

valuation regulations indicates these changes will not have a

significant economic effect as defined by Section 3(f)(1) of Executive

Order 12866.

This rule will not have an annual effect on the economy of $100

million or more or adversely affect in a material way the economy, a

sector of the economy, productivity, competition, jobs, the

environment, public health or safety, or State, local, or tribal

governments or communities. The MMS concludes that this proposed rule

would result in an annual increase in Indian oil royalties of

approximately $3.6 million. MMS and industry will realize

administrative savings because of reduced complexity in royalty

determination and payments and would introduce certainty into Indian

royalty reporting.

Paperwork Reduction Act

This proposed rule contains a collection of information which has

been submitted to the Office of Management and Budget (OMB) for review

and approval under section 3507(d) of the Paperwork Reduction Act of

1995. As part of our continuing effort to reduce paperwork and

respondent burden, MMS invites the public and other Federal agencies to

comment on any aspect of the reporting burden. Submit your comments to

the Office of Information and Regulatory Affairs, OMB, Attention Desk

Officer for the Department of the Interior, Washington, D.C. 20503.

Send copies of your comments to: Minerals Management Service, Royalty

Management Program, Rules and Publications Staff, P.O. Box 25165, MS

3021, Denver, Colorado 80225-0165; courier address is: Building 85,

Denver Federal Center, Denver, Colorado 80225; e:Mail address is:

David__G[email protected].

OMB may make a decision to approve or disapprove this collection of

information after 30 days from receipt of our request. Therefore, your

comments are best assured of being considered by OMB if OMB receives

them within that time period. However, MMS will consider all comments

received during the comment period for this notice of proposed

rulemaking.

The information collection is titled Indian Crude Oil Valuation

Report. Part of the valuation of oil under this proposed rule relies on

price indices that lessees may adjust for location differences between

the index pricing point and the designated area. Lessees (and their

affiliates as appropriate) on Indian lands, as well as purchasers of

oil from these lands, would be required to give MMS information on the

prices and location differentials included in their various oil

exchange agreements and sales contracts. MMS would use these data to

calculate and publish representative location differentials for

lessees' use in reporting royalties in different areas. MMS would also

use these data to verify royalty values reported on Form MMS-2014. This

process would introduce certainty into royalty reporting.

Rules establishing the use of Form MMS-4416 to report oil values

and location differentials are at proposed 30 CFR 206.55(d)(5).

Information provided on the forms may be used by MMS auditors and the

Royalty Valuation Division (RVD).

MMS estimates the annual reporting burden at 1,313 hours. There are

approximately 125 oil royalty payors on Indian leases. These payors

will have varying business relationships with one or more Indian tribes

and/or allottees. MMS estimates that, on average, a payor will have six

exchange agreements or sales contracts which enable the Indian oil

royalty payor to either sell or refine the oil production from the

Indian lease(s) for which they are making royalty payments. We estimate

that a payor will fill out Form MMS-4416 in about one-half hour; we

estimate the payor would have to submit the form twice a year because

of contract changes in addition to the required annual filing discussed

below (750 agreements/contracts x \1/2\ hour x 2=750 burden hours).

In addition, MMS estimates that half of the exchange agreements or

sales contracts would also be reported by non-payor purchasers of crude

oil from Indian leases as required by 30 CFR 206.55(d)(5). Again, we

estimate that the filing of Form MMS-4416 could take one-half hour per

report to extract the data from individual exchange agreements and

sales contracts; we also estimate that a non-payor purchaser would file

a report twice a year for each agreement/contract (375 agreements/

contracts x \1/2\ hour x 2=375 burden hours).

To assure Indian lessors, tribes and allottees that all payors and

non-payor purchasers are complying with these proposed Indian valuation

regulations, we will require that Form MMS-4416 be submitted annually

for all agreements/contracts to which payors and non-payor purchasers

are parties, regardless of whether the agreements/contracts change or

not. We estimate that this would require 10 minutes per report to

indicate a no-change situation (750+375) agreements/contracts x \1/6\

hour = 187.5 burden hours). Only a minimal recordkeeping burden would

be imposed by this collection of information. Based on $35 per hour

cost estimate, the annual industry cost is estimated to be $45,955

[(750+375+188) total burden hours x $35=$45,955].

In compliance with the Paperwork Reduction Act of 1995, Section

3506 (c)(2)(A), we are notifying you, members of the public and

affected agencies, of this collection of information, and are inviting

your comments. For instance your comments may address the following

areas. Is this information collection necessary for us to properly do

our job? Have we accurately estimated the industry burden for

responding to this collection? Can we enhance the quality, utility, and

clarity of the information we collect? Can we lessen the burden of this

information collection on the respondents by using automated collection

techniques or other forms of information technology?

The Paperwork Reduction Act of 1995 provides that an agency may not

conduct or sponsor, and a person is not required to respond to, a

collection of information unless it displays a currently valid OMB

control number.

[[Page 7099]]

National Environmental Policy Act of 1969

We have determined that this rulemaking is not a major Federal

action significantly affecting the quality of the human environment,

and a detailed statement under section 102(2)(C) of the National

Environmental Policy Act of 1969 (42 U.S.C. 4332(2)(C)) is not

required.

List of Subjects 30 CFR Part 206

Coal, Continental shelf, Geothermal energy, Government contracts,

Indians-lands, Mineral royalties, Natural gas, Petroleum, Public

lands--mineral resources, Reporting and recordkeeping requirements.

Dated: November 26, 1997.

Bob Armstrong,

Assistant Secretary, Land and Minerals Management.

For the reasons set out in the preamble, MMS proposes to amend 30

CFR part 206 as follows:

PART 206--PRODUCT VALUATION

1. The authority citation for part 206 continues to read as

follows:

Authority: 5 U.S.C. 301 et seq.; 25 U.S.C. 396 et seq., 96a et

seq.; 2101 et seq.; 30 U.S.C. 181 et seq.; 351 et seq;, 1001 et

seq;, 1701 et seq.; 31 U.S.C. 9701.; 43 U.S.C. 1301 et seq., 1331 et

seq., and 1801 et seq.

Subpart B--Indian Oil

2. Section 206.53 is redesignated as Sec. 206.57, Sec. 206.54 is

redesignated as Sec. 206.60, and Sec. 206.55 is redesignated as

Sec. 206.61.

3. Sections 206.50 through 206.52 are revised and new Secs. 206.53

through 206.56 are added to read as follows:

Sec. 206.50 What is the purpose of this subpart?

(a) This subpart applies to all oil produced from Indian (tribal

and allotted) oil and gas leases (except leases on the Osage Indian

Reservation, Osage County, Oklahoma). It explains how lessees (a

defined term) must calculate the value of production for royalty

purposes consistent with applicable laws and lease terms.

(b) A provision in this subpart does not apply if it is

inconsistent with:

(1) A Federal statute;

(2) A treaty;

(3) A settlement agreement resulting from administrative or

judicial litigation; or

(4) An express provision of an oil and gas lease subject to this

subpart.

(c) MMS or Indian tribes may audit and adjust all royalty payments.

(d) This subpart is intended to ensure that the United States

discharges its trust responsibilities for administering Indian oil and

gas leases under the governing mineral leasing laws, treaties, and

lease terms.

Sec. 206.51 Definitions.

The following definitions apply to this subpart:

Area means a geographic region at least as large as the limits of

an oil and/or gas field in which oil and/or gas lease products have

similar quality, economic, and legal characteristics.

Arm's-length contract means a contract or agreement between

independent, nonaffiliated persons with opposing economic interests

regarding that contract. Two persons are affiliated if one person

controls, is controlled by, or is under common control with another

person. Based on the instruments of ownership of the voting securities

of an entity, or based on other forms of ownership: ownership over 50

percent constitutes control; ownership of 10 through 50 percent creates

a presumption of control; and ownership of less than 10 percent creates

a presumption of noncontrol. MMS may rebut this presumption if it

demonstrates actual or legal control, as through interlocking

directorates. MMS may require the lessee to certify the percentage of

ownership or control. Aside from the percentage ownership criteria,

contracts between relatives, either by blood or by marriage, are not

arm's-length contracts. To be considered arm's-length for any

production month, a contract must satisfy this definition for that

month, as well as when the contract was executed.

Audit means a review, conducted under generally accepted accounting

and auditing standards, of royalty payment compliance activities of

lessees who pay royalties, rents, or bonuses on Indian leases.

BIA means the Bureau of Indian Affairs of the Department of the

Interior.

BLM means the Bureau of Land Management of the Department of the

Interior.

Condensate means liquid hydrocarbons (normally exceeding 40 degrees

of API gravity) recovered at the surface without processing. Condensate

is the mixture of liquid hydrocarbons resulting from condensation of

petroleum hydrocarbons existing initially in a gaseous phase in an

underground reservoir.

Contract means any oral or written agreement, including amendments

or revisions, between two or more persons, that is enforceable by law

and that with due consideration creates an obligation.

Designated area means an area specified by MMS for valuation and

transportation allowance/differential purposes, usually corresponding

to an Indian reservation.

Exchange agreement means an agreement where one person agrees to

deliver oil to another person at a specified location in exchange for

oil deliveries at another location. Exchange agreements may or may not

specify prices for the oil involved. They frequently specify dollar

amounts reflecting location, quality, or other differentials. Exchange

agreements include ``buy/sell'' agreements, which specify prices to be

paid at each exchange point and may appear to be two separate sales

within the same agreement. Exchange agreements do not include

``transportation'' agreements, whose principal purpose is

transportation.

Field means a geographic region situated over one or more

subsurface oil and gas reservoirs and encompassing at least the

outermost boundaries of all oil and gas accumulations known within

those reservoirs, vertically projected to the land surface. State oil

and gas regulatory agencies usually name onshore fields and designate

their official boundaries.

Gathering means the movement of lease production to a central

accumulation or treatment point on the lease, unit, or communitized

area, or to a central accumulation or treatment point off the lease,

unit, or communitized area that BLM approves for onshore leases.

Gross proceeds means the total monies and other consideration

accruing to the lessee for the disposition of oil produced. Gross

proceeds includes, but is not limited to, the examples discussed in

this definition. Gross proceeds includes payments for services such as

dehydration, measurement, and/or gathering which the lessee must

perform at no cost to the Indian lessor. It also includes the value of

services, such as salt water disposal, that the lessee normally

performs but that the buyer performs on the lessee's behalf. Gross

proceeds also includes reimbursements for terminaling fees. Tax

reimbursements are part of the gross proceeds even though the Indian

royalty interest may be exempt from taxation. Monies and all other

consideration a seller is contractually or legally entitled to, but

does not seek to collect through reasonable efforts, are also part of

gross proceeds.

Indian allottee means any Indian for whom the United States holds

land or a land interest in trust or who holds title subject to Federal

restriction against alienation.

[[Page 7100]]

Indian tribe means any Indian Tribe, band, nation, pueblo,

community, rancheria, colony, or other Indian group for which the

United States holds any land or land interest in trust or which is

subject to Federal restriction against alienation.

Index pricing means using NYMEX futures prices for royalty

valuation.

Index pricing point means the physical location where an index

price is established in an MMS-approved publication.

Lease means any contract, profit-share arrangement, joint venture,

or other agreement issued or approved by the United States under a

mineral leasing law applicable to Indian lands that authorizes

exploration for, development or extraction of, or removal of oil or gas

products--or the land area covered by that authorization, whichever the

context requires.

Lessee means any person to whom an Indian Tribe or allottee issues

a lease, and any person assigned an obligation to make royalty or other

payments required by the lease. This includes any person holding a

lease interest (including operating rights owners) as well as an

operator, purchaser, or other person with no lease interest but who

makes royalty payments to MMS or the lessor on the lessee's behalf.

Lessee includes all affiliates, including but not limited to a

company's production, marketing, and refining arms.

Like-quality oil means oil with similar chemical, physical, and

legal characteristics.

Load oil means any oil used in the operation of oil or gas wells

for wellbore stimulation, workover, chemical treatment, or production

purposes. It does not include oil used at the surface to place lease

production in marketable condition.

Location differential means the value difference for oil at two

different points.

Major portion means the highest price paid or offered at the time

of production for the major portion of oil production from the same

designated area. It is calculated monthly using like-quality oil from

the same designated area (or, if the corresponding field or area is

larger than the designated area and if necessary to obtain a reasonable

sample, from the same field or area).

Market center means a location MMS recognizes for oil sales,

refining, or transshipment. Market centers generally are locations

where MMS-approved publications publish oil spot prices.

Marketable condition means oil sufficiently free from impurities

and otherwise in a condition a purchaser will accept under a sales

contract typical for the field or area.

MMS means the Minerals Management Service of the Department of the

Interior.

MMS-approved publication means a publication MMS approves for

determining NYMEX prices or location differentials.

Net profit share (for applicable Indian leases) means the specified

share of the net profit from production of oil and gas as provided in

the agreement.

Netting means reducing the reported sales value to account for

transportation instead of reporting a transportation allowance as a

separate line on Form MMS-2014.

NYMEX means the New York Mercantile Exchange.

Oil means a mixture of hydrocarbons that existed in the liquid

phase in natural underground reservoirs, remains liquid at atmospheric

pressure after passing through surface separating facilities, and is

marketed or used as a liquid. Condensate recovered in lease separators

or field facilities is considered oil.

Person means any individual, firm, corporation, association,

partnership, consortium, or joint venture (when established as a

separate entity).

Quality differential means the value difference between two oils

due to differences in their API gravity, sulfur content, viscosity,

metals content, and other quality factors.

Sale means a contract where:

(1) The seller unconditionally transfers title to the oil to the

buyer. The seller may not retain any related rights such as the right

to buy back similar quantities of oil from the buyer elsewhere;

(2) The buyer pays money or other consideration for the oil; and

(3) The parties' intent is for a sale of the oil to occur.

Settle price means the price established by NYMEX's Exchange

Settlement Committee at the close of each trading session as the

official price to be used in determining net gains or losses, margin

requirements, and the next day's price limits.

Spot price means the price under a spot sales contract where:

(1) A seller agrees to sell to a buyer a specified amount of oil at

a specified price over a specified period of short duration;

(2) No cancellation notice is required to terminate the sales

agreement; and

(3) There is no obligation or implied intent to continue to sell in

subsequent periods.

Transportation allowance means a deduction in determining royalty

value for the reasonable, actual costs of moving oil from the

designated area boundary to a point of sale or delivery off the

designated area. The transportation allowance does not include

gathering costs or costs of moving production from the lease to the

designated area boundary.

Sec. 206.52 How does a lessee determine the royalty value of the oil?

This section explains how you must determine the value of oil

produced from Indian leases. For royalty purposes, the value of oil

produced from leases subject to this subpart is the value calculated

under this section with applicable adjustments determined under this

subpart. The following table lists three oil valuation methods. You

must determine the value of oil using the method that yields the

highest value. As explained under paragraph (d) of this section, you

must select from the first two methods and make an initial value

calculation and payment based on the method that yields the highest

value. MMS will calculate and publish the value under the third method.

If the third method yields a higher value than the first two methods,

you must adjust the value from your initial calculation as explained

under paragraph (d) of this section.

----------------------------------------------------------------------------------------------------------------

Valuation method Subject to

----------------------------------------------------------------------------------------------------------------

The average of the five highest daily NYMEX Paragraphs (a) (1)-(5) of this section.

futures settle prices (Cushing, Oklahoma) for

the Domestic Sweet crude oil contract for the

prompt month.

The gross proceeds from the sale of your oil Paragraphs (b) (1)-(4) of this section.

under an arm's-length contract.

A major portion value that MMS calculates for Paragraphs (c) (1)-(4) of this section.

each designated area within 120 days of the end

of each production month.

----------------------------------------------------------------------------------------------------------------

(a) You may calculate value using the average of the five highest

daily NYMEX futures settle prices (Cushing, Oklahoma) for the Domestic

Sweet crude oil contract for the prompt month.

[[Page 7101]]

If you use this method, the provisions of this paragraph (a) apply.

(1) The prompt month is the earliest month for which futures are

traded on the first day of the month of production. For example, if the

production month is April 1997, the prompt month would be May 1997,

since that is the earliest month for which futures are traded on April

1.

(2) You must adjust the index price for applicable location and

quality differentials under Sec. 206.61(c) of this subpart.

(3) If applicable, you may adjust the index price for

transportation costs under Sec. 206.61(c) of this subpart.

(4) If you dispose of oil under an exchange agreement and you

refine rather than sell the oil that you receive in return, you must

use this paragraph (a) to determine initial value.

(5) MMS will monitor the NYMEX prices. If MMS determines that NYMEX

prices are unavailable or no longer represent reasonable royalty value,

MMS will amend this section to establish a substitute valuation method.

(b) You may calculate value using the gross proceeds from the sale

of your oil under an arm's-length contract. If you use this method, the

provisions of this paragraph (b) apply.

(1) You may adjust the gross proceeds-based value calculated under

this section for appropriate transportation costs under Sec. 206.61(c)

of this subpart.

(2) If you dispose of your oil under an exchange agreement and then

sell the oil that you receive in return under an arm's-length contract,

value is the sales price adjusted for appropriate quality differentials

and transportation costs.

(3) MMS may monitor, review, or audit the royalty value that you

report under this paragraph (b).

(i) MMS may examine whether your oil sales contract reflects the

total consideration actually transferred either directly or indirectly

from the buyer to you. If it does not, then MMS may require you to

value the oil sold under that contract at the total consideration you

received.

(ii) MMS may require you to certify that the arm's-length contract

provisions include all of the consideration the buyer must pay, either

directly or indirectly, for the oil.

(4) You must base value on the highest price that you can receive

through legally enforceable claims under your oil sales contract. If

you fail to take proper or timely action to receive prices or benefits

you are entitled to, you must base value on that obtainable price or

benefit.

(i) In some cases you may apply timely for a price increase or

benefit allowed under your oil sales contract, but the purchaser

refuses your request. If this occurs, and you take reasonable

documented measures to force purchaser compliance, you will owe no

additional royalties unless or until you receive monies or

consideration resulting from the price increase or additional benefits.

This paragraph (b)(4) does not permit you to avoid your royalty payment

obligation if a purchaser fails to pay, pays only in part, or pays

late.

(ii) Any contract revisions or amendments that reduce prices or

benefits to which you are entitled must be in writing and signed by all

parties to your arm's-length contract.

(c) You may use a major portion value that MMS will calculate. If

you use this method, the provisions of this paragraph apply.

(1) MMS will calculate and publish the major portion value for each

designated area within 120 days of the end of each production month.

(2) Each designated area includes all Indian leases in that area.

MMS will publish in the Federal Register a list of the leases in each

designated area. The designated areas are:

(i) Alabama-Coushatta;

(ii) Blackfeet Reservation;

(iii) Crow Reservation;

(iv) Fort Belknap Reservation;

(v) Fort Peck Reservation;

(vi) Jicarilla Apache Reservation;

(vii) MMS-designated groups of counties in the State of Oklahoma;

(viii) Michigan Agency;

(ix) Navajo Reservation;

(x) Northern Cheyenne Reservation;

(xi) Southern Ute Reservation;

(xii) Turtle Mountain Reservation; (xiii) Ute Mountain Ute Reservation;

(xiv) Uintah and Ouray Reservation;

(xv) Wind River Reservation; and

(xvi) Any other area that MMS designates. MMS will publish any new area

designations in the Federal Register.

(3) MMS will calculate the major portion value from information

submitted for production from leases in the designated area on Form

MMS-2014, Report of Sales and Royalty Remittance.

(i) MMS will use information from Form MMS-4416, Indian Crude Oil

Valuation Report, to verify values reported on Form MMS-2014. See

Sec. 206.61(d)(5) of this subpart for further requirements related to

Form MMS-4416.

(ii) MMS will arrange the reported values (adjusted for location

and quality) from highest to lowest. The major portion value is the

value of the 75th percentile (by volume, including volumes taken in

kind) starting from the lowest value.

(4) MMS will not change the major portion value after it notifies

you of that value for your leases, unless an administrative or judicial

decision requires MMS to make a change.

(d) On Form MMS-2014, you must initially report and pay the value

of production at the higher of the index-based or gross proceeds-based

values determined under paragraphs (a) or (b) of this section,

respectively. You must file this report and pay MMS by the date royalty

payments are due for the lease. MMS will inform you of its calculated

major portion value for the designated area. If this value exceeds the

value you initially reported for the production month, you must submit

an amended Form MMS-2014 with the higher value within 30 days after you

receive notice from MMS of the major portion value. MMS will specify,

in the MMS Oil and Gas Payor Handbook, additional requirements for

reporting under paragraphs (a), (b), or (c) of this section. You will

not begin to accrue late-payment interest under 30 CFR 218.54 on any

underpayment until the due date of your amended Form MMS-2014.

Sec. 206.53 What other general responsibilities do I have for valuing

oil?

(a) On request, you must make available sales and volume data for

production you sold, purchased, or obtained from the designated area or

from nearby fields or areas. This includes sales and volume data from

fee and State leases within the designated area or from nearby fields

or areas. You must make this data available to the authorized MMS or

Indian representatives, the Office of the Inspector General of the

Department of the Interior, or other persons authorized to receive such

information.

(b) You must retain all data relevant to the determination of

royalty value. Recordkeeping requirements are found at 30 CFR 207.5.

MMS or the lessor may review and audit such data you possess, and MMS

will direct you to use a different value if it determines that the

reported value is inconsistent with the requirements of this section.

(c) If MMS determines that you have not properly determined value,

you must:

(1) Pay the difference, if any, between the royalty payments you

made and those that are due based upon the value MMS establishes;

(2) Pay interest on the difference computed under 30 CFR 218.54;

and

[[Page 7102]]

(3) If you are entitled to a credit, MMS will tell you how to take

that credit.

(d) You must place oil in marketable condition and market the oil

for the mutual benefit of yourself and the lessor at no cost to the

Indian lessor, unless the lease agreement or this part provides

otherwise. In the process of marketing the oil or placing it in

marketable condition, your gross proceeds may be reduced because

services are performed on your behalf that normally would be your

responsibility. If this happens, and if you valued the oil using gross

proceeds under Sec. 206.52(b), you must increase value to the extent

that your gross proceeds are reduced.

Sec. 206.54 May I ask MMS for valuation guidance?

You may ask MMS for guidance in determining value. You may propose

a value method to MMS. Submit all available data related to your

proposal and any additional information MMS deems necessary. MMS will

promptly review your proposal and provide you with the guidance you

request.

Sec. 206.55 Does MMS protect information I provide?

MMS will keep confidential, to the extent allowed under applicable

laws and regulations, any data you submit that is privileged,

confidential, or otherwise exempt.

(a) Certain information you submit to MMS to support valuation

proposals, including transportation allowances, is exempt from

disclosure under Federal law.

(b) All requests for information about determinations made under

this part must be submitted under the Freedom of Information Act

regulation of the Department of the Interior, 43 CFR part 2.

(c) The Indian lessor has the right to obtain directly from you or

MMS any information to which it may be lawfully entitled under the

terms of the lease, 30 U.S.C. 1733, or other applicable law.

4. Newly redesignated section 206.60 is revised to read as follows:

Sec. 206.60 What transportation allowances and other adjustments apply

to the value of oil?

(a) Transportation allowances. (1) You may deduct a transportation

allowance from the value of oil determined under Sec. 206.52 of this

part as explained in the following table.

----------------------------------------------------------------------------------------------------------------

If you value oil And Then

----------------------------------------------------------------------------------------------------------------

Based on index pricing under Sec. You may claim a transportation allowance only

206.52(a). under the limited circumstances listed at Sec.

206.61(c)(2).

Based on gross proceeds under Sec. The movement of the oil MMS will allow a deduction for the reasonable,

206.52(b). is not gathering. actual costs to transport oil from the

designated area boundary to the sales point.

----------------------------------------------------------------------------------------------------------------

(i) See Sec. 206.61(a) and (b) for information on how to determine

the transportation allowance.

(ii) [Reserved]

(2) You may not deduct a transportation allowance for transporting

oil:

(i) Taken as Royalty-In-Kind and delivered to the lessor in the

designated area;

(ii) When the sale or transfer point occurs within the designated

area; or

(iii) When you value oil based on a major portion value under

Sec. 206.52(c).

(b) Are there limits on my transportation allowance? (1) Except as

provided in paragraph (b)(2) of this section:

------------------------------------------------------------------------

If you determine the value of Then your transportation allowance

the oil based on deduction may not exceed

------------------------------------------------------------------------

Index pricing under Sec. 50 percent of the average of the five

206.52(a). highest daily NYMEX futures settle

prices (Cushing, Oklahoma) for the

Domestic Sweet crude oil contract for

the prompt month.

Gross proceeds under Sec. 50 percent of the value of the oil at the

206.52(b). point of sale.

------------------------------------------------------------------------

(2) If you ask, MMS may approve a transportation allowance

deduction in excess of the limitation in paragraph (b)(1) of this

section. You must demonstrate that the transportation costs incurred

were reasonable, actual, and necessary. Your application for exception

(using Form MMS-4393, Request to Exceed Regulatory Allowance

Limitation) must contain all relevant and supporting documentation

necessary for MMS to make a determination. You may never reduce the

royalty value of any production to zero.

(c) Must I allocate transportation costs? You must allocate

transportation costs among all products produced and transported as

provided in Sec. 206.61 of this subpart. You may not allocate

transportation costs from production for which those costs were

incurred to production for which those costs were not incurred. You

must express transportation allowances for oil as dollars per barrel.

(d) What other adjustments apply when I value production based on

index pricing? If you value oil based on index pricing under

Sec. 206.52(a) of this subpart, you must adjust the value for the

differences in location and quality between oil at the designated area

boundary and the index pricing point outside the designated area as

specified under Sec. 206.61(c). If the oil is produced in the

designated area that includes Cushing, Oklahoma, you are only entitled

to a quality adjustment. See Sec. 206.61 for more information on

adjusting for location and quality differences.

(e) What additional payments may I be liable for? If MMS determines

that you underpaid royalties because an excessive transportation

allowance or other adjustment was claimed, then you must pay any

additional royalties, plus interest under 30 CFR 218.54. You also could

be entitled to a credit with interest if you understated the

transportation allowance or other adjustment. If you take a deduction

for transportation on Form MMS-2014 by improperly netting the allowance

against the sales value of the oil instead of reporting the allowance

as a separate line item, MMS may assess you an amount under

Sec. 206.61(e) of this subpart.

5. Newly redesignated Sec. 206.61 is amended by revising the

section heading; removing paragraphs (b)(5) and (c)(2)(viii);

redesignating paragraphs (c) through (g) as paragraphs (d) through (h);

adding new paragraphs (c) and (d)(5); and revising newly redesignated

[[Page 7103]]

paragraphs (d)(1)(i), (d)(2)(i), (d)(4) and (g) to read as follows:

Sec. 206.61 How do lessees determine transportation allowances and

other adjustments?

* * * * *

(c) What adjustments apply when lessees use index pricing? (1) When

you use index pricing to calculate the value of production under

Sec. 206.52(a), you must adjust the index price for location/quality

differentials. Your adjustments must reflect the reasonable oil value

differences in location and quality between the designated area

boundary and the market center and between the market center and the

index pricing point outside the designated area. The adjustments that

might apply to your production are listed in paragraphs (c)(1)(i)

through (iv) of this section. See paragraphs (c)(2) and(c)(3) of this

section to determine which adjustments you must use based on how you

dispose of your production. These adjustments are:

(i) A location differential to reflect the difference in value of

crude oils at the index pricing point and the appropriate market

center. For any production month, the location differential is the

difference between the average spot prices for that month for the

respective crude oils at the index pricing point and at the market

center. Use MMS-approved publications to determine average spot prices

and calculate the location differential;

(ii) An express location/quality differential under your arm's-

length exchange agreement that reflects the difference in value of

crude oil at the designated area boundary and the market center;

(iii) A location/quality differential reflecting the crude oil

value difference between the designated area boundary and the market

center that MMS will publish annually based on data it collects on Form

MMS-4416. MMS will calculate that differential using a volume-weighted

average of the differentials reported on Form MMS-4416 for the previous

reporting year. MMS may publish separate rates for various crude oil

qualities that are identified separately on Form MMS-4416 (for example,

sweet vs. sour oil, or oil in different gravity ranges). MMS will

publish differentials that reflect both a location differential based

on the market center/designated area pairs and a quality differential

based on the type of crude oil. MMS will publish these differentials in

the Federal Register by the effective date of the final regulation and

by January 31 of all subsequent years. You must use MMS-published rates

on a calendar year basis--apply them to January through December

production reported February through the following January; and

(iv) Actual transportation costs from the designated area boundary

to the market center determined under this section.

(2) To determine which adjustments and transportation allowances

apply to your production, use the following table.

----------------------------------------------------------------------------------------------------------------

If you And Then

----------------------------------------------------------------------------------------------------------------

Dispose of your production under an That exchange agreement has Adjust your value using paragraphs (c)(1)(i)

arm's-length exchange agreement. an express location and (ii) of this section.

differential to reflect

the difference in value

between the designated

area boundary for the

lease and the associated

market center.

Move your production from a The market center is also Use paragraph (c)(1)(iii) to determine the

designated area directly to an MMS- the index pricing point. quality differential and paragraph (c)(1)(iv)

identified market center. to deduct the actual transportation costs to

that market center, subject to this paragraph

(c)(2)(i).

Do not move your production from a You instead move it Adjust your value using paragraphs (c)(1)(i)

designated area to an MMS- directly to an alternate and (iv) of this section, subject to this

identified market center. disposal point (for paragraph (c)(2)(ii).

example, your own

refinery).

Transport or dispose of your Adjust your value using paragraphs (c)(1)(i)

production under any other and (iii).

arrangement.

----------------------------------------------------------------------------------------------------------------

(i) If you move your production from a designated area directly to

an MMS-identified market center that is also the index pricing point,

use the separate MMS-published quality differential between oil similar

to yours and the oil used for index pricing for purposes of applying

paragraph (c)(1)(iii). For purposes of paragraph (c)(1)(i) of this

section, the market center is the MMS-identified market center nearest

the lease where there is a published spot price for crude oil of like

quality to the oil being valued. The spot price you use must be for

like-quality oil.

(ii) The market center for purposes of paragraph (c)(1)(iv) of this

section is the alternate disposal point.

(3) If an MMS-calculated differential under paragraph (c)(1)(iii)

of this section does not apply to your oil, either due to location or

quality differences, you must request MMS to calculate a differential

for you.

(i) After MMS publishes its annual listing of location/quality

differentials, you must file your request in writing with MMS for an

MMS-calculated differential.

(ii) You must demonstrate why the published differential does not

adequately reflect your circumstances.

(iii) MMS will calculate such a differential when it receives your

request or when it discovers that the differential published under

paragraph (c)(1)(iii) of this section does not apply to your oil. MMS

will bill you for any additional royalties and interest due. If you

file a request for an MMS-calculated differential within 30 days after

MMS publishes its annual listing of location/quality differentials, the

calculated differential will apply beginning with the effective date of

the published differentials. Otherwise, the MMS-calculated differential

will apply beginning the first day of the month following the date of

your application. In this case the published differentials will apply

in the interim and MMS will not refund any overpayments you made due to

your failure to timely request MMS to calculate a differential for you.

(iv) Send your request to: Minerals Management Service, Royalty

Management Program Royalty Valuation Division P.O. Box 25165, Mail Stop

3150 Denver, CO., 80225-0165.

(4) For the differentials referenced in paragraph (c)(1)(i) of this

section, periodically MMS will publish in the Federal Register a list

of MMS-approved publications. MMS's decision to approve a publication

will be based on criteria which include but are not limited to:

[[Page 7104]]

(i) Publications buyers and sellers frequently use;

(ii) Publications frequently mentioned in purchase or sales

contracts;

(iii) Publications which use adequate survey techniques, including

development of spot price estimates based on daily surveys of buyers

and sellers of crude oil; and

(iv) Publications independent from MMS, other lessors, and lessees.

(5) Any publication may petition MMS to be added to the list of

acceptable publications.

(6) MMS will specify the tables you must use in the publications to

determine the associated location differentials.

(7) Periodically, MMS will publish in the Federal Register a list

of market centers. MMS will monitor market activity and, if necessary,

modify the list of market centers and will publish such modifications

in the Federal Register. MMS will consider the following factors and

conditions in specifying market centers:

(i) Points where MMS-approved publications publish prices useful

for index purposes;

(ii) Markets served;

(iii) Pipeline and other transportation linkage;

(iv) Input from industry and others knowledgeable in crude oil

marketing and transportation;

(v) Simplification; and

(vi) Other relevant matters.

(d) Reporting requirements--(1) Arm's-length contracts. (i) With

the exception of those transportation allowances specified in

paragraphs (d)(1)(v) and (d)(1)(vi) of this section, you must submit

page one of the initial Form MMS-4110 (and Schedule 1), Oil

Transportation Allowance Report, before, or at the same time as, you

report the transportation allowance determined under an arm's-length

contract on Form MMS-2014, Report of Sales and Royalty Remittance. A

Form MMS-4110 received by the end of the month that the Form MMS-2014

is due is considered to be timely received.

* * * * *

(2) Non-arm's-length or no contract. (i) With the exception of

those transportation allowances specified in paragraphs (d) (2) (v) and

(d) (2) (vii) of this section, you must submit an initial Form MMS-4110

before, or at the same time as, you report the transportation allowance

determined under a non-arm's-length contract or no-contract situation

on Form MMS-2014. A Form MMS-4110 received by the end of the month that

the Form MMS-2014 is due is considered to be timely received. The

initial report may be based upon estimated costs.

* * * * *

(4) What additional requirements apply to Form MMS-2014 reporting?

You must report transportation allowances, location differentials, and

quality differentials as separate lines on Form MMS-2014, unless MMS

approves a different reporting procedure. MMS will provide additional

reporting details and requirements in the MMS Oil and Gas Payor

Handbook.

(5) What information must lessees provide to support index pricing

adjustments, and how is it used? You must submit information on Form

MMS-4416 related to all of your crude oil production from designated

areas. You initially must submit Form MMS-4416 no later than [insert

the date 2 months after the effective date of this rule] and then by

October 31 [insert the year this regulation takes effect], and by

October 31 of each succeeding year. In addition to the annual

requirement to file this form, you must file a new form each time you

execute a new exchange or sales contract involving the production of

oil from an Indian lease. However, if the contract merely extends the

time period a contract is in effect without changing any other terms of

the contract, this requirement to file does not apply. All other

purchasers of crude oil from designated areas are likewise subject to

the requirements of this paragraph (d)(5).

* * * * *

(g) Actual or theoretical losses. Notwithstanding any other

provision of this subpart, for other than arm's-length contracts, no

cost is allowed for oil transportation which results from payments

(either volumetric or for value) for actual or theoretical losses.

* * * * *

Note: The following Appendices will not appear in the Code of

Federal Regulations.

Appendix A

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[[Page 7106]]

[GRAPHIC] [TIFF OMITTED] TP12FE98.001

[[Page 7107]]

[GRAPHIC] [TIFF OMITTED] TP12FE98.002

BILLING CODE 4310-MR-C

[[Page 7108]]

Appendix B--NYMEX Index Price Basis

[January 1997 Production and Sale]

----------------------------------------------------------------------------------------------------------------

NYMEX trade date NYMEX Delivery (prompt) month NYMEX daily Close

----------------------------------------------------------------------------------------------------------------

Jan-08-97..................................... Feb. 1997............................. $26.62

Jan-06-97..................................... Feb. 1997............................. 26.37

Jan-07-97..................................... Feb. 1997............................. 26.23

Jan-10-97..................................... Feb. 1997............................. 26.09

Jan-15-97..................................... Feb. 1997............................. 25.95

Dec-31-97..................................... Feb. 1997............................. 25.92

Jan-02-97..................................... Feb. 1997............................. 25.69

Jan-09-97..................................... Feb. 1997............................. 25.69

Jan-03-97..................................... Feb. 1997............................. 25.59

Jan-16-97..................................... Feb. 1997............................. 25.52

Jan-17-97..................................... Feb. 1997............................. 25.41

Dec-30-97..................................... Feb. 1997............................. 25.37

Jan-20-97..................................... Feb. 1997............................. 25.23

Dec-27-97..................................... Feb. 1997............................. 25.22

Jan-13-97..................................... Feb. 1997............................. 25.19

Jan-14-97..................................... Feb. 1997............................. 25.11

Dec-24-97..................................... Feb. 1997............................. 25.10

Dec-20-97..................................... Feb. 1997............................. 25.08

Dec-26-97..................................... Feb. 1997............................. 24.92

Jan-21-97..................................... Feb. 1997............................. 24.80

Dec-23-97..................................... Feb. 1997............................. 24.79

NYMEX Average Price for five high daily settle .................................... 26.25

prices for January 1997 production.

----------------------------------------------------------------------------------------------------------------

Appendix C--WTI Spot Price, Market Center: Cushing, OK

[January 1997 Production and Sale]

----------------------------------------------------------------------------------------------------------------

Final

Cushing WTI spot trade date Cushing WTI spot delivery assess. cushing WTI (Mean)

month spot

----------------------------------------------------------------------------------------------------------------

Dec-26-96..................................... Feb. 1997............................. $24.88

Dec-27-96..................................... Feb. 1997............................. 25.09

Dec-30-96..................................... Feb. 1997............................. 25.23

Dec-31-96..................................... Feb. 1997............................. 25.78

Jan-02-97..................................... Feb. 1997............................. 25.80

Jan-03-97..................................... Feb. 1997............................. 25.59

Jan-06-97..................................... Feb. 1997............................. 26.34

Jan-07-97..................................... Feb. 1997............................. 26.28

Jan-08-97..................................... Feb. 1997............................. 26.53

Jan-09-97..................................... Feb. 1997............................. 26.30

Jan-10-97..................................... Feb. 1997............................. 26.18

Jan-13-97..................................... Feb. 1997............................. 25.16

Jan-14-97..................................... Feb. 1997............................. 25.11

Jan-15-97..................................... Feb. 1997............................. 25.88

Jan-16-97..................................... Feb. 1997............................. 25.41

Jan-17-97..................................... Feb. 1997............................. 25.28

Jan-20-97..................................... Feb. 1997............................. 25.14

Jan-21-97..................................... Feb. 1997............................. 24.57

Jan-22-97..................................... Feb. 1997............................. 24.32

Jan-23-97..................................... Feb. 1997............................. 23.97

Jan-24-97..................................... Feb. 1997............................. 24.05

Cushing WTI Avg Spot Price for January 1997... .................................... 25.38

----------------------------------------------------------------------------------------------------------------

Appendix D--WTI Spot Price, Market Center: Midland, TX

[January 1997 Production and Sale]

----------------------------------------------------------------------------------------------------------------

Final

Midland WTI spot trade date Midland WTI spot delivery assess. Midland WTI (Mean)

month spot

----------------------------------------------------------------------------------------------------------------

Dec-26-96..................................... Feb. 1997............................. $24.88

Dec-27-96..................................... Feb. 1997............................. 25.08

Dec-30-96..................................... Feb. 1997............................. 25.08

Dec-31-96..................................... Feb. 1997............................. 25.77

Jan-02-97..................................... Feb. 1997............................. 25.80

Jan-03-97..................................... Feb. 1997............................. 25.58

Jan-06-97..................................... Feb. 1997............................. 26.33

[[Page 7109]]

Jan-07-97..................................... Feb. 1997............................. 26.24

Jan-08-97..................................... Feb. 1997............................. 26.48

Jan-09-97..................................... Feb. 1997............................. 26.18

Jan-10-97..................................... Feb. 1997............................. 26.02

Jan-13-97..................................... Feb. 1997............................. 24.99

Jan-14-97..................................... Feb. 1997............................. 24.88

Jan-15-97..................................... Feb. 1997............................. 25.65

Jan-16-97..................................... Feb. 1997............................. 25.10

Jan-17-97..................................... Feb. 1997............................. 24.94

Jan-20-97..................................... Feb. 1997............................. 24.80

Jan-21-97..................................... Feb. 1997............................. 24.19

Jan-22-97..................................... Feb. 1997............................. 23.88

Jan-23-97..................................... Feb. 1997............................. 23.58

Jan-24-97..................................... Feb. 1997............................. 23.66

WTI Midland Avg Spot Price for January 1997... .................................... 25.20

----------------------------------------------------------------------------------------------------------------

Appendix E--NYMEX-based Oil Royalty Computation, Navajo Nation, Market

Center: Midland, TX

[January 1997 Production and Sale]

------------------------------------------------------------------------

------------------------------------------------------------------------

Average of Five High Daily NYMEX

Settle Prices................... $26.25

Cushing/Market Center Location

Differential:

WTI Cushing Average Spot

Price....................... $25.38

WTI Midland Average Spot

Price....................... 25.20

-------------

WTI Midland over (under) WTI

Cushing..................... (.18)

Market Center/Designated Area

Location and Quality

Differential (Exchange

Agreement):

Transportation and Quality

Differential from Midland to

Navajo reservation.......... (.25)

Royalty Value per barrel......... 25.82

------------------------------------------------------------------------

[FR Doc. 98-3597 Filed 2-11-98; 8:45 am]

BILLING CODE 4310-MR-P