A Primer on Government Royalty Claims in Chapter 11 Cases

Journal Issue

Mar 2006

Column Name

Affairs of State

Citation

ABI Journal, Vol. XXV, No. 2, p. 18, March 2006

Topic Tags

Govt. Claims/Sovereign Immunity

Executory Contracts/Leases

Journal HTML Content

Royalty lease agreements with the government
(such as in oil and gas production) are complex and, at times,
confusing. Some lease operators will find themselves in bankruptcy due
to royalty calculation disputes. Although the effect of 28 U.S.C.
§2415 is fading, it is precisely the type of question that consumes
large amounts of an attorney's time in trying to resolve the dispute
between the circuits. When faced with a challenge to royalty payments,
the first step is to evaluate whether the royalty demand is time-barred
under either 28 U.S.C. §2415 (six-year statute of limitations) or
30 U.S.C. §1724 (seven-year statute of limitations):

<ol>
<li>Did the demand arise before or after Sept. 1, 1996? For demands
arising before this date, §2415 and its judicial interpretations
apply. After this date, §1724 acts as an almost absolute bar (with
possibly one exception) to
any demand, whether for payment, accounting, calculation or
administrative action.

</li><li>Is the demand arising from production on Indian lands? If so, for
production before the above date, §2415 and its judicial
interpretations apply. After that date, a potential litigation position
may lie in the notes to 30 U.S.C.S. §1701, which states that the
1996 statutory amendments do not apply to Indian lands but instead
revert to §2415 and its interpretations.

</li><li>Is the demand arising in a jurisdiction following Tenth Circuit law?
The Tenth Circuit's view of §2415 is essentially the same as the
statutory wording of §1724, interpreting it as an absolute bar to
any demand for payment, whether administrative or judicial. However, the
Tenth Circuit did not state if they would extend this to include
requests for accounting, recalculation, etc. for time-barred claims.

</li><li>Is the demand arising in a jurisdiction following the law of the
Fifth Circuit or the District of Columbia federal judicial district? The
Fifth Circuit (and the District of Columbia district courts) interpret
§2415 as only time-barring judicial actions, not administrative
demands. Although not specifically addressed by the Fifth Circuit, the
D.C. District Court seems to go one step further and considers judicial
actions to enforce administrative demands as not falling under the time
bar.

</li><li>Is the claim arising during a bankruptcy proceeding? Proofs of claim
are considered administrative actions, converted into judicial
proceedings depending on the debtor's response. Again, it appears that
§1724 would be an absolute bar to time-barred claims for post-Sept.
1, 1996, demands. The Tenth Circuit would preclude such claims arising
under §2415. The D.C. Circuit (and possibly the Fifth Circuit)
would look to see whether the proof of claim flowed naturally from an
agency administrative action, or was a stand-alone claim with no prior
administrative demands.
</li></ol>

The new bankruptcy bill provides for expanded direct appeals to the
circuit court of appeals for (1) a question of law where there is no
controlling decision for the circuit court of appeals or Supreme Court;
(2) where a question of law involves resolution of conflicting
decisions; or (3) where a matter of public importance is
involved.1 This may refresh increased
litigation surrounding the §§2415 and 1724 questions.

<h4>Application to Bankruptcy</h4>

The §2415/1724 problem is a fairly niche area, and many may be
asking of its fit into bankruptcy. Its application comes into any
personal or business bankruptcy where there has been oil and gas
production on federal lands. When the bankruptcy is filed, the
government will file a proof of claim for unpaid royalties and counsel
must investigate the source of those royalties as well as the time frame
for the claim. This investigation may turn up an opportunity to object
to the filed claim on behalf of your client, and a successful objection
may be key to a viable repayment plan.

The voluntary bankruptcy filing is not by itself a contested
proceeding, but rather "an umbrella under which numerous related
lawsuits may be litigated."2 The fundamental
proceedings under the umbrella are either judicial (adversary
proceedings initiated by complaint; application proceedings initiated by
application; and contested matters initiated by
motion),3 or administrative proceedings
"designed to permit...a request...without the need for judicial
action."4 An objection can convert an
administrative action into a judicial action.5

Most published case law deals with the government filing of a proof
of claim as a waiver of its sovereign immunity against the debtor's
counterclaim to the government's proof of
claim.6 It could be argued that the treatment
of a governmental response to a debtor's counter-claim to the proof of
claim may be afforded the same protection as a counterclaim under
§2415(f), as it is the debtor that converts the administrative
proof of claim into the judicial proceeding (adversary or contested
matter), as opposed to an original action filed by the government. This
would be similar to the logic found in
Samedan7 discussed infra.

However, time-barred claims from post-09/01/96 production are
unambiguous in that §1724(b)(1) is explicit in precluding action
regarding time-barred obligations,8 which more
than likely prohibits the filing of proofs of claim for time-barred
obligations unless the production is from Indian lands, also discussed
infra.

<h4>The Statutory Envelope</h4>

28 U.S.C. §2415 and 30 U.S.C. §1724 address time
limitations on governmental royalty demands. Section 2415(a) sets the
six-year statute of limitations against actions by the United States or
its agencies based on contract, while §2415(f) allows assertion of
counterclaims. Time-barred counter-claims from the same transaction or
occurrence are allowed, while time-barred counterclaims not arising from
the same transaction or occurrence are limited to amounts not exceeding
the claim against the government. Finally, §2415(i) provides
additional protection (or possibly
limitations)9 by allowing time-barred claims
only as administrative offsets.

FOGRMA10 (Federal Oil and Gas Royalty
Management Act), 30 U.S.C. §§1701-1757 is a later statute
addressing time limitations. Typically, judicially discussed sections
relative to §2415 are §§1713(b) and
1724(b).11 Section 1713(b) sets a six-year
records retention requirement (previously generally handled under the
individual mineral leases), while §1724(b) sets a seven-year
statute of limitations for oil and gas royalty production from federal
lands after Sept. 1, 1996.12 These apply to
royalty underpayment demands (excluding fraud), as well as any other
agency demands such as audits, document request and recalculation
requests.13

The quirk in §1724 is whether it applies to production from
Indian lands under federal management. The notes following the 1996
amendments state that these amendments do not apply to Indian lands and
the law reverts to §2415, with the applicable version being the one
in effect the day before the enactment of the 1996
revisions.14 This could effectively revive the
§2415 statute-of-limitations dispute for some production, although
the note has not yet been discussed in any case or administrative law to
date.

<h4>The Fifth Circuit Rule</h4>

In 1994, the Fifth Circuit applied the prior Supreme Court ruling in
Bowen15 to governmental mineral lease royalty
disputes in Phillips v. Babbitt.16 The
Fifth Circuit construed "action for money damages" as "a suit in court
seeking compensatory damages."17 No filed
complaint means no "action for money
damages."18 A judicial remedy requiring one
party to pay money to another does not necessarily characterize the
money amount as "money damages."19 Money
damages are normally compensatory relief,20

contrasted to the disputed MMS orders which are statements of moneys
owed under contract, falling outside of
§241521 as more akin to a series of
corrected invoices, rather than judicial action.

<h4>The Tenth Circuit History: The Phillips Cases</h4>

From 1991-93, the Tenth Circuit heard three cases: Phillips
I,22 Phillips
II23 and Phillips
III.24 In Phillips I, a DOI/MMS 1988
administrative order requested lease records on 32 leases for 1980-86
under the lease terms. Phillips argued that the cause of action
accrued at the time the royalty payment was due, precluding the records
request under §2415.25 The court ruled
that §2415 only barred reimbursement requests, not records, and if
they still had the records, they must be produced. Phillips
II26 was similar, but the documents
retention was imposed by FOGRMA rather than lease
terms.27 Again, the district court held
similarly28 and supported upon appeal.
However, in the appeals opinion dicta, the Tenth Circuit indicated that
untimely requests for royalty underpayments may be
precluded.29

Phillips III30 litigated the
question of when the statute of limitations begins to
run.31 The district court held that any
request for underpaid royalties must be made within six years of when
the royalty is due,32 but was reversed by the
Tenth Circuit, holding that the six-year statute of limitations could be
tolled upon the timely initiation of an audit with the following
instructions:33

<ol>
<li>The critical factor is the date the government should have
reasonably known of the breach (royalty underpayment).

</li><li>The district court must examine each case to determine first, if the
facts to trigger the claim either were not known, or could not
reasonably have been known without an audit, and second, whether "the
audit was completed within a reasonable time after discovery of the
deficiency royalty payment.

</li><li>The "district courts should not view a failure to exercise
reasonable diligence, inconvenience or even some hardship on the part of
government as grounds for tolling the limitations period."

</li><li>The district courts should also look to FOGRMA, 30 U.S.C.
§1713(b), as a guideline for considering reasonableness. Failure of
the government to initiate an audit within six years of records
generation is a per se unreasonable delay.
</li></ol>

Although not explicitly stated, the fourth point in Phillips III
appeared to overrule Phillips I and Phillips II to the
extent that those opinions appeared to uphold government requests for
records generated past the six-year mark if the lessee still has those
records.

<h4>The OXY Cases</h4>

The Tenth Circuit approached the §2415 issue again in 2000, with
cases centered on disputed royalties on 1980-88 production that had been
previously audited and approved several times, but a 1996 retroactive
change in the method of the royalty calculation triggered the
disputes.34 The district court entered
judgment in favor of the plaintiffs, relying on Phillips
III,35 but MMS appealed, and a Tenth
Circuit panel opinion held that the lower court had improperly
distinguished between "dicta" and the actual
"holding"36 in Phillips III. This was
later overturned by an en banc hearing. The overturned panel
opinion, if left to stand, would have left the clear body of law similar
to the above outlined in the Phillips cases.

The overturning en banc opinion was parsed word by word, and
in some ways it was confusing by the Tenth Circuit's own admission of no
congressional statutory intent to apply §2415 to MMS administrative
royalty demands.37 They lifted the four
phrases of §2415: (1) "every action," (2) "founded on
contract,"38 (3) "money damages" and (4)
"except as otherwise provided." In looking at the analysis of "every
action," the Tenth Circuit cited United States v. Hanover Insurance
Co.39 to support their position, yet read only
the words but not the context of the circuit's opinion (despite
subsequently quoting the applicable opinion
section40). The very next paragraph of the
Hanover opinion following the Tenth Circuit quoted sections stated
"[u]nlike the express exception for offsets [referring to
§§2415(f) and 2415(i)], Congress did not include an exception
to §2415(a) for coercive agency actions predicated upon an
otherwise time-barred claim, and we decline the government's invitation
to judicially legislate one."41 Congress
recognized the need for administrative offsets, but placed limits on how
offsets could be used, particularly if time-barred.

In regards to money damages, the Tenth Circuit rejected the Fifth
Circuit's analysis of Bowen as "neither binding nor
persuasive,"42 and briefly distinguished
royalty disputes from Medicaid reimbursement disputes as the former
stemming from the underlying contract, and the latter from the
underlying statute,43 but without a specific
analysis of the underlying statutes.44

In summary, the current state of the Tenth Circuit §2415 law for
pre-1996 federal oil and gas production royalty disputes is all actions
and administrative orders (or requests) falling outside of the six-year
statute of limitations period are prohibited. This is consistent with
the general prohibition against any demands or actions in the current 30
U.S.C. 1724, enacted in 1996.

<h4>D.C. District Court</h4>

The D.C. District Court twice weighed in on the §2415 royalty
issue in published opinions: Fina Oil and Chemical Co. v.
Norton45 in 2002, and Amoco Production
Co. v. Baca46 in 2003. In Fina, the court
applied §2415 to actions filed by the government and not to actions
brought by a private party (Fina),47 siding
with the Tenth Circuit in applying §2415(a) to administrative as
well as judicial actions.48 The limitations
period could be tolled during the administrative audit
period.49

Later, in Amoco Production Co. v.
Baca,50 the same court rejected the Tenth
Circuit position using Samedan Oil Corp. v.
Deer,51 which paralleled the Fifth Circuit
opinion in Phillips. The D.C. Court asked (1) are money damages
different from specific monetary relief,52 (2)
is an agency order an "action for money
damages,53 (3) if §2415 does not apply to
agency orders, do subsequent judicial actions to enforce agency orders
also exempt,54 and (4) if §2415 does
apply to an agency's judicial action to enforce an order, would it also
apply to an agency counterclaim arising out of the same transaction or
occurrence?55

The D.C. Court decided that royalty payments are not compensatory or
money damages, but were required under the lease
terms.56 They also rejected the Ninth and
Eleventh Circuit opinions holding that §2415 barred government
actions to recovery on notes and deficiency
debts.57 Then taking one step further, they
extended the inapplicability of §2415 to administrative actions and
resultant judicial actions,58 leaving open the
possibility of a future holding allowing a §2415 time limitations
bar to judicial actions if there was no
tolling.59

The result was that the D.C. Court supported and elaborated the Fifth
Circuit's Phillips, stating:

<ol>
<li>§2415(a) does not apply to administrative actions.

</li><li>§2415(a) does not apply to government-filed judicial actions to
recover past royalty payments flowing from timely-filed administrative
actions.

</li><li>§2415(a) does not apply to government counterclaims filed in
response to lessee actions seeking to overturn administrative orders and
rulings.

</li><li>§2415(a) tolls the statute of limitations during the
administrative appeals process until a year after final administrative
decision.

</li><li>§2415(i) limits governmental recovery on time-barred claims to
the filing of counterclaims, precluding coercive agency action such as
was found in Hanover.

</li><li>FOGRMA, through its amendments, precludes application of §2415
to royalty claims for production past its Sept. 1, 1996, effective date.
300 F.Supp. at 17.
</li></ol>

Although still a judicial morass, the following questions can be used
as guideposts in developing an appropriate, fact-specific strategy:

<ol>
<li>Did the demand arise from production before or after Sept. 1, 1996?

</li><li>Is the demand from production from federal or Indian lands?

</li><li>Is the controlling jurisdiction one that is more likely to follow
the Tenth Circuit, or the Fifth Circuit/District of Columbia?

</li><li>Is the demand flowing from an administrative proceeding, a
counter-claim, administrative offset or a stand-alone judicial action?
</li></ol>

Clearly, such a complex issue involving a split of the circuits is
difficult to present in a limited format. Readers desiring a more
comprehensive analysis are invited to contact the author for the full
text analysis of the original paper.

<hr>

<h3>Footnotes</h3>

1 S.256, 109th Cong. §1233 (2005).

2 In re B&P Enter. Inc., 67 B.R.
179, FN[4], citing Weintraub, B. and Resnick, A., Bankruptcy
Law Manual, ¶6.04, 6-7.

3 First Carolina Fin. Corp. v. Tr. of
Estate of Caron (In re Caron), 50 B.R. 27, 30 (N.D. Ga. 1984).

4 Id.

5 In re Tomczak, 2000 WL 33728176, 2
(E.D. Pa. 2000).

6 See, generally, cases interpreting
28 U.S.C. §106, which deals with the waiver of sovereign immunity
by the governmental filing of a proof of claim.

7 1995 WL 431307, 7 (D. D.C. 1995).

8 30 U.S.C.S. §1724(1)(A), (B) (1995
Supp.).

9 United States v. Hanover Ins. Co.,
82 F.3d 1052, 1055 (Fed. Cir. 1996); Samedan Oil Corp. v. Deer,
1995 WL 431307, 9 (D. D.C. 1995).

10 30 U.S.C.S. §1701 (Short title)
(Supp. 1995) for the version prior to 1996 (Federal Oil and Gas Royalty
Management Act of 1982). The later version containing the revised
§1724 statute of limitations is known as the "Federal Oil and Gas
Royalty Simplification and Fairness Act of 1996." General practice in
the court opinions appears to be use of the more commonly known FOGRMA
regardless of the statute version being discussed.

11 30 U.S.C.S. §1724 (Supp. 1995) also
contains other provisions not presented here.

12 OXY USA Inc. v. Babbitt, 268 F.3d
1001, 1009 (10th Cir. 2001). See, also, 30 U.S.C.S. §1701
(Supp. 1995), History; Ancillary Laws and Directives: Applicability of
Act Aug. 13, 1996: "[T]his Act...shall apply with respect to the
production of oil and gas after the first day of the month following the
date of the enactment of this Act."

13 20 U.S.C.S. §1724(b)(1) (Supp.
1995).

14 30 U.S.C.S. §1701 (Supp. 1995),
History; Ancillary Laws and Directives, Other provisions: Indian lands;
applicability of Aug. 13, 1996, amendments.

15 Bown v. Massachusetts, 487 U.S.
879 (1988).

16 Phillips v. Babbitt, 1994 WL
484506 (5th Cir. 1994).

17 Id. at 1.

18 Id.

19 Id., citing 487 U.S. at 893.

20 Id., citing 487 U.S. at 897.

21 Id.

22 Phillips Petroleum Co. v. Lujan,

951 F.2d 257 (10th Cir. 1991).

23 Phillips Petroleum Co. v. Lujan,
963 F.2d 1380 (10th Cir. 1992).

24 Phillips Petroleum Co. v. Lujan,
4 F.3d 858 (10th Cir. 1993).

25 951 F.2d at 259.

26 963 F.2d at 1380.

27 963 F.2d at 1382. FOGRMA embodies a
number of requirements including responsibilities for the secretary in
auditing and reconciling, lessee records and reports retention, and
actions for the collection of royalties.

28 Id. at 1383-84. The district
court also held that FOGRMA (30 U.S.C. §1713(b)) did not require
specific leases to be stated in the demand letter in order to extend the
document retention period, and the Paperwork Reduction Act was not
violated as it specifically exempts MMS (government) royalty audit and
investigation activities.

29 Id. at 1386.

30 4 F.3d 858.

31 Id. at 860.

32 Id. at 859-60.

33 Id. at 862-64.

34 OXY USA Inc. v. Babbitt, 230 F.3d
1178, 1182 (10th Cir. 2000). The change was from a basis using the
posted crude price to using Alaskan North Slope crude price.

35 Id. at 1183.

36 Id. at 1187.

37 OXY USA Inc. v. Babbitt, 268 F.3d
1001, 1001 (10th Cir. 2001). FN1 states "the 1991 amendments to
[FOGRMA]...make clear that 28 U.S.C. does not apply to such claims," but
still the Tenth Circuit continued that "additional royalties for oil and
gas produced from federal leases prior to Sept. 1, 1996, continue to
present live controversies governed by our holding here."

38 Id. at 1007, citing Katch v.
Cisneros, 16 F.3d 1204, 1209 (Fed. Cir. 1994), and "sovereign and
jurisdictional questions;" Transohio Sav. Bank v. Director, Office of
Thrift Supervision, 967 F.2d 598, 609 (D.C. Cir. 1992).

39 Id. at 1006.

40 Id., quoting 82 F.3d 1052, 1055.

41 82 F.3d at 1055.

42 268 F.3d at 1008.

43 Id.

44 Id., referring to United
States v. Alvarado, 5 F.3d 1425, 1428 (11th Cir. 1993).

45 Fina Oil and Chem. Co. v. Norton,
209 F.Supp.2d 246 (D. D.C. 2002).

46 Amoco Prod. Co. v. Baca, 300
F.Supp. 2d. 1 (D. D.C. 2003).

47 Id. at 258.

48 Id. at FN12, referring to 268
F.3d 1001.

49 Id., citing Marathon Oil Co. v.
Babbitt, 938 F.Supp. 575, 578-79 (D. Alaska 1996).

50 Amoco Prod. Co. v. Baca, 300
F.Supp. 2d. 1 (D. D.C. 2003).

51 Samedan Oil Corp. v. Deer, 1995
WL 431307 (D. D.C. 1995).

52 Id. at 5.

53 Id. at 6-7.

54 Id. at 6.

55 Id. at 7.

56 Id. at 5.

57 Id. at 6.

58 Id.

59 209 F.Supp.2d at FN[12], referring to
268 F.3d 1001 (10th Cir. 2001) for the proposition that §2415 would
bar administrative claims filed after the six-year statute of
limitations, but an administrative claim timely filed would toll the
statute of limitations during the administrative proceedings period, in
turn, citing 938 F.Supp. 575 at 578-79.

Journal Authors

Michael Louis Catrett

Journal Date

Wednesday, March 1, 2006 - 12:00

Bankruptcy Rule

2006

none