Nearly a decade ago, North Dakota and Colorado, poised for explosive growth in the drilling of energy resources, faced a decision: What to do with what appeared to be a never-ending geyser of new oil and gas riches?

Voters in Colorado opted for the status quo in 2008, rejecting competing efforts to use tax revenue from oil and gas production to pay for what backers called vital needs. They voted down one proposal to eliminate favorable energy industry tax deductions to pay for higher education scholarships and wildlife restoration and another plan to use existing revenues to build new highways.

Two years after the plans in Colorado collapsed at the polls, voters in North Dakota took the opposite approach and embraced radical change. They passed an initiative to set aside for future generations some of the tax revenue produced from the extraction of oil and gas. The Legacy Fund that North Dakota voters created in 2010 now has socked away more than $4 billion. This year, lawmakers in North Dakota will start debating how to spend the $300 million in interest earnings the fund is projected to generate annually.

In contrast, lawmakers in Colorado, on the heels of a recent court case that expanded even further energy industry tax exemptions, are scrambling again to tap diminished severance tax revenues collected from mining and energy exploration. Once again, the tax stash is getting carved up to pay for budgetary emergencies and parochial interests.

“We’ve frittered away every penny we’ve ever collected in severance taxes,” said former Sen. Pat Steadman, a Democrat in Denver who until early this year sat on the influential Joint Budget Committee, which sets budget priorities for Colorado. “There just isn’t a grand plan to do what some of the other states have done.”

While North Dakota and Colorado’s neighboring states have built multibillion-dollar trusts off energy taxes, the amount of money Colorado will have left in cash in its so-called permanent severance tax trust fund is projected to plunge to as low as $10 million by June even though Colorado has collected nearly $1.7 billion in the taxes over the past decade, an average of about $171 million annually.

Among nine Western states, Colorado’s effective severance tax rate, which includes deductions, ranked second to lowest at 1.7 percent, according to the nonpartisan Colorado Legislative Council. Only Utah had a lower rate. When other state and local taxes are added, Colorado’s total effective tax rate on energy producers and miners ranks fourth to lowest at 5.2 percent, compared with an average of 6.2 percent.

Funds stretched

Colorado governors and lawmakers repeatedly have raided severance tax collections to patch budget holes and pay for pet projects over the years. They also have left intact a system that in a typical year doles out tens of millions of dollars to counties and municipalities, fueling a massive public works spending spree. Critics say the disjointed spending leaves vital state functions and critical needs underfunded. And they fear that once the drillers in Colorado have finished extracting the finite oil, gas and minerals from the ground, the state will have nothing left over to help mitigate all the impacts from the drilling.

“There are a lot of legitimate, important functions that could use more revenue, but what bothered me about how we spent severance taxes is that we spent it like rain all over the place,” said former Republican Sen. Josh Penry, who represented Fruita as minority leader when he was in the legislature. “We just spread the loot around.”

About $360 million in the taxes have been diverted to shore up an unstable general fund since 2008. Gov. John Hickenlooper has asked the legislature for another $77.4 million this year to repay the fund for costs related to a lawsuit won by BP Production American Co., which expanded industry tax deductions. That court ruling allows oil and gas producers to amend their tax returns for the past four years to deduct capital costs for transportation, manufacturing and processing costs and continue claiming those deductions into the future.

During the past eight years, the state has sent $615 million in severance tax to municipalities and counties, 60 percent of which came in the form of special grants for new parks, recreational centers and other regional wishes, even going so far as to pay the salary of an administrative intern in the town of Nederland. Local projects the state has funded with the tax in the last five years include $300,000 to help renovate an opera house in Leadville, $2 million for a new sport shooting complex in Palisade, $332,000 to build a clubhouse at a shooting complex in Gypsum, $1.9 million to build a new recreation center in Montrose and stipends to allow municipal workers across the state to watch a conference headlined by a futurist.

Lawmakers and governors over the years have tapped the tax for special appropriations. Then-Gov. Bill Owens, in his last year of office in 2006, used it to provide an energy assistance program to low-income residents, an ongoing program that spent $11.8 million in severance tax funds last year. In 2007, then-Gov. Bill Ritter used the tax to give southeastern Colorado counties $650,000 for blizzard relief. Gov. John Hickenlooper reformed the Governor’s Energy Office in 2012 and that office has taken $1.5 million each year since in the tax revenue for operations.

Severance taxes covered a $35 million payment to settle a water dispute with Kansas in 2005. A little more than $28 million have helped finance operating expenses at the Colorado Department of Local Affairs since 2008.

Since 1995, the tax also has been used to fund the day-to-day operations of four agencies under the Department of Natural Resources, which last year amounted to almost $18 million.

Lawmakers also have approved more than 30 bills over the years that siphoned off severance tax revenues for additional needs including wildfire mitigation, studies to increase dam water holdings and efforts to combat pine bark beetle forest devastation. Those special appropriations added up to about $38 million last year.

Tax deductions cost state

In the midst of all the spending, lawmakers have left untouched tax deductions that the energy industry in Colorado enjoys far in excess of those offered by neighboring states. Those deductions cost Colorado an average of more than $270 million annually, according to a Colorado Legislative Council study this month.

Colorado and Wyoming energy companies took nearly identical amounts of oil and gas out of the ground two years ago, with Colorado firms extracting an amount worth $15.6 billion to the $15.1 billion extracted from Wyoming, that study found. Yet the firms in Colorado paid $811 million in state and local taxes, nearly half the $1.5 billion their peers in Wyoming paid, even though Wyoming does not have a corporate income tax. A big reason for the difference is the generous severance tax deductions allowed in Colorado, where drillers can exempt from taxation lower-producing wells and can claim tax credits for virtually all of their prior year’s local property tax.

Now, the cupboard in Colorado is nearly bare.

To pay off about $110 million in projected tax refunds to energy companies, caused in part by the BP court case, the state departments of local affairs and natural resources are slashing programs that usually rely on severance tax revenue, according to recent budget documents. Impacts range from water conservation plans to an effort to keep invasive species, such as the zebra mussel, from destroying lakes. New fees on boaters may have to be imposed so the lakes remain protected, state officials say.

“We prioritize funding out of the operational account, and higher priority needs are still getting met, but there are some pretty important needs that won’t get met,” said Bill Levine, budget director for the state’s natural resources department.

State loans financed by the tax to boost water production also are getting cut amidst warnings that the state needs to dramatically boost water supplies to keep up with a surging population. One state study shows Colorado needs to finance as much as $20 billion in water projects over the next 30 years to accommodate its growth but only has the capacity to finance about 15 percent of those projects.

Much less will be distributed this year in the way of local impact grants to communities to repair police stations, courthouses and other needs.

It’s not so chaotic elsewhere.

Wyoming’s $7.1 billion severance tax fund produces enough interest earnings annually to pay almost a third of the state’s budget. New Mexico has a $4.5 billion tax trust fund — enough to generate interest earnings every year of $200 million.

Internationally, Norway sets the standard, with its 5 million residents having the world’s largest energy trust, worth $650 billion, more than that of any Middle Eastern oil state.

Lawmakers in mood to act

The contrast between those governments’ approach and Colorado’s has lawmakers and industry experts lamenting what they view as a missed opportunity. Lawmakers say they likely will tackle oil and gas tax issues this year, but just what they plan to do still is up in the air.

“I think we need to have a conversation this year about severance taxes,” said State Rep. Bob Rankin, R-Carbondale, a member of the Joint Budget Committee. “As far as I’m concerned, the options are open.”

Rankin last year unsuccessfully pushed legislation to require the state to save some of the taxes in high-energy production years that could be used in the years when production declines.

Efforts at significant reforms have foundered in the past, including the local grant program administered by the Colorado Department of Local Affairs, which spreads the money to municipalities and counties. In 2007, a state audit of that grant program found the state had failed “to use these grant funds to address the social and economic impacts of energy and mineral resource development in a cohesive manner.”

The audit report continued: “The statutes clearly indicate that grant funds are to be prioritized toward areas of the state that are socially and economically impacted by energy and mineral resource development. However, the statutes do not formally define what ‘socially or economically impacted’ means. The Department also has not defined this term.”

A year after the audit, the grant program was expanded further. Discretion on which counties and cities get the grants is left up to the director of local affairs, with input from a state board that analyzes requests for money and ranks them on a scoring criteria. Last year, a bill that failed at the legislature would have restricted the grant program and required more of the money to go directly to energy-impacted areas in a direct distribution, based in part on a formula that accounts for the number of energy workers living in an area.

Former Gov. Ritter defends the grants and says eliminating them would be foolhardy.

“I’ve been in some really poor communities that could point to projects from that revenue stream,” Ritter said. “They had no way to do infrastructure without it. It gives a good bang for the buck.”

State Rep. Mike Foote, D-Lafayette, said he would like to rein in oil and gas tax deductions — an effort that Ritter unsuccessfully waged in 2008. “In terms of the tax structure here in Colorado for the oil and gas industry, they’ve got a pretty sweet deal,” Foote said.

But increasing industry taxes would require a ballot initiative. And other lawmakers are adamantly opposed. Sen. Ray Scott, R-Grand Junction, the assistant majority leader, said increasing the effective tax rate in Colorado isn’t the way to go, and that he’d rather reverse the rejection by federal regulators of a natural gas terminal in Oregon, through which Scott said Colorado could export surplus energy via an existing pipeline. If that terminal were allowed, Colorado’s gas drillers would have access to an eager worldwide market, sending the taxes to all-time highs, Scott predicted.

Even without raising the tax in Colorado to a more typical rate, the state eventually will see oil and gas revenues increase again when prices rise, Penry said. Instead of letting all that excess revenue go to existing programs when commodity prices rise again, he said, state officials should set aside some for a trust that could be used for future needs.

“You’re using that growth then for something positive down the road,” Penry said. “The idea is to create something permanent and lasting, and a lot of states have had this foresight. Unfortunately, Colorado has given a subpar effort at that when it comes to oil and gas revenues.”

State Rep. Dave Young, D-Greeley, who sits on the Joint Budget Committee, said he’s also intrigued about creating a trust that would produce interest earnings.

“That takes a lot of discipline to do,” Young said. “It’s not undoable, but for it to happen there has to be a moment and time that everyone agrees that that’s the direction as a state we’re going to go. And I do mean everybody.”