Free Gas, and IRS Form 1099 and IRS Form W-9, and Federal Income Taxation.

Share via

IRS may be saying that free gas is not income (September 17, 2010 update)

WVSORO has heard that the IRS has given a gas company a ruling that it does not have to give 1099’s for free gas. This may mean that the IRS has determined that it is not “income” for surface owners income tax purposes. We are trying to confirm this and will update this link when we have. In the meantime rely on the advice of your tax professional.

Free gas and IRS 1099’s. (March 23, 2010 update)

If you have not read the “First Version, September 25, 2009” below, please read that first.

WVSORO contacted several tax professionals to try to determine with certainty the position that surface owners who received 1099’s as a result of their receipt of free gas should take when they file their income tax returns. (So far as we know only EQT has sent these out and the rest of the industry has not followed suit. If you have them from other companies, please let us know.) Several of the tax professionals we contacted volunteered an hour or so of their time or that of their staffs in order to see if there was an easy answer. They could not find an easy answer. This issue has apparently never been brought up before. Looking for an easy answer is complicated by the fact that there are four common situations in which the surface owner could be receiving free gas, as explained below.

We started to get an estimate from a tax lawyer to see what an opinion/advice on this issue would cost so we could find a donor to pay for it. About that time the Legislature started and all of our energies went into Legislature. We have gotten no further on the tax question.

Unfortunately, for this year, unless something unexpected happens, you will have to rely on your interpretation of the tax laws or, better yet, consult your own tax preparer/professional.

If you do get a tax professional’s advice, please get us a copy or at least let us know what they say and we can share that with others. Or if you are in a position to make a tax deducible donation to WVSORO, contact us about funding the opinion of a tax lawyer for all WVSORO members.

First Version, September 25, 2009

Background.

Many WVSORO members who receive free gas recently received letters from EQT, and may start getting them from other producers, regarding their free gas. The letter says that the producer thinks that all or a portion of the value of the free gas that at least some surface owners receive may be “income” for the purposes of federal income tax. The letter wants the surface owners to send EQT an IRS W-9 form disclosing their social security numbers. (The letter says to send it in by September 30, 2009, but if you decide you want to send it in, ten send it in even if it is after September 30, 2009. It may still be in time.)

Whether to send this in is a decision that you have to make based on your reading of IRS forms and regulations, or consultations with a tax adviser. WVSORO is not a tax adviser. However, WVSORO will lay out the issues and options for you here so you can better understand the question. WVSORO does think that most WVSORO members in most situations will want to send in the W-9’s. (Below we will describe the four most common situations in which surface owners receive free gas.)

Just because the producer thinks that the receipt of free gas by some surface owners is income for federal income tax purposes, does not mean that it is true. The final decision of whether that is true will happen between the surface owner and the IRS as the surface owner files their income tax return in April of 2010. WVSORO hopes to have some more information available for its members by then. However, the decision that the surface owner needs to make now is whether to send the producer a W-9 with the surface owner’s Social Security Number on it.

However, because EQT thinks that free gas, or a portion of the free gas, is reportable income to surface owners, it plans in the future to send the IRS a report of surface owners’ receipt of the free gas. (EQT is also going to send the IRS EQT’s determination of its value, but like the determination of whether free gas is income, the determination of the value of the free gas occurs between the surface owner and the IRS as the surface owner’s income tax is filed in April, 2010.) When EQT or other producers make that report to the IRS in the future, they will send you an IRS Form 1099-Misc letting you know that they have reported this to the IRS and the value they reported.

So why are they asking you to send them a W-9 now? Its because they do not know, or want to be sure of, your social security number. As we read the EQT letter, EQT believes that they do not have to send the IRS any money (“withholding”) with that report as long as the report includes your social security number. EQT believes that if they report the income and your name, but do NOT send your social security number with it, then EQT will have to send the IRS money equaling 28% of their determination of the value of the free gas. EQT says that if they have to do that, they have to send you a bill for that amount! So they want you to send them the IRS Form W-9 with your Social Security Number on it because they believe they will not have to send the IRS money and bill you for it.

What are the probable effects of sending in the W-9’s?

If you send in the W-9 and it turns out you do not owe the tax, then EQT has your Social Security Number. Some people do not like that. But there are probably laws limiting what EQT can do with your social security number.

If you send EQT the IRS Form W-9, then the IRS will have an easier time comparing the report EQT sends in with your tax return to see, if you owe tax, if you have reported the income and paid tax on it.

If you send in the W-9 and it ends up you do not owe the tax, there is no downside except the first reason above.

What are the probable effects of not sending the W-9’s to EQT?

EQT will probably make the report to the IRS anyway, and send you an IRS Form 1099 anyway.

Not sending in the W-9’s to EQT will make it harder for the IRS to compare the report that EQT sends in with your tax return.

Unless you show EQT that you own all of the mineral interest under your land (more on that later) EQT says they are planning on sending you a bill for the amount they believe they have to send to the IRS. EQT believes it has to send the IRS 28% of their determination of the value of your free gas. If you do not pay it, EQT could take the position that you owe them money. EQT could therefore take the position that there has been a breach of the agreement or covenants granting you free gas, and EQT might try to use that as an excuse to turn off your gas. We are not saying they will, or that they have threatened to, but they could take that position. As a practical matter, possession is 9/10ths of the law. If they did turn it off, you might be able to get a temporary or permanent injunction to make them turn it back on, but at what difficult and expense to you? You could try self-help instead (to turn it back on), but their self-help (to turn it back off again) may better than your self -help. Also, self-help messing with gas pipelines can be risky. And some self-help might be considered a crime, though a law enforcement officer, not EQT, would have to be the one that was persuaded that a crime had occurred and would be the one to start the criminal proceeding.

For those reasons, we think most WVSORO members will want to send in the W-9’s now, and then between now and tax time in April, 2010, figure out whether they believe it is income as they file their federal income tax returns. WVSORO may be able to provide more about the issues by then.

The four most common situations in which the surface owner receives free gas.

There are four most common legal situations in which a surface owner receives free gas. It may be that whether, in April, you will owe income taxes on the free gas will depend on which of the situations you are it. That does not need to be figured out until April. However, we set out the four situations below now as the beginning of the education process.

We also set them out because EQT says in its letter that surface owners in the first situation described below do not need to send in IRS Form W-9’s, that surface owners will not receive IRS Form 1099’s and that EQT will not report the receipt of free gas to the IRS. So explaining the four situations will help surface owners understand whether they are in the first situation and therefore do not need to send in the IRS Form W-9’s (but will need to send in documentation of their ownership of 100% of the minerals)

Here are the four legal situations in which surface owners receive free gas.

-you own all the minerals (or at least all the oil and gas) under your land — in other words, you are someone entitled to receive all the royalties from the production of gas under your land;
-you (or your predecessor who owned the minerals) negotiated a lease with the right to free gas; and
-you are using the free gas:
-you own some, but not all, of the minerals (or at least of the oil and gas) under your land — for example, of the 1/8th (usually) royalty for the gas produced from wells on your land, you are entitled to receive your ½ or 1/3rd of the royalty;
-you (or your predecessor who owned the minerals) negotiated a lease with the right to free gas; and
-you are using the free gas:
-you only own the surface and do not own any interest in the minerals (or at least do not own the oil and gas
— you do not get any royalties);
-but the right to free gas was reserved to the surface owners back when the deed was written which for the first time separated the ownership of the minerals from the ownership of the surface; and
-you are using the free gas:
-you only own the surface and do not own any of the minerals (or at least do not own the oil and gas — you do not get any royalties);
-you only get free gas because the driller gave it to you to compensate you for the damages done to your land by the drilling of the gas well, or the use of your land for the gas well, access road and/or a pipeline etc.;
-you are using the free gas:

What if I am in category #1?

EQT’s letter says that if you own ALL of the interest in the oil and gas under your land and are receiving free gas, they do not believe that your receipt of gas is reportable income for federal income tax purposes. However, EQT says that they will not just take your word for it, that you have to send them some documentation that you own 100% of the minerals. Unless you do, they are going to report your receipt of free gas to the IRS and send you an IRS Form 1099, and bill you for 28% of the value unless you send them an IRS Form W-9. Of course the ultimate determination will be made between you and the IRS in April.

If you do not send in neither the documentation nor the W-9’s, then the effects will be the same as described above for other surface owners who do not send in form W-9’s.

If you do send in documents and if EQT agrees that they show you own 100% of the oil and gas, then nothing changes from what has happened regarding the free gas before.

If you are in some sort of a dispute over the ownership of the minerals, or if you are afraid that sending in the documents could start a dispute, you may not want to send in the documents. Instead you may want to send or not send the IRS Form W-9 to EQT instead (with the effects either way described above). You can still deal with the ultimate question of whether your receive of free gas is subject to federal income taxation in April. (If you are, or get into, a dispute in court, you can be made to show all the parties to the suit any documents you have in the “discovery” process that takes place in law suits.)

Conclusion.

WVSORO is sorry that we are getting this information out so close to the EQT deadline, and that we do not know more about the ultimate issue of federal income taxation at this time. However, surface owners have been receiving free gas all over the state for a century without this issue. This came as a surprise and turns out to be a very complicated issue. . We certainly hope that it can be resolved in our favor — that surface owners do not once again get the short end of the stick.

If you are not a member of WVSORO, please go to our web site (Just Google “WVSORO”), and scroll down to “Join Us” to help us in our work and to get our newsletters and e-mail updates.