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Division Orders: The 411

Posted 6:45 AM, November, 3rd 2015 by Manning Wolfe & filed under Blog, Legal

Definition:

Division Order is defined as an agreement signed by the payee directing the distribution of proceeds from the sale of production, and directs and authorizes the payor to make payment for the products taken, in accordance with the information listed.

Law:

There has been much controversy and litigation in Texas about division orders and their effect. As a result, in 1991 the Legislature passed a statute governing the use of division orders. The statute was amended in 1995, 1997 and 1999. Now, the law applicable to division orders in Texas is the court-made law plus the Division Order Statute. It uses the definition quoted above. The terms “Payor,” “Payee,” and “Transfer Order” are also defined terms. (Tex. Nat. Res. Code Ann. § 91.401)

Purpose and Use:

One purpose of a division order is to show a schedule of how the mineral revenues are divided up between an oil and/or gas company and the owner(s) of the mineral rights. It is executed by the lessor and either the lessee or a third party payor (i.e. pipeline, gatherer or operator), which sets out the basis on which the royalties will be paid and accepted by the lessor. From the language of the division order, a payor can calculate the exact dollar amount to be paid to the lessor, nonparticipating royalty interest owner, or overriding royalty interest owner; as well as to the various working interest owners. The division order also lists the deductions for costs associated with the transportation and marketing of the hydrocarbons, as well as applicable taxes.

Another purpose of a division order is to protect the payor of the proceeds of production from double liability. The company issuing the division order is requiring the royalty owner to (1) verify that the royalty owner’s decimal interest set out on the division order is correct and (2) agree that the company can make payments based on that decimal interest until notified by the royalty owner that the ownership has been changed. By the division order, the royalty owner indemnifies the payor against liability to third parties who claim to own the interest being paid to the royalty owner.

Title Opinion:

The divisions of interest contained in the division order are generally the product of a title opinion prepared by an attorney, having examined the documents researched by a landman, making up the chain of title to the property from which the production is being obtained. The title opinion is sent to the payor who relies upon the ownership interests set forth in the title opinion to prepare the division orders. This particular title opinion is called a Division Order Title Opinion as opposed to a drilling opinion.

Background:

After the oil and gas lease, the division order is the most common legal instrument mineral owners execute. In Texas, courts have held that division orders are executed without the usual consideration, but that they are an enforceable agreement until they are revoked. A division order can be revoked at any time by either party, after which it has no further effect.

The Texas statute provides that “Any provision of a division order … which is in contradiction with any provision of an oil and gas lease is invalid to the extent of the contradiction.” But it also provides that “A division order may be used to clarify royalty entitlement terms in the oil and gas lease.”

The division order statute also states that, if a company uses a division order that meets the requirements of the statute, it can refuse to pay the royalty owner until the royalty owner has signed the division order. The statute also adopted an “approved form” of division order – but only for oil royalties. If the payor uses the statutory division order form, it can be sure that it has no liability for failing to pay royalties if the royalty owner refuses to sign it.

The statute also makes clear that a payor of royalties has no obligation to pay if there is a title question about ownership of the royalty. It further provides for payment deadlines and interest on late payments.

Delay Rentals Division Order:

In addition to a royalty division order, a division order executed by the lessor for the payment of delay rentals is also common. A rental division order is an agreement in which the lessor confirms to the lessee the proper allocation of the payment of delay rentals required during the primary term in order to keep the oil and gas lease from terminating. A rental division order is generally signed by the lessor at the time of the execution of the lease.

Indemnity Division Order:

Another type of division order is an “indemnity” division order. The lessee indemnifies the purchaser of production for wrongful payment. The lessee is paid the full value of the proceeds of production and becomes responsible for the payment of the royalties. However, if the lessee receives the entire income stream under an indemnity division order from the gatherer/pipeline and does not pay the royalty owners, the lessee may find itself criminally liable for such nonpayment, Coleman v. State, 131 S.W.3d 303 (Tex. App. – Corpus Christi, [13th Dist.] 2004).

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