An oil and gas lease is a contract in which you, the mineral owner, grant a company the right to explore for and produce oil and gas from your mineral rights for a set period. In return you receive a bonus when you sign and a royalty share of production if a well is drilled. You still own the mineral rights: the lease is a temporary grant, not a sale.
What an oil and gas lease is and who the parties are
The Kansas Geological Survey describes an oil and gas lease as a legal instrument by which the mineral rights owner, the lessor, grants an oil company, the lessee, the right to explore for and develop the oil and gas under the area described in the lease. Mississippi State University Extension notes that the offer is based on the mineral acres you own, not surface acres. Most leases arrive on a printed form, often a Producers 88, and every term on it can be changed before you sign.
The main terms of an oil and gas lease in plain words
Bonus
The bonus is a one-time payment for leasing your mineral rights, set per mineral acre and paid whether or not a well is ever drilled (Mississippi State). Ohio State University Extension warns that companies often pay by bank draft, which is conditional and slow to clear, so ask for a check or get the draft's conditions in writing.
Royalty fraction
The royalty is your fraction of production, paid without regard to the company's drilling costs. The Kansas Geological Survey calls 1/8 the usual rate on older leases. Today the range is wider: Pennsylvania law sets a 12.5% minimum (Penn State Extension), Ohio State reports modern wells paying 12.5% to 20%, and the Texas A&M Real Estate Research Center says the Texas standard approximates 20 to 25 percent and is negotiable. A higher fraction on the same mineral rights pays more for as long as the well produces; our guide to oil and gas royalties shows how that fraction becomes a monthly check.
Primary term and secondary term
The primary term is the time the company has to drill: Mississippi State calls 3 to 5 years typical, and Penn State says most leases run three, five or ten years. If no well is producing when it ends, the oil and gas lease expires and the mineral rights are yours to lease again. If a well produces in paying quantities, the lease enters the secondary term and lasts as long as production continues.
Held by production
A lease held by production, or HBP, stays in force past the primary term because a well is producing. Texas A&M warns that, without limiting clauses, any production on the leased premises perpetuates the lease on all of it, so one well can hold nonproducing acreage and every depth. The royalty keeps coming, but the mineral rights cannot be leased to anyone else.
Shut-in royalty
A shut-in royalty keeps the lease on your mineral rights alive when a well can produce but is not producing. Mississippi State describes it as a set amount per acre paid annually. Ohio State recommends spelling out how many days of shut-in trigger the payment and how long such payments can hold the lease, because an open-ended clause ties up your mineral rights with no income.
Pooling and unitization
Pooling combines your tract with neighbors' land into a drilling unit, and your royalty becomes a share based on your acres in the unit. Ohio State cautions against granting unrestricted pooling, so negotiate the unit size and how much of your mineral rights can go into any unit. If you never sign a lease, pooling and unitization explains what a state can still order.
Pugh clause and depth clause
A Pugh clause releases the mineral rights outside a pooled unit when the primary term ends, so one well cannot hold acreage it does not drain. A depth clause releases the mineral rights in formations below the deepest producing zone. Texas A&M puts it plainly: without a depth clause, any production at any depth holds the lease to the center of the earth. Both are additions you negotiate.
Cost-free royalty language
Royalty can be reduced by post-production costs such as gathering, compression and transportation. Whether they come out of your share depends on the lease wording and the law of the state where the mineral rights sit. Texas A&M recommends providing that royalties are free of both production and post-production costs, and Ohio State notes that most disputes between owners and companies arise from these deductions, not from the fraction.
Surface use
If you own the surface too, the oil and gas lease controls what the company can do on it. Texas A&M notes that in Texas the mineral estate is dominant over the surface, so protections must be written in. If you own only the mineral rights, these terms matter less to you.
What happens when an oil and gas lease expires
When the primary term ends without a producing well or ongoing operations, the lease terminates and your mineral rights are free to lease again. Texas A&M's lease extensions report says it directly: the lease terminates at the end of the primary term unless the operator has established production. Penn State advises getting a signed, notarized release of lease and recording it with the county, so the record shows the mineral rights are unencumbered. The company may offer to re-lease the mineral rights, sometimes on worse terms, or walk away.
Leased, unleased or held by production: what it means for a buyer's offer
Buyers price mineral rights by lease status, because the status fixes what income is possible. Unleased mineral rights have no royalty rate, so offers are quoted per net mineral acre and reflect the chance of a future well. Leased but undrilled mineral rights carry a known royalty and a primary term clock, so buyers quote per net royalty acre and pay more for a high royalty with years left. Mineral rights held by production have checks to look at, and buyers quote a multiple of monthly income or a price per net royalty acre. Our guide to net mineral acres vs net royalty acres shows the conversion, and the mineral rights value calculator turns your royalty rate and check into a rough range.
Sell, lease or wait: a comparison
| Sell | Lease | Wait | |
|---|---|---|---|
| Cash now | Lump sum at closing | Bonus per acre at signing | None |
| Ongoing income | None; the buyer takes future royalties | Royalty if a well produces; most leases expire without one | None until leased or produced |
| Risk from prices and decline | Transferred to the buyer at closing | Yours: royalty follows the oil price and the well's decline | Yours: offers rise and fall with activity in your county |
| Taxes | Capital gain on the price minus your basis (sale tax guide) | Royalties are ordinary income with a depletion deduction; the bonus is taxable with no percentage depletion (royalty tax guide) | Nothing until something happens |
| What you keep | Nothing, unless you sell part | The mineral rights, and full control again when the lease ends | All of the mineral rights |
The bottom row is the real difference: a lease is temporary, so you keep the mineral rights and get them back, while a sale is permanent. The second row is the catch: Mississippi State notes that most wells are not successful and that most of the time the bonus and rentals are all the mineral owner gets.
"Never sell mineral rights" and when that advice is wrong
The usual advice is never to sell mineral rights, because a producing well can pay for decades and an oil and gas lease costs nothing to sign. That is right for an owner in an active area with a fresh lease and no need for cash. A well years into decline pays less every month, and a buyer's price is based on today's checks. Unleased mineral rights in a county with no rigs can sit idle for a generation. Fractional interests split across many heirs produce small checks and paperwork that exceed the income. And an owner who needs money now can lose more by waiting than the royalties will ever pay. Our guide should I sell my mineral rights? works through the numbers.
Before you sign an oil and gas lease, or sell
Have an oil and gas attorney read the lease before you sign. Ohio State says landowners should always consult an attorney before signing anything, and Texas A&M notes that its report is not a substitute for legal counsel. A lease can bind your mineral rights for decades. Our guide on choosing a mineral rights attorney covers what to ask and what it costs.
If you decide to sell, or want to know what a sale would bring before you lease, we connect you with up to three independent buyers in your county. You pay nothing, there are no commissions, and there is no obligation. See how it works or get your offers on unleased, leased or producing mineral rights, with the lease and your latest check stub ready.
This guide is general information, not legal advice. Lease law differs by state, and the wording of your own oil and gas lease controls.