Drilling the Taxpayer: Department of Interior's Royalty-In-Kind Program

Executive Summary

Oil and gas royalties collected from drilling on federal lands and waters is the second largest source of revenue for the federal government other than taxes. Royalties used to be collected primarily in cash, also known as royaalty-in-value. This changed in 1997, when Minerals Management Service (MMS) began a pilot program called Royalty-In-Kind (RIK). This program accepts royalty payments in the form of product rather than cash, and is one of the Department of Interior's primary methods of collecting those royalties.

There are extensive inappropriate relationships between MMS employees and the oil and gas industry, insufficient auditing of royalty payments, serious mismanagement of the RIK program, and a debilitating lack of transparency in the program. Despite these problems, Department of Interior (DOI) intends to significantly increase the size of the RIK program by 2009.

MMS initially resisted the push from industry and some Members of Congress for the RIK alternative, and numerous oversight agencies and outside organizations voiced concerns about the proposal. Regardless of the concerns, a pilot RIK program was established and, a couple of years into the program, independent reviews revealed that the early concerns were warranted. But in the last few years, MMS has clearly changed its position and has embraced the idea of RIK.

Industry influence on the RIK program is traceable from the program's conception, through its expansion, to the full-blown program that exists today. Industry also has had significant influence over MMS and the RIK program through the revolving door. A number of the individuals who went through the revolving door have actually been sentenced to prison for violations of conflict-of-interest laws or obstruction of justice.

The DOI Inspector General recently found that "between 2002 and 2006, nearly 1/3 of the entire RIK staff socialized with, and received a wide array of gifts and gratuities from, oil and gas companies with whom RIK was conducting official business." The IG also described a culture of "ethical failure" and "substance abuse and promiscuity" in the RIK office.

The GAO found that in 2003, 2004, 2007, and 2008, MMS could not accurately account for the RIK program's costs and benefits. Despite unverifiable statistics about the program's success, and evidence that the RIK program was found at times to lose money, MMS continued to expand the RIK program.

Essentially, the RIK program asks taxpayers to trust that industry delivers the correct amount of oil or gas to the government in lieu of cash, but has reduced oversight to such a degree that the GAO labeled RIK's management "an honor system." However, numerous instances of royalty underpayments by the oil and gas industry have demonstrated the need to hold industry accountable to the taxpayers.

Even though the operations of the program remain largely opaque, the information available strongly indicates that RIK exists to benefit the oil and gas industry, to the detriment of the public.

The most fundamental reform necessary to make this program functional is a dramatic increase in auditing capacity, yet this fix would wholly undermine MMS's original justification for the program—that the reduced need for auditing would decrease oversight costs. This alone should be reason enough to cancel the failed program. However, the legitimacy of this program is called into further question given the recent findings that MMS employees consider themselves exempt from standard ethical provisions that protect the public's interest. MMS's close relationship with industry has further prevented the public from getting what is owed to them for industry's use of public resources. The extensive corruption and collusion in the RIK program, given that it is charged with managing billions of dollars of federal revenue, should be the final nail in the program's coffin.

Recommendations

• The Secretary of Interior should immediately begin phasing out the RIK program, and should return to relying on a market price-based RIV program instead.
  • RIK should only be used for the purposes of filling the Strategic Petroleum Reserve when prices are low.
• Congress should remove the auditing functions from MMS, and move these tasks to a separate and independent agency.
• MMS should establish strict guidelines and restrictions on what outside work MMS employees can perform while working for the agency.

If the RIK program is not canceled, there must be more institutional checks and increased oversight of this program:

• Congress should prohibit MMS's proposed expansion of the RIK program.
• Until auditing functions are removed from MMS, the Department of Interior should institute regular auditing of the RIK program to improve oversight and management, and only use compliance reviews as a tool to identify leases that need auditing rather than as a replacement for audits.
• The Department of Interior should disclose detailed bi-annual reports concerning the profitability and performance of the RIK program to the Congress.

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