Most oil and natural gas producers in West Virginia calculate and pay State Severance Tax based on actual cash receipts in the reporting period, reducing that tax proportionately for annual tax exemptions and credits. An annual severance tax is then prepared for the year crediting payments made during the year on either monthly or quarterly returns and paying the balance due. This yearly final tax due is normally the amount of tax based on actual receipts and less a proportionate amount of the annual exemption for the last reporting period month or quarter of the year.
The West Virginia Tax Department during 2010 computerized the processing of these returns and implemented the calculation of underpayment penalties for Severance Tax based on Sections 11-10-18 and 11-10-18b of the West Virginia Code which compares actual payments made during the year to what “should” have been made based on the annual return total tax divided by the number of reporting periods for the year. For example, a penalty would be levied if a taxpayer reporting on a quarterly basis paid less that 25% of the tax shown on the annual Severance Tax return.
I have contacted the State Tax Department and explained to them that most if not all producers in West Virginia use actual cash receipts to determine the exact amount of Severance Tax that is due whether reporting on a monthly, quarterly, or annual basis, and they pay that exact amount. If productions receipts go up or down during any interim reporting period they adjust their interim severance tax payments to equal tax based on the actual amounts received. I explained to the State Tax Department that we believe there should not be any penalty assessed in this case where actual receipts are used for both interim and annual reporting.
The above referenced sections of the West Virginia Code allow for an exemption from penalty where the amount of the installment payment remitted was determined using the statutory measure of the particular tax, as received or accrued under taxpayer’s method of accounting during the period to which the installment payment relates, and the applicable rate of tax. The WV Tax Department has agreed to consider removing any underpayment penalty for the 2010 Annual Severance Tax Return for oil and natural gas if the producer contacts them and verifies that they calculated tax based on actual production and receipts and that they have substantially been in compliance with all Severance Tax filings to date.
If you do receive a notice of underpayment penalty for the 2010 Annual Severance Tax Return, determine if the reason for the underpayment penalty is as stated above, and if so, send a letter to the State Tax Department explaining that you have calculated interim period tax for 2010 based on actual cash receipt and asking that they abate the penalty assessed. We will continue to work with the Tax Department to clarify when payments should be made and to confirm that payment of WV Severance Tax based on actual cash receipts should not result in an underpayment penalty.