Shut In Royalty Related to Oil and Gas

Shut-in is a popular term in the oil and gas sector, and landowners have mixed feelings. Typically, it addresses the legal matters related to mineral rights and oil and gas production. So, learning about shut-in royalty can be quite helpful in understanding the legal affairs related to the production of oil and gas.

Interestingly, shut-in comes into play when the oil wells are not producing enough minerals that can be marketed. Generally, it doesn’t require any provisions when you have an oil and gas lease. But, the landowners need some financial backing if the oil production is slow or insufficient. This is when shut-in royalties come into play.

What is Shut-In Royalty?

Shut-in royalty is a compensational payment paid to the royalty owner in an oil and gas lease when the oil and gas are not being sold in the market. Otherwise, it forces the lessee to terminate the operation because it will be eventually impossible for them to carry on.

Shut In royalty payment applies when the expected minerals are yet to be sold from the oil and gas premises. Generally, different terms are used for this form of payment, but it’s mostly referred to as ‘shut-in royalty.’

Is Shut-In Royalty Payment Guaranteed?

Generally, oil and gas lease negotiations are different because there isn’t a standard contract in all US. So, each state has a different version of such lease contracts. Hence, a shut-in royalty is not always guaranteed, and it depends on the state you’re signing the contract.

Therefore, it’s critical to verify and add a provision or clause regarding shut-in royalty if it’s not already there in the contract. Typically, these clauses include the shut-in royalty payment timeline and payment amount.

Provisions on Shut-In Royalty

When you’re looking at a shut-in royalty provision, focus on the timeframe for the compensation payment. This allows the mineral rights owners to accurately anticipate the compensation. Generally, shut-in royalty payments are paid within three months.

Shut-In Royalty Clauses

Generally, high-quality and secure contracts include a shut-in royalty clause. There is always some form of guarantee that the lessee can count as a shut-in royalty payment. Typically, shut-in royalty amounts are expressed as dollar values. However, they can also relate to the recent sales and extraction of the minerals.

What is a Shut-In Well?

Shut-in royalties come from the oil and gas wells identified as shut-in wells. So, if it’s important to know about shut-in royalties, it’s equally important to know what classifies as a shut-in well. In a case where your oil well qualifies as a shut-in, you will be eligible for a shut-in royalty payment.

Even when the drilling operations have sped up across the US in the last few years, it hasn’t paced up the production process. As a result, the idea of more and cheaper natural gas is still a dream because the drilling companies are yet to market whatever they are producing.

It’s mainly due to the lack of appropriate infrastructure and pipelines that are preventing the production companies to sell their minerals to the consumers. So even though the pipeline construction companies have accelerated the process, there is still time before we see cheaper and more accessible fuel.

This is where shut-in wells come into play.

In several cases, the wells are complete and are ready to produce the minerals. However, the lack of pipelines means that there is still time before companies and landowners can make money out of this production. So, these wells are classified as shut-in wells, and they are just a step away from production.

Moreover, a shut-in well also refers to an oil and gas well that lowers its production. Incidentally, they are producing less than their potential. 

Such oil wells may enter the ‘shut-in’ state for a couple of reasons. They may be shut-in in an emergency, or they may be the ones that influence the supply of oil and gas in the market.

Possible Causes of a Shut-In Well

A shut-in well never pops up overnight. Instead, it happens due to a series of events that are often dependent on economic or environmental conditions. Typically, these conditions are unusual or unsafe for the landowners.

For instance, natural disasters are the biggest cause of oil well shut-ins. Interestingly, they can be sudden and may lead to temporary shut-ins.

Here is a quick discussion on the major causes of shut-in wells.

Lower Demand

Depending on the market conditions, the demand for oil and gas can reduce too. But, typically, it rarely falls to dangerously low levels in a quick time. For instance, the global pandemic in 2020 saw an immediate and intense drop in oil and gas demands.

As a result, oil and gas distribution centers were forced to stockpile hundreds of barrels, eventually temporarily forcing the wells to shut in. Typically, demand-based shut-ins occur in high-production regions like New Mexico, Oklahoma, etc.

Natural Disaster

Natural disasters can be of many types. However, not all of them enforce a shut-in. Typically, the wells prone to natural disaster shut-ins are located where there is an abundance of flat reserves of desolate land.

For instance. Louisiana and Texas coasts often face tropical storms and hurricanes. Likewise, North Dakota and Oklahoma often experience tornadoes. So, oil and gas operators are forced to follow the safety protocols and evacuate the wells during such conditions, which pushes the well into a shut-in state for some time. 

Delays in Projects

Project delays are part of oil and gas production. However, several factors can influence project delivery delays and failure to meet the expected numbers. These delays can occur for weather conditions, machinery failure, lack of labor or governmental regulations, etc. As a result, very few projects are completed by the expected delivery time.

When there are unexpected delays, it can force shut-ins which usually last for weeks. However, as soon as the producers can restart production, they get back to resuming the good operations.

Conclusion

Shut In royalty is an important aspect of dealing with oil and gas leases. If you’re a lessee and want to sustain the digging and production process during a shut-in period, keep shut-in royalty as a part of your lease contract. Moreover, consult an oil and gas expert and legal professional during such deals to avoid monetary or legal consequences in the future.