(a) The following words and terms, when used in this section, shall have the following meanings, unless the context clearly indicates otherwise.
  (1) Arm's-length transaction--A transaction between parties free of fraud or intent to evade the tax under this section.
  (2) Non-recoupable payment--A payment made by a purchaser to a producer which is not refundable and will not be applied toward the purchase price of gas taken in the future.
  (3) Recoupable payment--A payment made by a purchaser to a producer and is to be applied toward the price of gas to be produced and delivered to the purchaser during future periods.
  (4) Related party--Any party with common ownership and exercising control over, or under the control of, the other party, or owned by another party which has common ownership and control over both contracting parties.
(b) The producer's gross cash receipts subject to severance tax shall include:
  (1) payments made to the producer by the first purchaser of gas which relate to the price of gas produced and taken pursuant to the terms of a contract for the sale of gas, including a contract found not to be an arm's-length contract by subsection (c)(3) of this section; and
  (2) all monies that are received as compensation by the producer in connection with any judgment, compromise, or settlement agreement relating to the recovery of the contract price of gas produced, as provided by subsection (d) of this section.
(c) The producer's gross cash receipts subject to severance tax shall not include:
  (1) payments made to the producer by a purchaser under a contract for the sale or purchase of gas to be produced, if the gas is never produced and delivered to the purchaser pursuant to that contract;
  (2) reimbursement for litigation-related expenses, such as documented attorney's fees or court costs; or reasonable interest agreed upon by the parties, or in the absence of an agreement between the parties an amount to be determined by or from the records of the producer; or court-ordered interest received by the producer in connection with any judgment, compromise, or settlement agreement arising out of a dispute involving a contract for the sale of gas;
  (3) a payment made to a producer by a gas purchaser to terminate a gas purchase contract. However, a replacement contract entered into within 90 days by the producer and same purchaser, or a party related to that purchaser, covering sales from the same leases or unit subject to the terminated contract may be examined to determine if the replacement contract is an arm's-length transaction between the parties. The burden in establishing that a replacement contract is not an arm's-length contract is on the comptroller. A below market price paid for the gas in a replacement contract will be evidence that the contract was not arm's length; and
  (4) a payment made to a producer by a gas purchaser to amend any provision in the gas purchase contract, except for a provision affecting the price to be paid by the purchaser.
(d) This subsection is solely for the purpose of allocating a settlement among several claims.
  (1) Any judgment, compromise, or settlement amount received shall be prorated based upon the documented amounts due under the contract for each issue according to the records of the producer when the value received by a producer from a purchaser in settlement of a dispute concerning pricing and any other issue associated with the gas sales/purchase contract is less than the full amount sought by the producer. Any amount allocated as a payment defined in subsection (c)(1) of this section is not taxable. The value subject to tax is the product obtained by multiplying the settlement amount, minus litigation-related expenses and interest, by a fraction, the numerator of which is the documented value assigned to pricing and the denominator of which is the total documented amount sought by the producer. For example, a settlement of $110,000 (minus litigation-related expenses and interest of $10,000) for a pricing dispute of $25,000, and an amount of $225,000 for failure to pay for gas not taken, would result in a taxable settlement value of $10,000 (100,000 x 25,000/250,000).
  (2) Records of the producer shall include, but are not limited to:
    (A) the contracts and the settlement agreements;
    (B) accounting entries, including entries reflecting receivables and payables;
    (C) court pleadings; and
    (D) worksheets, including calculations reflecting settlement amounts.
  (3) Whenever it is necessary to determine taxable value under this subsection, the greatest weight shall be given to the records in the order that they are listed in paragraph (2) of this subsection.
(e) When gas is sold for consideration other than cash or products extracted from the gas, the taxable value shall be determined as follows.
  (1) When gas is sold for cash and any consideration other than products or residue or both, the tax shall be computed on the producer's gross cash receipts for the gas sold and, with regard to the non-cash consideration, on the gross value of all items received.
  (2) When gas is sold for any consideration other than cash, products, or residue, or a combination thereof, the tax shall be computed on the gross value of all items received for the gas sold.
  (3) For purposes of this subsection, the reasonable market value shall be assigned to the non-cash consideration.
(f) Tax is due according to the following.
  (1) Tax is due on payments, including recoupable payments as defined in this section and/or payments found not to be arm's-length buyouts under subsection (c)(3) of this section, made to the producer by the first purchaser of gas when the gas is produced and delivered to the purchaser.
  (2) If a producer receives a non-recoupable payment as consideration for amending any provision in the contract affecting the price of the gas, then the tax shall be due based upon the value the producer would have received under the pricing provisions of the contract before they were amended until:
    (A) the difference between the value the producer would have received before the contract price was amended and the value the producer received after the contract price was amended equals the non-recoupable payment; or
    (B) until production from the property ceases; or
    (C) until the properties are sold or until the contract is terminated in an arm's-length transaction.
  (3) This subsection is solely for the purpose of determining when tax is due.

Source Note: The provisions of this §3.20 adopted to be effective August 5, 1993, 18 TexReg 4879.