How did Texas classify nitrogen and coil-tubing well services between limited sales tax, the 2.42% well-servicing tax, and neither tax?

Plain-English summary

The requester performed many nitrogen and coil-tubing services. The Comptroller said the purpose of each job determined whether it was subject to limited sales tax, the 2.42% well-servicing tax, or neither. A single job was not subject to both taxes, and records establishing its purpose were essential for audit.

The letter supplied codes for the attached service list. Treatment of casing or tubing was taxable under Rule 3.324(d)(1)(F); nitrogen sold and delivered as displacement gas was taxable; casing-repair cementing was taxable under Rule 3.324(d)(5); and nitrogen combined with products such as drilling mud was taxable. Certain drilling, completion, reworking, reconditioning, and casing-seat cementing work fell under the well-servicing tax.

The application list was fact-specific. It classified, among other examples, pressure testing and spot-and-squeeze cementing as subject to neither tax; paraffin removal, sand-bridge cleanout, and some displacement work under limited sales tax; and specified acidizing or cementing activities under the well-servicing tax depending on purpose.

What this means for you

Service names alone were insufficient. Providers needed job-level documentation of what the nitrogen or coil-tubing work was intended to accomplish.

Common questions

Could both taxes apply to one job? No.

What controlled taxability? The job's purpose.

Why was documentation important? The same technique could receive different treatment in different well operations.

What well-servicing rate did the letter state? 2.42%.

Citations and references

• 34 Tex. Admin. Code Rule 3.324(d)(1)(F) — treatment of casing or tubing
• 34 Tex. Admin. Code Rule 3.324(d)(5) — casing-repair cementing

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9104L1098B05

Original ruling text

April 8, 1991

Dear ***:

I am writing to provide a response to the additional information which was
sent with the Taxability Request (TR) through the CITY Audit Office.The
response to that TR has been provided to the auditor, Frank Castro.

As I understand the situation, your company is capable of performing
various types of nitrogen services. The information included in your letter
sent via Frank Castro provides the various types of services which your
company may perform. The previously mentioned TR addresses the services
performed during the audit period. The information in this letter addresses
the other services which your company may perform.

I have researched the taxability for each category of services that you
included. Pumping fluids down hole are performed for a variety of purposes.
The purpose of the job determines taxability. Documentation of the purpose is
essential for audit purposes. This should not pose a hardship for your
business, because other industry requirements produce documentation necessary
to determine the application of the taxes.

The following codes are used on the attached pages to denote the taxability
response for each service. Some services show more than one code. Multiple
responses apply to the services because oil and gas well servicing activities
may be subject to limited sales tax, may be subject to the well servicing tax,
or may not be subject to either tax. However, any given service is not subject
to both taxes on the same job.

CODES:

T= A taxable service, subject to limited sales tax
NT= not subject to limited sales tax nor well servicing tax
W= subject to well servicing (2.42%) tax
N/A= Not applicable to this Inquiry
T1= A taxable service when the primary purpose is the treatment of the casing
or tubing. Rule 3.324(d)(1)(F)
T2= The total charge for the sale and delivery of nitrogen as a displacement
or replacement (transporting) gas is taxable.
T3= Cementing to cause seals at specified points in the well in order to repair
the casing is taxable. Rule 3.324 (d)(5)
T4= The sale and delivery of and the sale and combination of the nitrogen, etc.
with another product such as drilling mud is subject to sales tax.
Wl= This is subject to well servicing (2.42%) tax when performed during and in
connection with the drilling and completion, or reworking or reconditioning, of
the well.
W2= This is subject to well servicing (2.42%) tax when cementing the casing seat.

I trust that this explanation helps you in determining the proper application of
sales tax for the services your company may provide its customers. For your further
information, I am enclosing a copy of the sales tax rules relating to the repair,
remodeling, and restoration of tangible personal property and nonresidential
improvements to real property, as well as the sales tax rule relating to oil and
gas well servicing.

This opinion is based on the facts presented. If there are additional or different
facts, the opinion may change.

You may also write to Tax Administration Division, Comptroller of Public Accounts.

Sincerely,

Tax Administration Division

NHIBIT TUBULARS

There are several methods of getting inhibitors down the tubulars and around the
wellbore.

Nitrogen can be used in several ways to assist in getting the inhibitors down the
tubulars and around the wellbore. Most inhibitors are mixed with distillates or other
compatible fluids as a carrier for the inhibitor that is to be pumped down the tubulars.

T1 METHOD A - Inject nitrogen into the fluid at a rate sufficient enough to flow back
the fluids. After the fluid and nitrogen are pumped into the tubulars, nitrogen can be
used to displace them down to the wellbore. This helps dry the inhibitor to the tubulars.
After the inhibitor is displaced, shut the well in for two hours to allow inhibitors to
plate out around the wellbore and into the matrix. Then flow back the fluids as fast as
safely possible and put the well back on production. The entire job takes about 3 to 4
hours.

T1 METHOD B - Atomized inhibitor treatment requires pumping the fluids and nitrogen
through special tee with beam chokes so that the fluid is broken into a fine mist with
the droplets surrounded and carried by the nitrogen. To start the operation, you should
pump a nitrogen pad, equal to 1/4 the volume of the production tubing. This will push the
production fluid ahead of the atomized inhibitor fluid, exposing the tubing, and around
the wellbore allowing the inhibitors to plate out on the metal. The pad is also a source
of extra energy to help return the treating fluids. Next start pumping the fluid at a rate
of _ to 1 barrel per minute and the nitrogen at between 800 and 1000 scf per minute, After
all treating fluids are pumped, continue the nitrogen at a reduced rate and displace to the
wellbore. Shut the well in for 2 hours and then flow back rapidly.

NITROGEN ACID TREATMENTS

The use of nitrogen in acid, treatment for oilwells greatly increases the aerial coverage,
and supplies a source of energy to return the spent acid and fines to the surface, as well
as providing some fluid loss assistance.

T1 METHOD A - Injecting nitrogen into the treating fluid at a rate sum sufficient to assure
flow back of the solution to the surface. In most cases, 200 scf to 1000 scf per barrel of
fluid should be pumped. The nitrogen bubbles within the fluid help extend the treatment
when the pressure is released, by WI expanding and pushing the acid treatment into the matrix.
It is also helpful to pump a pad of nitrogen (1/4 volume of tubulars) before pumping the fluid.

METHOD B - Injecting nitrogen through an atomizer into the treating fluid, creating a fine
mist of fluid droplets carried by the nitrogen. This permits the acid to be carried into
the wellbore and formation as a gas, since the nitrogen is in the continuous phase.
The results are better coverage, lower pressure and ease any returning spent fluids and
fines to the surface. Most jobs are designed around an expansion factor 1-1 up to 6-1,
depending on bottom hole pressure and the type of treatment desired.

T1 wellbore, a 1-1 expansion would be sufficient. To reach further into the WI formation,
a 4-1 ratio may be needed.

NITROGEN DISPLACEMENTS

Displacing fluids down tubing or casing was one of the early uses for nitrogen in the oil
field. There are two basic methods of displacing:

T METHOD A. Bullhead displacement consists of pumping nitrogen down the tubulars and forcing
the fluids out into the formation. This is accomplished by connecting the nitrogen line to
the tubing side of the wellhead and pumping nitrogen down the tubing, forcing the fluids into
the formation. If the operator pumps at a steady rate and watches his pressure gauge, he will
notice a drop in pressure when the nitrogen goes into the formation. The pressure chops because
the formation can take the gas faster and easier than the fluid.

T METHOD B. Circulating displacement consists of pumping nitrogen down the tubing and forcing
the fluids up the annulus, or going down the casing and forcing the fluids up the tubing.
Caution must be used when displacing all the way around, because when the nitrogen u-turns and
starts up the tubulars, it will be expanding as it gets closer to the surface, and there can be
a lot of pressure behind the fluid as it reaches the surface.

There are several variations of both methods of displacements used in servicing wells where the
fluids in the tubulars need to be removed, pushed into the formation or at least the level of
the fluid in the tubing lowered or raised.

FOAMED ACID TREATMENT

The foamed acid treatment places the acid in a continuous phase while the nitrogen is in the
discontinuous phase. The foam offers several advantages. One can divert to different zones by
varying the viscosity of the foam. Also, recovery of the spent acid is enhanced by the nitrogen
being encapsulated in the acid and surfactant solution. When the pressure is released the
nitrogen expands and pushes the fluids to the surface. Another advantage is less fluid loss
and less chance of a gas leak off. Foam quality can run from 55 to 95%, with 75% quality used
most often in foamed acid treatments. The quality of foam is determined by the % of nitrogen
encapsulated inside the fluid. For example, a 75 quality foam contains 75% nitrogen. There
are several ways of using foam acid to treat wells.

T1, T2 METHOD A. The treating fluids and nitrogen are pumped into a foamer (Tee with beams) so
that the shear action and turbulence will create the foam. The foam is then pumped down the
tubulars and into the formation. After allowing enough time for the foam to react, the spent
fluids are returned to the surface as rapidly as safety allows so that the fines are brought
out of the well with the spent acid.

W1 METHOD B. A nitrified acid pad (about 1/4 of tubular volume) precedes the foam acid. This
will allow for better diverting since the nitrified acid will enter the formation easier than
the foam and the foam will go into other areas.

T1, T2, W1 METHOD C. In some oil wells it may require a spearhead of nitrified solvent like
xylene or toluene to remove the heavy hydrocarbons from the surfaces so that the acid may work.

OTHER NITROGEN AND COIL TUBING APPLICATIONS

T1 JET-LIFT Coil tubing is lowered into the well while nitrogen is pumped through the coil
tubing creating a single point gas lift.

T3, W2 CEMENTING In addition to a patented process called LVO, cementing where the mud is
aerated with nitrogen to lighten the hydrostatic weight in weak zones. There are now methods
to foam the cement and make it lighter.

NT PRESSURE TESTING Surface equipment on drilling and workover rigs can be tested quickly and
safely by using nitrogen. After testing the nitrogen can safely be released into the atmosphere.

NT SPOT AND SQUEEZE CEMENT Cement can be spotted and squeezed into any zone as needed using
nitrogen and a coil tubing unit.

W1 SPOT ACID Acid can be spotted across the perfs using coil tubing and nitrogen, keeping the
acid from contact with production tubing until it is spent and ready to be brought to the surface.

T PARAFFIN REMOVAL AND CONTROL Chemicals or hot oil can be circulated using a coil tubing unit
to remove paraffin. Nitrogen can be used to insulate the annulus to control paraffin build-up.

T4 LOST CIRCULATION Nitrogen can be used to regain lost circulation by being injected into the
drilling mud.

T4 CORE SAMPLES Nitrogen is used in the drilling mud when uncontaminated core samples are required.

T SAND BRIDGES Coil tubing and nitrogen can be used to clean out a sand bridge.

T2 DISPOSAL WELLS Nitrogen and coil tubing can be used to back flush disposal wells.

N/A OTHER INDUSTRIES In addition to the oilfield, there are many nitrogen applications
in other industries.

N/A SHIPPING Purging ships, barges, inerting or blanketing dock storage areas

N/A PETRO-CHEM & REFINING Expedite cooldown of vessels and purging oflines before a
turn-around. Driving and testing process equipment and piping.

N/A UTILITIES Testing and drying underground conduits for electric and telephone lines.
Foam acidizing boilers to remove scale build-up.

N/A AEROSPACE Drying, testing and inerting systems.

N/A STEEL Purging blast furnaces and other process equipment.