SALES AND USE TAX - TAXABILITY OF DRY HOLE OR DRY WELL CASING FOR OIL AND GAS WELL DRILLING OPERATIONS

RAB-89-56. This Bulletin clarifies the sales and use tax treatment of casing left in a dry hole or dry well. The effective date of this Bulletin is April 1, 1989.

Casing left in a dry hole or dry well is taxable. This includes the 8-inch and under casing left in a dry hole because of being cemented in or left there for any other reason.

Rule number 49 of the Department of Treasury Sales and Use Tax Rules, states that:

An extractive operation begins when contact is made with the actual type of natural raw product being recovered AND NO EXEMPTIONS in the nature of industrial processing are to be considered pending such contact. [1979 AC, R 205.99(2)] (Emphasis added)

This Rule further states that:

The actual production of oil, gas, brine or other natural resources constitutes industrial processing and exempts from application of the tax casing pipe and drive pipe commonly known as 8-inch or under (8 5/8-inch O.D.)... [1979 AC, R 205.99(5)]

The Rule states that there shall be no exemption in industrial processing considered until such time as contact is made with the natural resource, and also that the exemption granted the 8-inch and under casing is for the actual production of the oil, gas or brine. When it is determined that a dry hole exists, it is because the reservoir is determined to be lacking commercially in the necessary volume of reserves, or that no such reserves are found. The result is that no actual production takes place and, therefore, no industrial processing exemption is to be allowed for the well. It is the Department's position that actual production does not start until such time as the "casing point" is reached during the drilling and completion of a well.

Therefore, any casing left in a dry hole, regardless of the size, is taxable because there has been no desired production or extraction to trigger the industrial processing exemption. Any contact with a natural resource during the drilling operations resulting in a dry hole is nothing more than undesired contact and is not construed to trigger any exemption provisions of the Rule.