Using the embedded player above, you can download the episode to your computer or listen to it here! Be sure to also subscribe on iTunes!
Key Points:
In this Episode, we again feature special guest and fellow mineral owner Justin Williams. This episode is intended to make mineral owners aware of a potentially deceptive practice whereby unscrupulous folks will try to disguise a royalty lease as a top lease. If you fall into this trap you would be selling the majority of your royalty interest in any wells for a fraction of what it is worth.
Royalty Lease vs. Mineral Lease
Before we dig into this, it may be worthwhile to review a couple of definitions.
- Mineral Rights – Allows the owner to explore, develop, extract minerals (oil and natural gas, gold, silver, coal, copper ,iron, rare earth minerals, etc.) under their land. Mineral rights can be severed from the surface.
- Royalty Interest – Interest in oil and natural gas that gives the owner the right to receive a portion of the resources or proceeds generated from selling the products that are extracted. It is not burdened with the operating costs necessary to produce the resources in question. Owner of the royalty interest is still responsible for taxes.
- We cover the difference between Minerals and Royalties in more detail in MRP Episode 2.
- Leasing – we cover leasing 101 in Episode 6 so we won’t cover how to negotiate a typical mineral lease (which is what 99% of lease offers are and most are made by trustworthy companies).
Mineral Lease
When you own minerals, the typical lease you may be asked to sign will usually be a mineral lease. In general, a Mineral Lease is a standard lease arrangement between two parties that gives the lessee the right to explore and produce certain minerals within a specific parcel or tract of land in exchange for predetermined compensation.
Most leases nowadays are what are called “paid up” oil and gas leases. In a “paid-up” lease, an upfront lease bonus is paid so that the lease will be in effect for the entire primary term with no requirement for further payments to lessor unless production is established (at which point royalty will kick in).
The other type of lease is a lease with a “delay rental” which is an annual payment if no production has been established on the lease to keep it in effect.
Click Here to Download our Free Oil and Gas Leasing Resource Guide
Royalty Lease Scam
The Royalty Lease “Scam” is where you are contacted with a Royalty Lease offer to mineral owners that are already under an existing lease and making it look and sound like a mineral top lease.
In case you are wondering what a “top lease” is, it is an oil and gas lease that is signed before the termination of an existing lease and it only becomes effective if and when the existing lease expires. Bonus payment is paid at the signing of the top lease. In areas that are extremely competitive, companies will top lease to secure a possible land position if the existing lessee doesn’t drill a well.
In other words, the lease is taken “on top” of a pre-existing lease.
In this scam we found out about, people are sending a document that may say “oil and gas royalty lease” which is in effect a term royalty deed. A Term Deed is a deed or conveyance of royalty that has a specific time period associated with it (vs. perpetual deed). Let’s be clear that a Term Deed is not a bad thing when it is presented in an upfront manner for what it is, the issue here is when people deceptively try to pass it off as a mineral lease. The potential scam artist may call it a royalty lease to avoid certain state requirements that require conspicuous statement in conveyance that tells the owner that they are selling all or portion of their mineral or royalty interest.
For example, in Texas property code – Subchapter F – Section 5.151 outlines specific requirements including the requirement to include in 14 point font “BY EXECUTING AND DELIVERING THIS INSTRUMENT YOU ARE SELLING ALL OR A PORTION OF YOUR MINERAL OR ROYALTY INTEREST IN (DESCRIPTION OF PROPERTY BEING CONVEYED).”
Here’s a Specific Example:
- Let’s say you have leased your minerals under a paid-up oil and gas lease in exchange for a bonus payment and a 25% royalty.
- You are in an area that is hot and lots of leasing and drilling activity.
- You are still under lease but you get an oil and gas royalty lease offer in the mail.
- It may look and feel like a mineral top lease at first glance and include a cover letter with similar wording to a mineral lease:
“We are acquiring leases in your area on behalf of XYZ Company and would like to extend a lease offer. XYZ Company offers to lease your Royalty Interest under the following terms:
Lease bonus of $3,000 per Net Royalty Acre paid directly to you by a check from XYZ Company along with a ¼ royalty to lease your interest in the above described tract of land.”
The Lease may say “Oil and Gas Royalty Lease” at the top.
If you don’t read the fine print and sign and send back this “royalty lease”, you would effectively be exchanging a month or two of potential future royalty payments up front (the “bonus” payment), for 75% of your royalty stream until the end of the lease (if it doesn’t define the time period it could be as long as the wells are held by production).
Assuming you owned 100% of the minerals under a drilling spacing unit, instead of receiving the ¼ royalty you would expect from production, you would be getting ¼ of ¼ or 1/16 royalty (instead of 25% you would get 6.25%). This is because you sold the other 75% through the term royalty deed that was disguised as an oil and gas lease.
Depending on the wording, it could be considered a “term deed” because in this case it would expire once production ceased under the mineral lease.
What to Do?
If you are contacted by someone who tries to pass a Royalty Lease off as a Mineral Lease, then do not sign it! As with any leasing situation, we recommend hiring a competent attorney to help you negotiate and get the best terms. If you go this route and are unaware that you are being asked to sign a royalty lease instead of a top lease, a good attorney will catch this and make you aware of what is being presented.
If you do run into this, it may also be a good idea to contact your state attorney general to make them aware of what is going on.
This information is being shared for educational purposes only. This is not to be construed as legal advice! When in doubt consult an attorney in your state that is experienced in mineral law.
Resources Mentioned in this Episode:
Thanks for Listening!
To share your thoughts:
- Leave a comment or question below (we read each one and your question may be featured in a future episode)!
- Ask a question or leave us feedback via email or voicemail: (720) 580-2088.
To help out the show:
- Leave an honest review on iTunes. Your ratings and reviews really help and I read each one.
- Subscribe on iTunes
Thanks again to Justin Williams for joining me this week and providing the mineral owner’s perspective. Until next time!
Matt
