Eminent Domain in Oil and Gas: Tax Treatment When a Pipeline Devalues Surrounding Property

Article excerpt

I. Introduction

The United States currently has more than 1.8 million miles1 of underground natural gas pipeline and 160,000 miles2 of underground oil pipeline in place to move oil and gas minerals from production sites to processing locations and ultimate consumers. While other means of transporting oil and liquid petroleum products exist, such as by truck, rail or water, the most efficient means is underground pipelines and the use of pipelines is virtually the only method for transporting natural gas. The U. S. Department of Energy estimates that in North America an additional 28,900-61,600 miles of underground pipelines will be required by 2030. Much of the new pipeline additions are already planned or under construction and will stretch from Alaska through Canada and across the United States.3 Before new construction of pipelines can begin, the pipeline company must obtain right of way easements from the owners of property along the proposed route. Since 1938, eminent domain for interstate pipelines has rested at the federal level. Currently, an interstate pipeline company may invoke eminent domain where the pipeline company has not been able to successfully negotiate a purchase price with the property owner if the Federal Energy Regulatory Commission has issued a certificate of public convenience.4 The right of way easements are typically from twenty-five to one hundred and fifty feet wide, depending upon the diameter of the pipe to be laid.5 The best situation is for the pipeline company to negotiate a contract with each of the landowners on the pipeline route. If negotiations fail, the pipeline company may resort to eminent domain to force the landowner to grant the easement. Use of eminent domain changes the nature of the transaction for the landowner when calculating gains or losses.

II. Scope

The construction of new pipelines is driven by two major factors: the need to provide adequate oil and gas for consumption and the recent development of technology to support the production of oil, condensate and natural gas from shale formations. The costs and benefits among the stakeholders often conflict.6 Underground pipelines serve three distinct purposes: gathering lines are used to carry oil and gas production from well sites to processing facilities or to transmission lines; transmission lines (also called trunk lines) are used to transport oil and gas minerals to processing facilities and from processing facilities to distribution hubs; distribution lines are very narrow gauge pipelines used to deliver processed natural gas from distribution hubs to the ultimate consumers (homes and businesses).7 Gathering lines are typically narrow gauge, one foot in diameter or less,8 and cover short distances. Transmission lines are larger gauge pipelines and range from twelve to forty-two inches in diameter.9 Of the 1.8 million miles of natural gas pipelines, more than 300,000 miles are large gauge transmission lines.10 The remainder consists of gathering or distribution lines. A large portion of the expected new pipeline construction will be transmission lines, requiring wider easements for construction and maintenance. One example of proposed new construction is the Keystone XL Gulf Coast Expansion Project that consists of 1,661 miles of thirty-six inch crude oil pipeline.11 In addition, expansion of distribution pipelines is expected to be required as a result of growth and shift in the population of the United States.

The more pressing issue requiring expansion of current pipeline infrastructure for oil, condensate and natural gas is the rapid growth in new production from shale formations in the United States. Increased domestic production of oil and natural gas has the potential to significantly reduce the U.S. dependence on imported oil and gas. While the location and size of mineral deposits in the shale formations (a combination of oil, natural gas and condensate) has been known since the 1800's, the technology to produce the minerals developed slowly and it was not until 2005 that production became economically feasible. …