As previously discussed in our Client Alert issued on December 18, 2020 (available here), the U.S. Securities and Exchange Commission (the “Commission”) adopted its final rule (the “Final Rule,” available here) requiring “resource extraction issuers” to disclose on Form SD certain payments made to the U.S. federal government or to foreign governments that relate to the commercial development of oil, natural gas or minerals.

Initial Form SD filings are required within 270 calendar days after the end of an issuer’s most recently completed fiscal year (for example, by September 26, 2024, for those with a fiscal year ending on December 31, 2023). Although the Commission’s official release noted September 30, 2024 as the due date for companies with a December 31, 2023 fiscal year end, we advise submitting the Form SD by September 26, 2024, to ensure timely compliance.

By the September 26, 2024 deadline, December 31 fiscal year-end “resource extraction issuers” will be required to file a Form SD and provide the information required by Section 2 of the form (available here). The required disclosure is primarily an exhibit with tabular data (in XBRL format) showing payments related to taxes, royalties, fees (including license fees), production entitlements, bonuses, dividends, infrastructure improvements and community and social responsibility payments for projects and jurisdictions required by law or contract.

The Final Rule defines a “resource extraction issuer” as a company required to file a Form 10-K, 20-F, or 40-F annual report with the Commission and that is involved in the commercial development of oil, natural gas, or minerals. The commercial development of oil, natural gas, or minerals is broadly defined and includes activities such as exploration, extraction, processing, and export of these resources, as well as acquiring licenses for such activities.

As a result of this broad scope, the Final Rule covers nearly all publicly reporting companies in the United States that are engaged in upstream oil and gas activities, as well as some companies engaged in gathering and processing or other midstream activities. The Final Rule applies to companies engaged in processing oil and natural gas, which includes activities such as removing liquid hydrocarbons from natural gas, removing impurities from natural gas prior to transport through a pipeline and the upgrading of bitumen and heavy oil, through the earlier of the point at which oil, gas, or gas liquids (natural or synthetic) are either sold to an unrelated third party or delivered to a main pipeline, a common carrier or a marine terminal. In general, oilfield services companies and companies engaged in downstream activities like refining or smelting should be excluded.

The Final Rule also covers public reporting companies engaged in mining activities. “Minerals” is described broadly to include any material for which an issuer with mining operations would provide disclosure under subpart 1300 of Regulation S-K. The Commission declined to define “minerals” in the Final Rule stating that disclosure would be required with respect to any material commonly understood to be a mineral. For mining companies, processing also includes the crushing or preparing of raw ore prior to the smelting or refining phase.

In an attempt to further clarify which activities are covered by the Final Rule, the Commission explained that the activities must be directly related to the commercial development of oil, natural gas or minerals, and not ancillary or preparatory to such activities. Companies that only provide products or services in support of exploration, extraction, processing or export of such resources are not covered by the rules. For example, companies that only manufacture drill bits or provide hardware to other companies to explore and extract resources, as well as companies engaged by an operator to provide hydraulic fracturing or drilling services to enable the operator to extract resources, will not be covered by these rules. Marketing and security-related activities are also excluded.

With that said, companies with significant and complex supply chains (such as the automotive industry) involved in resource extraction will need to consider the range of their activities and services to determine whether they are engaged in the exploration, extraction, processing, and export of minerals for purposes of the Final Rule. To assist our clients with the initial preparation of Form SD, we have provided the FAQs below of selected topics and questions related to the Final Rule:

1. How should we evaluate the $100,000 threshold?

   There is a monetary threshold for applicable payments such that companies need only include a payment or series of payments that equal or exceed $100,000 during the fiscal year. In the case of any arrangement providing for periodic payments or installments, a resource extraction issuer must use the aggregate amount of the related periodic payments or installments of the related payments in determining whether the payment threshold has been met for that series of payments. The threshold amount should be calculated in U.S. dollars or its equivalent in the issuer’s reporting currency. The threshold amount also includes “in-kind” payments (as discussed further below) and should be calculated on a cash basis instead of an accrual basis.

2. What kinds of payments get captured?

   The following payment types should be disclosed on Form SD if made to the U.S. federal government or to foreign governments:

   • Taxes: The Final Rule provides that taxes on corporate profits, corporate income and production are required to be disclosed when the taxes are made to further the commercial development of oil, natural gas or minerals. Taxes levied on consumption, such as value-added taxes, personal income taxes or sales taxes are not required to be disclosed. Since only payments to the U.S. federal government or foreign governments are required to be disclosed, payments of U.S. state and local income taxes, production taxes, property taxes and severance taxes are not required to be disclosed.
   • Royalties: Royalties include, but are not limited to, unit-based, value-based, and profit-based royalties.
   • Fees: Fees include, but are not limited to, license fees, rental fees, entry fees, and other considerations for licenses or concessions.
   • Production Entitlements: Production entitlements refer to the portion of production that a government is entitled to receive under a resource extraction agreement. This could be in the form of a percentage of oil, natural gas, or minerals produced, rather than a direct financial payment to a government.
   • Bonuses: Bonuses include, but are not limited to, signature, discovery, and production bonuses.
   • Dividends: Dividends paid to a government as a common or ordinary shareholder of the resource extraction issuer that are paid to the government under the same terms as other shareholders need not be disclosed. The resource extraction issuer, however, must disclose any dividends paid in lieu of production entitlements or royalties.
   • Infrastructure Improvements: Examples cited in the Final Rule include payments for building a road or railway to further the development of oil, natural gas or minerals. Note that because in-kind payments are also required to be disclosed, disclosure of infrastructure improvement payments could include payments made to develop federal land, even if not directly paid to a federal agency.
   • Community and Social Responsibility Payments for Projects and Jurisdictions Required by Law or Contract: Examples cited in the Final Rule include funds to build or operate a training facility for oil and gas workers, funds to build housing, payments for tuition or other educational purposes and in general payments to support the social or economic well-being of communities within the country where the expenditures are made.
   • In-Kind Payments: If an in-kind payment of a type of payment required to be disclosed is made, the in-kind payment is required to be disclosed and is included in the threshold calculation. The Final Rule cites as examples production entitlement payments and infrastructure payments. When reporting an in-kind payment, a resource extraction issuer must determine the monetary value of the in-kind payment and tag the information as “in-kind” for purposes of the currency. For purposes of the disclosure, a resource extraction issuer must report the payment at cost, or if cost is not determinable, at fair market value and must provide a brief description of how the monetary value was calculated. If a resource extraction issuer makes an in-kind production entitlement payment under the rules and then repurchases the resources associated with the production entitlement within the same fiscal year, the resource extraction issuer must report the payment using the purchase price (rather than at cost, or if cost is not determinable, at fair market value).
3. What are common kinds of U.S. domestic payments that should be disclosed on Form SD?

   U.S. federal (but not state or local) tax payments on profits, income and production must be disclosed; however, U.S. subnational payments are not required to be disclosed. Payments made to the Internal Revenue Service for revenue taxes should also be included. Additionally, payments made to the U.S Department of the Interior, including payments to the Bureau of Land Management, should be included.

4. How should U.S. federal income taxes be disclosed on Form SD?

   The Final Rules provide that, if a government levies a tax payment obligation at the entity level rather than on a particular project, a resource extraction issuer may disclose that payment at the entity level.
   
   Since U.S. federal income taxes are imposed at the entity level, and not the project level, a corporation that has multiple different types of activities or projects would simply report the total amount of U.S. federal income taxes paid by such corporation. This also should be the case where the corporation owns interests in activities and projects through entities that are disregarded or treated as partnerships for tax purposes, given that no U.S. federal income taxes are imposed on any such disregarded entity or partnership but, instead, all such income taxes are imposed on the owners, partners or members of such entity based on their allocable shares of such entity’s earnings.
   
   Unfortunately, the Final Rules do not provide guidance on the fairly common situation where a reporting corporation owns operations related to the commercial development of oil, natural gas or minerals through one or more corporations that join in filing of a consolidated return with the reporting corporation.

   • One approach (which has been adopted by certain of the early filers of Form SD) would be to simply disclose the total amount of U.S. federal income tax paid by the entire consolidated group and include a footnote to the disclosure indicating that the payments relate not to particular projects or entities, but to the consolidated taxable income of the reporting company. The support for this approach is that, in cases where a group of corporations elects to file consolidated U.S. federal income tax returns, the tax payment obligation for the group is determined on a consolidated group basis, not at an individual entity level.Certain guidance on the Extractive Industries Transparency Initiative (EITI) (see Expectation 3 of Guidance on the Expectations for EITI supporting companies | EITI) would appear to provide further support for this approach, given that the definition of reportable “payment” in Section 13(q) of the Exchange Act explicitly refers to the EITI. However, based on recent conversations with the SEC Staff, it is not clear that this approach will be accepted.
5. Are payments of employer payroll tax obligations required to be disclosed?

   No. Employer payroll tax obligations are not taxes on, or similar to taxes on, corporate profits, corporate income or production (which are required to be disclosed). Rather, employer payroll taxes would seem to be more analogous to taxes based on consumption, which explicitly are not required to be disclosed.

6. How should a resource extraction issuer disclose payments made by a subsidiary or a joint venture?
   
   Resource extraction issuers are required to report payments made by the issuer itself, its subsidiaries, or any entities under its control. Generally, “control” refers to cases where the issuer consolidates an entity under the accounting principles used in its SEC-filed financial statements under the Securities Exchange Act of 1934, as amended. If a resource extraction issuer holds only a proportional interest in an entity without exercising control, it is not required to report its share of payments made by that entity.
   
   In a joint venture, the partner that controls the entity and also files an annual report with the SEC is typically responsible for the Form SD disclosure. If no party has control, non-operator members of the joint venture usually do not need to disclose their reimbursement payments to the operator, who makes payments to governments on behalf of the entire venture. Non-operator partners in a joint venture are only required to report payments they, as resource extraction issuers, directly make to governments.
7. Are there any exemptions?

• An alternative approach would be to (i) determine and disclose the portion of the U.S. federal income tax paid by the consolidated group which is attributable to each corporation included in the consolidated group which is engaged in the commercial development of oil, natural gas or minerals and (ii) include a footnote to the disclosure explaining that such approach was taken.This should be fairly easy to determine since U.S. federal consolidated income tax returns typically include schedules reflecting the separately determined taxable income of each corporation included in the consolidated group, and U.S. federal income tax regulations include rules for calculating the portion of consolidated group tax liability that is allocable to each corporation included in the consolidated group.

There are exemptions for smaller reporting companies and emerging growth companies generally, unless such companies are already subject to an alternative reporting regime. There are also exemptions for issuers that are unable to comply with the Final Rule without violating (i) the laws of the jurisdiction where the project is located or (ii) the terms of a contract that was entered into before the Final Rule became effective.

As resource extraction issuers assess their Form SD disclosure obligations, various interpretative questions have surfaced. The Final Rule states that issuers may contact Commission staff with questions regarding the reporting of tax payments, or any other payments, on Form SD. Baker Botts attorneys are available to assist in that process or with any questions related to compliance with this new rule based on our extensive experience helping clients in the oil, gas, and mining sectors navigate similar issues.