Some states unprepared for shale energy boom

CANONSBURG, Pa. -- Aaron Dinnin's last job was as a prison guard. Before that, he was a roofer. Today, the 33-year-old West Virginian works in a shale gas field near his home and earns more money than ever before. "This is the best job I've ever had," he says.

Expansive underground gas and oil fields being tapped in the nation's industrial heartland have brought hopes of prosperity and riches to a region that has been in economic decay for a half-century. The energy find appears richest in formations under many of the poorest parts of Pennsylvania, Ohio, West Virginia, New York and perhaps other adjacent states.

For the nation, a huge energy source near where tens of millions of Americans live is a once-in-a-lifetime development. For the region, the dream is even grander: that cheap energy will make manufacturing competitive again and restore industrial might that's been slipping away for generations.

But the new boom has the states struggling to figure out how to tax and regulate the drilling so the new-found wealth isn't just shipped via pipeline to Louisiana, Oklahoma and Texas.

In the most obvious example: Pennsylvania and New York have no severance tax on oil and gas. Ohio has a tiny one that covers only the cost of regulating the industry.

By contrast, all veteran energy states tax their energy resources heavily and use the money to keep other taxes low. Texas charges a 7.5% severance tax on natural gas and has no income tax. Oklahoma charges 7.1%. Alaska charges 25% to 50%. It has no sales or income tax, writes checks to residents every October ($1,174 per person last year) and has stashed away $41 billion for the future by taxing energy. North Dakota, now enjoying a shale oil boom, charges 5% to 6.5%. Among the new boom states, only West Virginia has a substantial tax — an old natural resources levy, a little above 5%, that applies to oil, gas and coal.

New York, which has taken a go-slow approach, is studying what taxes and environmental regulations should be imposed.

"Some states have just launched into it and are trying to catch up later on environmental regulation," says Joseph Martens, commissioner of environmental conservation in New York. "We've had the advantage of seeing what's happened there and doing it differently."

Earlier this month, Pennsylvania Gov. Tom Corbett, a Republican, signed a law imposing some impact fees on drilling, although the financial effect is unclear. His predecessor, Democrat Ed Rendell, wanted to impose a 5% severance tax. In Ohio, Gov. John Kasich, a Republican, says he's willing to consider an impact fee to help local governments offset costs such as repairing roads.

The problem: The old industrial states have tax laws that date as far back as the 1930s. Legislators then taxed what they knew: land, machines, coal, hourly income. Pennsylvania's property tax applies to coal reserves but never mentions oil or gas. In local income taxes, workers' wages are generally taxed, but the royalties landowners receive for allowing drilling on their property are not. "The conversation is just beginning on how to tax shale," says David Davare, research director of the Pennsylvania School Board Association. "We'll figure it out."

Local economic bonanza

Towanda, Pa., (pop. 3,000) had been losing population since 1900. Then came the natural gas boom. A flood of workers from Oklahoma and Texas arrived. New hotels and restaurants opened. Heavy trucks carrying pipes, rigs and tankers rumbled over rural roads. Housing grew scarce. Bars got busier. An easy ride over the Susquehanna River bridge in the 1.1-square-mile hamlet became a 25-minute traffic jam during peak times.

"At first, it was a drastic culture shock," says borough manager Tom Fairchild. "Suddenly, little old Bradford County with its laid-back lifestyle was full of traffic, noise and dust."

Then came the money — and a change of attitude. Farmers started buying expensive pickups with royalty money. Everyone had a job — or two. Unemployment fell to 3%. Locals soon learned skills and joined the out-of-towners on high-paying industry jobs.

At the vocational high school, graduates walked out the door with a high school degree and welding certificate — and into jobs paying $60,000 to $85,000 a year, says Elizabeth Cheatle, director of the Northern Tier Career Center. Its welding and diesel mechanics programs are overflowing. "We're struggling to keep up," she says.

A drilling rig laborer can earn $90,000 a year with overtime. Professionals can earn well over $100,000.

For the residents of old industrial America, the boom was what people craved: well-paying blue-collar jobs for those with high school degrees and good jobs for college-educated people who want to stay home. "I was willing to go anywhere opportunity took me, and it took me here," says John Mote, 24, a civil engineering graduate from Penn State working on a gas drilling site in Canonsburg.

But there were costs, too. New workers added students to the 1,800-student Towanda school district. But the gas boom largely escapes property and income taxes, the school district's key revenue sources. The district cut its budget more than $2 million and laid off the equivalent of 1.5 teachers.

"We would have liked a little more forethought on how you handle a boom like this," says school board member Susan Portnoff, who strongly supports the gas activity and works for the local chamber of commerce.

Towanda just raised property taxes, too. One problem: Local income taxes apply to the "earned income" of permanent residents. That excludes royalties and the wages of out-of-state workers who time their visits home well and remain classified as temporary residents.

On the upside: Drillers buy so much water from Towanda that the town finally can afford the backup water supply it long has wanted.

"What becomes of us in 10, 15 or 20 years when the boom is over?" asks Fairchild, the Towanda borough manager. "Who knows? But when you look back, it's always been like this. Booms, then quiet."

Reviving the industrial belt

What industrial America values is making things. The taste of new industrial jobs from the shale rivals anything the region has seen in decades.

Vallourec, a French company, is spending more than $700 million on a Youngstown, Ohio, steel mill that will build seamless pipes for the energy business. It's the biggest industrial project in Ohio in years and will add 350 well-paid, non-union jobs. U.S. Steel and Republic Steel have hired back hundreds of workers at nearby plants to produce pipelines.

Shell Chemicals plans to build a $2 billion-plus "cracker" plant in Ohio, Pennsylvania or West Virginia to convert — or crack — ethane from wells into industrial uses. The plant would take years to build, employ thousands to construct and require massive infrastructure to serve a complex spread over hundreds of acres.

"In my adult lifetime, I don't know of anything that has an economic impact as large and far-reaching as this cracker plant," says West Virginia Commerce Secretary Keith Burdette, 56. "We're thinking not so much about the effect of the drilling, which will be substantial, but the other byproducts of gas that could change our state."

Moxie Energy of Vienna, Va., is seeking permits to build two $800 million gas-fired power plants in the heart of Pennsylvania's Marcellus Shale field. Each would supply enough electricity for 8,000 homes.

The economic ripple of the two power plants illustrates the shale boom's importance to the region. The plants would employ 500 construction workers at the peak and 30 well-paid technical jobs permanently, says company President Aaron Samson. The industrial gas turbines that run the plants would be built in South Carolina or Georgia. Property taxes would help local schools.

The natural gas plants would help replace the nation's old, heavily polluting coal plants, now being closed for environmental reasons, while scarring the rural landscape less than coal mining.

Each proposed gas power plant needs less than 30 acres, compared with hundreds of acres for a similar coal plant. They'd be fed by underground pipelines rather than railways and barges.

Local adjustment

The environmental effects of fracking and horizontal drilling on water supplies have attracted governmental attention. Fracking, or hydraulic fracturing, is the high-pressure injecting of water, sand and chemicals deep underground to release oil and gas. Horizontal drilling sends the pipe sideways — rather than straight down — to potentially tap miles of resources from one rig. The shale boom is a tribute to technique and technology, rather than a stumbling on a new find.

Much is unknown about the effects of fracking on such a grand scale, and state and local governments are struggling to adapt. On New Year's Eve, a small earthquake rattled Youngstown — the likely result of the high-pressure injection of fracking waste underground, according to Columbia University seismologists. The state shut down the disposal well. Fracking uses millions of gallons of water that must be disposed of or recycled. Conventional sewage treatment plants are not designed for this kind of waste.

So far, most regulation has reflected the industry perspective. Pennsylvania's new law imposing an impact fee also limited what local governments could do to limit where fracking occurs. Last year, when the Ohio legislature passed industry-backed regulation, the Ohio Oil and Gas Association took credit on its website: "Senate Bill 165 — Why We Did It."

Clif Little, a natural resource specialist at the Ohio State University extension service, says many farmers signed oil and gas leases for less than market value, partly because they lacked the contract negotiating experience of oil companies and partly because Ohio law makes it hard for locals to get a good deal. For example, in Ohio, oil companies don't say what they paid for a lease when the sale is recorded at the county courthouse — unlike when a home sale is recorded. So, unlike the housing market, landowners don't know the market price, but companies buying leases do.

Now, farmers are getting better deals by forming landowner groups and hiring specialist lawyers. The boom is underway. "It's staggering the number of permits rolling in," Little says.

Much of the action is moving to Ohio because its shale contains more oil, far more valuable than natural gas, now near a 10-year price low.

This bountiful supply is like winning the lottery for the hard-hit Appalachian towns and industrial cities in the new energy belt. "I wish it would have happened 35 years ago," says Bob Chase, head of the only petroleum engineering program in Ohio, at Marietta College in southern Ohio.

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