#What Is Severance Tax?
If you receive royalty payments from oil and gas production, you have almost certainly noticed a deduction on your check stub labeled "Sev Tax," "Production Tax," or something similar. This is severance tax — a state-level tax imposed on the extraction of non-renewable natural resources. The name comes from the fact that the resource is being "severed" from the earth.
Severance taxes exist in nearly every oil and gas producing state, though they go by different names and are calculated using different methods. In most states, the operator withholds severance tax from each owner's share of production revenue before issuing payment, much like an employer withholds income tax from a paycheck. The operator then remits the collected tax to the state on behalf of all interest owners.
Unlike post-production deductions for gathering, transportation, or processing — which are governed by lease language — severance tax is a statutory obligation. Every interest owner in a producing well owes it, regardless of what the lease says. The question is not whether you owe the tax, but whether the correct amount is being withheld from your royalty payments.
#State-by-State Severance Tax Rates
Severance tax rates vary dramatically from state to state. Some states impose a simple percentage on gross production value, while others layer multiple taxes and levies on top of each other. Knowing the rate that applies to your producing wells is the first step in verifying that your check stub is accurate.
#Texas
Texas imposes a crude oil production tax of 4.6% of market value under Texas Tax Code Chapter 202, and a natural gas production tax of 7.5% of market value under Texas Tax Code Chapter 201. These are among the most straightforward severance tax structures in the country — a flat percentage applied to the market value of production at the wellhead. Oil and gas are taxed under separate chapters of the Tax Code and at different rates, so it is important to verify that the correct rate is being applied to each product type on your statement.
#Oklahoma
Oklahoma levies a gross production tax on oil and gas. The standard rate is 7% for both oil and gas. However, Oklahoma offers an incentive rate of 2% for the first 36 months of production from new horizontal wells, after which the rate reverts to the standard 7%. This incentive was designed to encourage drilling activity in the state. If you own interests in a newer horizontal well in Oklahoma, you should verify that you are receiving the benefit of the reduced 2% rate during the incentive period.
#New Mexico
New Mexico's severance tax structure is more complex than most. The state imposes multiple overlapping levies on oil and gas production, including the Oil and Gas Severance Tax at 3.75%, the Oil and Gas Conservation Tax at 2.36%, and additional assessments that bring the total effective rate to approximately 8% to 9% of production value. Gas production faces a similar layered structure. Because multiple taxes are stacked together, the total withholding on a New Mexico check stub may appear higher than what you would expect from looking at any single tax rate in isolation. Each levy has its own statutory basis and is reported separately to the state.
#North Dakota
North Dakota imposes two separate taxes on oil production: a 5% extraction tax and a 5% gross production tax, for a combined effective rate of 10% on the value of oil produced. Natural gas is taxed at lower rates. The 10% combined burden on oil makes North Dakota one of the higher-tax states for oil producers. These two taxes are sometimes reported as separate line items on a check stub and sometimes combined into a single deduction, depending on the operator's accounting practices.
#Louisiana
Louisiana taxes oil production at 12.5% of value, one of the highest severance tax rates on oil in any producing state. Natural gas is taxed differently — at a rate of $0.063 per MCF (thousand cubic feet), which is adjusted periodically. The statutory authority for Louisiana's severance tax is La. R.S. 47:633. Because Louisiana taxes gas on a per-unit basis rather than as a percentage of value, the effective rate on gas fluctuates relative to prevailing gas prices. When gas prices are low, the per-MCF tax represents a larger share of revenue; when prices are high, it represents a smaller share.
#Wyoming
Wyoming imposes a severance tax of 6% on both oil and gas production under W.S. Section 39-14-203. Wyoming's rate applies to the fair market value of production. The state also levies ad valorem (property) taxes on production that are separate from the severance tax, so total state-level tax burden on Wyoming production typically exceeds the 6% severance rate alone.
#Colorado
Colorado uses a graduated severance tax rate structure under C.R.S. Section 39-29-105. The rate ranges from 2% to 5% based on the gross income of the producer. Smaller producers pay rates at the lower end of the scale, while larger-volume producers pay closer to 5%. This graduated structure means that the severance tax rate applied to your royalty may vary depending on the size of the operator's total production in the state.
#Pennsylvania
Pennsylvania does not impose a traditional severance tax on oil and gas production. Instead, the state levies an "impact fee" on unconventional (horizontally drilled) wells under Act 13 of 2012. The impact fee is a fixed annual amount per well that varies based on the age of the well and prevailing natural gas prices, rather than a percentage of production value. As of 2026, Pennsylvania remains the only major gas-producing state without a percentage-based severance tax. Because the impact fee is assessed per well rather than per unit of production, it typically does not appear as a proportional deduction on individual royalty check stubs in the same way that severance taxes do in other states.
#How Severance Tax Appears on Your Check Stub
On a typical royalty statement, severance tax is shown as a line item deduction. Common labels include "Sev Tax," "Production Tax," "Gross Production Tax," or simply "State Tax." The calculation is straightforward in concept:
Gross Revenue x Tax Rate x Your Decimal Interest = Your Severance Tax Withholding
For example, if a well produces $100,000 in gross oil revenue in Texas, the severance tax is $100,000 x 4.6% = $4,600 in total. If your decimal interest is 0.005, your share of the severance tax would be $4,600 x 0.005 = $23.00.
There is an important subtlety in the order of operations. The correct approach is for the operator to calculate the total severance tax on gross well revenue, then allocate each owner's share based on their decimal interest. Some operators, however, apply the decimal interest first and then calculate tax on each owner's individual revenue share. While the math should produce the same result in a simple percentage-based tax system, rounding differences across hundreds of interest owners can cause discrepancies. More critically, when an operator nets the tax before applying decimal interests — rather than after — it can shift rounding errors systematically against smaller interest holders.
#Common Severance Tax Errors
Severance tax withholding is one of the more error-prone areas of royalty accounting. The following mistakes appear frequently.
Applying the wrong state rate. Operators that produce in multiple states sometimes apply the rate from one state to wells in another. A Texas oil well taxed at 7% (the Oklahoma rate) instead of 4.6% (the correct Texas rate) would result in a 2.4 percentage point overcharge on every payment.
Failing to apply applicable exemptions. Many states offer reduced rates or exemptions for specific categories of wells (discussed in the next section). If an operator does not track exemption eligibility at the well level, royalty owners may be overtaxed for months or years.
Calculating tax on the wrong base. Some states allow certain deductions — such as transportation costs — to be subtracted from gross revenue before the severance tax is calculated. If an operator computes the tax on gross revenue without adjusting for these allowable deductions, the resulting tax withholding will be too high.
Double withholding. In some situations, both the operator and the purchaser of production withhold severance tax on the same volume. This results in the royalty owner effectively paying the tax twice. Double withholding is not common, but it does happen and can be difficult to detect without comparing check stubs against actual state tax filings.
#Tax Exemptions and Incentives
Most producing states offer reduced severance tax rates or full exemptions for certain categories of production. These incentives are designed to keep marginal wells economically viable and to encourage new drilling activity.
Texas offers several significant exemptions. The low-producing well exemption under Texas Tax Code Section 202.056 provides a reduced tax rate for oil wells producing fewer than 15 barrels per day, with the discount tied to prevailing oil prices. Texas also offers incentives for enhanced oil recovery projects and a high-cost gas exemption for wells that exceed specified cost thresholds.
Oklahoma's 2% incentive rate for the first 36 months of production from new horizontal wells is one of the most impactful exemptions in any producing state. A well that qualifies saves 5 percentage points on gross production tax during its most productive early months — precisely when the revenue impact is greatest.
North Dakota provides a stripper well exemption for oil wells producing fewer than 10 barrels per day. Given North Dakota's combined 10% base rate, the stripper well exemption can make a material difference in whether a low-volume well remains profitable.
Many other states offer similar programs for marginal and stripper wells, recognizing that a full-rate severance tax on a well producing only a few barrels per day may make continued operation uneconomic — ultimately reducing state revenue rather than increasing it.
#Federal Backup Withholding
Separate from state severance taxes, there is a federal withholding issue that catches some mineral owners off guard. Under 26 U.S.C. Section 3406, if a mineral owner has not provided the operator with a valid Form W-9 (which includes the owner's taxpayer identification number, or TIN), the operator is required to withhold federal backup withholding at a rate of 24% of gross payments.
Backup withholding is not a tax on production — it is an advance payment of federal income tax, similar to wage withholding. It appears as a separate deduction on the check stub, on top of any state severance tax withholding. The amounts withheld are reported to the IRS and can be credited against the mineral owner's federal income tax liability when they file their return.
The solution is simple: provide a completed, signed Form W-9 to the operator's division order department. Once the operator has a valid TIN on file, backup withholding stops. If backup withholding has already been taken, the amounts will be reflected on the Form 1099-MISC issued by the operator at year-end and can be claimed as a credit on the owner's tax return.
#How to Verify Correct Withholding
If you suspect that the severance tax being withheld from your royalty payments is incorrect, the following steps will help you confirm.
Identify the producing state. Your check stub or royalty statement should indicate the state (and often the county) where each well is located. If it does not, the operator's division order or well information should provide this.
Look up the applicable rate. Using the state-by-state guide above or the relevant state tax authority's website, determine the correct severance tax rate for the product type (oil vs. gas) and the state where the well is producing.
Verify the rate matches your withholding. Divide the severance tax deduction on your statement by your gross revenue (before the tax deduction) for the same well and period. The result should match the applicable state rate, within a small tolerance for rounding.
Check exemption eligibility. If the well is a low-volume or stripper well, or if it qualifies for any new-well incentive, verify that the reduced rate is being applied. You may need to ask the operator for production volume data at the well level to confirm eligibility.
Request a correction if needed. If you determine that you have been overcharged, contact the operator's revenue or royalty department in writing and request a credit or adjustment. If the operator is unresponsive, you may also be able to file for a refund directly with the state taxing authority, though this process varies by state and can be time-consuming.
#Related Reading
- Oil & Gas Royalty Deductions Explained
- How to Read & Audit Your Royalty Statement
- A 5-Point Manual Reconciliation Checklist
#Let AGR Verify Your Severance Tax Withholding
Manually checking severance tax rates across multiple wells, multiple states, and multiple operators is tedious and error-prone — especially when exemptions, incentive periods, and layered tax structures are involved. A single rate error applied over months or years of production can quietly drain thousands of dollars from your royalty income.
AGR's reconciliation engine automates this entire process. It identifies the producing state for every well on your statements, applies the correct statutory rate for each product type, checks for applicable exemptions and incentive periods, and flags any withholding amount that deviates from what the law requires. When it finds a discrepancy, it calculates the exact dollar amount of the over- or under-withholding so you can pursue a correction with the operator or the state.
Related reading:
- How to Read & Audit Your Royalty Statement — A step-by-step guide to decoding every line on your check stub.
- Oil & Gas Royalty Deductions Explained — Understand gathering, processing, transportation, and other post-production deductions on your royalty payments.