GENERAL LIABILITY ISSUES
CONCERNING THE OIL AND GAS WELL OWNER

Oil and gas drilling and completion has undergone many technological advancements since the early days of the industry when it was common for wells to “blowout”, giving rise to terms like “gusher”. Today, most wells are drilled and completed and produced without incident, and the gushers have gone the way of the dinosaur.

However, accidents do happen and unexpected conditions in the subsurface are sometimes encountered that can result in the loss of control of a well. Blowouts, fires, injury and even loss of life can occur.

The oil and gas investor is protected from these occurrences by several layers of insurance. First, the drilling rig owner, or contractor, carries insurance for its crew and equipment. In the event that a drilling contractor guarantees a hole for a certain price, they also carry insurance for blowouts and other conditions that might prevent them from reaching the contracted depth.

The Operator is usually a co-owner in the well and is responsible for overseeing the drilling, completion and operation of the well. Operators are required to carry general umbrella liability insurance, blowout insurance, workmen’s compensation and auto insurance. General umbrella policies commonly range between $1,000,000 and $10,000,000 depending on the area and the risks involved. Investors are a party to the joint operating agreement (JOA) that stipulates coverage to all co-owners in the specified amounts.

A working interest owner in a joint venture is limited by the above coverage only. In rare cases, individuals may carry their own umbrella policy, but they are very expensive and hard to find. Additional protection from many types of potential liability is offered as a participant in a limited partnership and as a member of a limited liability company, or LLC. Some of the tax laws described previously change for investments of this type.

For many individuals, membership in an LLC is the preferred option to being a non-limited working interest owner in the specific well. An LLC member owns personal property in the LLC, but has no interest in the specific property of the LLC.

The LLC offers its members the same liability protection provided by a Corporation, in that no member is personally liable for the liabilities of the entity as they would be in a General Partnership, or as a working interest owner in an oil and gas well. Members are not personally liable for the debts of the LLC, which means that one's personal net worth or that of another business entity is not exposed to the risks of the business.

The Tax Reform Act of 1986 enacted certain restrictions aimed at discouraging reliance on “tax shelters”. Under these rules, certain taxpayers are not permitted to offset taxable income from their general business activities ("active income") or from their investments ("portfolio income") through losses or tax credits generated by activities in which they do not "materially participate"”. Instead, such "passive losses" may only be used to offset otherwise taxable income from "passive activities".

Managers of the LLC who devote full time to its affairs have little difficulty in qualifying as "active". Non-manager members who have little to do with its affairs will not be able to qualify as material participants and will be limited to utilizing their allocated share of losses and credits to offset other passive income. Taxation affords "pass-through" status, much like that of an "S" corporation. Members who wish to actively participate in the business can do so without losing their limited liability, and may treat losses and credits as "active income".

The LLC may accept funding from more varied sources, such as Corporations, Pension and Profit Sharing organizations and investment Partnerships.

Aspen Energy, Inc.
161 St . Matthews Avenue, Suite 16  Louisville, KY 40207
(502) 897-1757 (Phone)     (502) 897-1758 (Fax)
info@aspenenergyinc.com