It's not looking good for Oklahoma's budget.
State leaders expect a $170 million shortfall. This year's budget was just half a percent larger than five years ago, without adjusting for inflation. And projections estimate a deficit of up to $2 billion by 2035.
"A significant part of the explanation for the problems we are facing has to do with the growing cost of tax breaks, particularly the tax breaks that were enacted back in the early 1990s for horizontal and deep-well drilling and then were modified back in 2010." said Oklahoma Policy Institute Director David Blatt at the organization's budget summit earlier this month.
When enacted, tax incentives for horizontal drilling provided an exemption from the state's 7 percent gross production tax for a payback period of up to two years for new wells. By 2011, after several renewals, the payback period had doubled, and wells started that year are simply taxed at 1 percent for four years.
Ten years ago, these incentives cost the state $2 million. With the latest changes, Blatt said the cost exploded.
"According to the tax commission, they expect that the cost of taxing horizontal production at 1 percent for four years ... is going to be $250 million in 2014 and above that in 2015," Blatt said.
Based on state estimates adding the cost of all energy production tax breaks, those incentives will cost Oklahoma $307 million in 2014 and $304 million in 2015.
In other words, the expected budget shortfall is about half of what the state gives away in tax breaks to oil and gas companies. This isn't how other states do it.
"In North Dakota they're a little over 11 percent, and Texas is about 7 percent, and they're still drilling like crazy there," said Rep. Scott Inman.
The House minority leader wants to rein in Oklahoma's incentives.
"At the time, horizontal drilling was a new concept, and we wanted to create an incentive to encourage the industry to use that," Inman said. "Well, now, it's gone from an experimental concept to that's the way they do business."
Industry magazines say the proportion of horizontal rigs jumped from one in 10 in 2005 to nearly seven in 10 today. In the last 15 years, drilling a new well went from taking six weeks to less than two.
Even if it is how business is being done these days, Oklahoma Finance Secretary Preston Doerflinger says changing the tax breaks isn't a popular idea.
"When I first came out and suggested that they should be re-examined, I believe that was in July, and for three days I was in an undisclosed location in Poteau while I let that hang out there for a little while," Doerflinger said, prompting laughter from the budget summit attendees.
While some progress has been made since then, Doerflinger said key leaders have already made up their minds.
"There's no question that the governor has a position, and we have worked with the House and Senate up until recently — still working with the Senate — and the House has obviously staked out a different position," Doerflinger said. "And when I say, 'the House,' [I mean] the Republican leader."
House Speaker TW Shannon has filed a bill to make the current incentive for new horizontally drilled wells permanent. Inman is fairly confident it won't pass.
"While the speaker may introduce legislation to keep it at 1 percent, I don't think the governor would sign it, I don't think Sen. Bingman would allow it out of the Senate," Inman said. "My team certainly won't be supportive of that, and hopefully we'll get a good compromise come out of the Senate and sent our way."
Another House Bill would give companies until 2016 to drill wells taxed at 1 percent. A Senate Bill from Oklahoma City Republican Cliff Branan would institute a permanent 4.95 percent rate for wells started in 2016 and after.
