For oil and gas operators, few things are more frustrating than discovering you may have been overpaying royalties to a person or entity in your paydeck. Whether due to clerical errors, incorrect decimal interests, or miscalculated volumes, overpaid royalties are often not returned voluntarily by their recipients. So what's an operator to do?
Fortunately, Texas law provides several options that operators may be able to utilize when seeking to recoup those misspent funds. This post explores an operator's potential rights and remedies when it comes to royalty overpayments in the Lone Star State.
Contractual Recoupment Rights
First, the at the oil and gas lease or division order. Some (but not all) expressly allow operators to recoup overpayments. For example, the Texas statutory form division order form requires payees to refund overpayments. Tex. Nat. Res. Code Ann. § 91.402(d) (“Payee agrees to refund to payor any amounts attributable to an interest or part of an interest that payee does not own.”).
In practice, however, few operators actually pursue this route. Of course, by the time the overpayment is realized, many mineral and royalty owners may have already spent the overpaid funds, creating significant practical hurdles to recovery. Moreover, litigating a recoupment claim can be expensive and time-consuming, not to mention potentially subject to defenses like the voluntary payment rule (discussed below). Also, if the overpayments were made for quite some time, there may be limitations issues. See, e.g., Tex. Civ. Prac. & Rem. Code § 16.004 (4-year limitations period for debt claims).
Given these realities, many operators choose to forego a breach of contract lawsuit in favor of self-help recoupment or asserting an offset claim if the royalty owner files suit (both discussed in more detail later in this article). While a contractual claim remains a theoretical option, the practical and legal challenges often make it an unappealing one for many operators.
No Contract? Consider Suing for “Money Had and Received”
Even without a contractual remedy, operators may still pursue recoupment via an equitable claim for "money had and received." The elements are of this claim are: (1) the defendant holds money; and (2) the money belongs in equity and good conscience to the plaintiff.
However, be aware that money had and received claims may be subject to a two-year limitations period in Texas. Merry Homes, Inc. v. Luc Dao, 359 S.W.3d 881, 884 (Tex. App.—Houston [14th Dist.] 2012, no pet.). However, also note that a few courts have indicated such claims would be subject to a 4-year limitations period. See, e.g., Amoco Prod. Co. v. Smith, 946 S.W.2d 162, 166 (Tex. App.—El Paso 1997, no writ))
The Voluntary Payment Rule Defense
When asserting recoupment claims, be prepared for royalty owners to argue that your overpayments were “voluntary” and thus not recoverable under something called the “voluntary payment rule” (we’ll call it the “VPR”). This equitable defense generally applies to payments made with full knowledge of all relevant facts and without fraud, deception, duress or coercion. BMG Direct Mktg., Inc. v. Peake, 178 S.W.3d 763, 768 (Tex. 2005). The policy is to provide finality to payments.
A significant issue in VPR disputes is whether the payment was made on the basis of a “mistake of law” or a “mistake of fact.” If on the basis of a mistake of fact, then recovery will not be barred by VPR. But if payment was based on a mistake of law, then recoupment may be barred by VPR. A mistake of law generally refers to a mistake regarding the legal consequences of some facts at hand. On the other hand, a mistake of fact generally means overpayments that are due to an unconscious ignorance or forgetfulness of a fact, such as one due to mathematical or clerical errors, ignorance of the true amount of production, or other negligent errors.
Some case examples of “mistakes of fact” allowing recoupment notwithstanding the VPR are as follows:
- Overpayments due to clerical errors and incorrect royalty calculations (Atlantic Refining Co. v. Tidwell, 318 S.W.2d 905 (Tex. Civ. App.—Houston 1958, writ ref’d n.r.e.))
- Payments made by an unconscious mistake as to the correct payee (Amoco Prod. Co. v. Smith, 946 S.W.2d 162, 166 (Tex. App.—El Paso 1997, no writ))
- Overpayments spanning multiple years based on a mistake regarding the true volume of production (Hull v. Freedman, 383 S.W.2d 236, 237 (Tex. Civ. App.—Fort Worth 1964, writ ref’d n.r.e.))
This analysis is highly fact-intensive, and Texas courts have analyzed an array of other factors that may weigh on whether an overpayment is based on a “mistake of fact” and whether the VPR applies.
It may be worth noting that, in BMG Direct Mktg., Inc. v. Peake, the Texas Supreme Court indicated that the VPR may have limited scope, stating “this Court has only applied the [VPR] only once in the last forty years, and that holding has itself been modified since.” 175 S.W.3d 763, 771 (Tex. 2005). However, multiple Texas courts have subsequently confirmed that the VPR remains good law in Texas. See,e.g.,XTO Energy, Inc. v. Goodwin, 584 S.W.3d 481, 498 (Tex. App.—Tyler 2017, pet. denied) (noting the VPR has never been abrogated and still has application under Texas law); Samson Expl., LLC v. T.S. Reed Props., 521 S.W.3d 26, 50 (Tex. App.—Beaumont 2015) (denying producer’s counterclaim to recover royalty payments that evidence “conclusively established…were voluntary”), aff'd, 521 S.W.3d 766, 779-80 (Tex. 2017) (“concur[ring] in the court of appeals’ assessment of the record”). Arguably, the VPR still applies so long as there is not a statutory or common law rule that conflicts. While some may argue the VPR has become limited in scope, the VPR has never been abrogated, Texas courts continue to refer to the VPR, and overpaid royalty owners continue to assert this defense. As such, Operators facing an overpayment situation should consider the VPR this and plan accordingly.
Self-Help Recoupment
Many operators will exercise “self-help” recoupment. This involves simply withholding or deducting overpayments from future royalty disbursements until you are repaid in full.
While no Texas case directly authorizes self-help recoupment, several respected oil and gas treatises suggest it should be available. See, e.g., Williams & Meyers, Oil and Gas Law § 657; and 3 Eugene Kuntz, A Treatise on the Law of Oil and Gas § 42.8. Several papers have also been published suggesting the validity of self-help recoupment under the theory that Texas courts exercise broad equitable principles to prevent unjust enrichment. While this theoretically presents risk of claims that self-help recoupment is improper, many operators move forward given that it usually provides a quicker and more cost-effective solution than litigation.
Recoupment Through Counterclaims
When an operator engages in self-help recoupment, there is a risk the royalty owner may sue to recover the withheld funds. If that happens, the operator should consider asserting its recoupment rights defensively through counterclaims.
In fact, even if some or all of the operator’s overpayments would be time-barred by the statute of limitations if the operator were to bring that recoupment claim as an original action, the analysis may be altogether different if the operator asserts its recoupment claim in a timely-filed counterclaim. That is, under Tex. Civ. Prac. & Rem. Code § 16.069, a counterclaim arising out of the same transaction as the plaintiff's claim is revived if filed within 30 days after the defendant's answer is due, even if otherwise time-barred. Thus, if the royalty owner files suit first, an operator can arguably file a recoupment counterclaim notwithstanding limitations issues.
Therefore, depending on the duration the overpayments were made, an operator may need to act quickly to assert recoupment as a counterclaim or the operator may risk limitations issues.
Conclusion
No operator wants to be in the position of trying to claw back overpaid royalties. But if you find yourself there, Texas law offers several potential paths to recoupment. Analyze your contractual agreements, evaluate your facts, and consider your options carefully. With the right approach, operators may have legal and/or practical remedies to recover the overpayment.