North Dakota's oil tax system is a "disaster" that should be simplified and revamped to make sure its 11.5 percent top rate does not drive away needed investment, industry supporters say.

The arguments have drawn skepticism from many of the Legislature's Democrats, who question whether oil industry tax breaks are necessary when crude prices are hovering above $60 a barrel.

The North Dakota House's Finance and Taxation Committee is examining legislation, introduced by Sen. Rich Wardner, R-Dickinson, that would cut the top tax rate from 11.5 percent to 9 percent for oil wells drilled after July 1, 2008.

At the same time, the bill would raise the potential tax rate for wells drilled after July 1, 2008, from 5 percent to 7 percent. The 7 percent rate would kick in for new production only if oil prices decline below a variable "trigger" price for five straight months.

The trigger price is now $42.89 a barrel, the state Tax Department says. It is adjusted annually for inflation, using a price index for industrial commodities compiled by the U.S. Labor Department's Bureau of Labor Statistics.

Economic consultants who have helped estimate North Dakota's tax collections do not believe oil prices will drop below North Dakota's trigger price during the next two years.

Oil producers now pay North Dakota's top tax rate of 11.5 percent of the oil's gross value for all newly drilled wells. Ron Ness, president of the North Dakota Petroleum Council, said the rate is among the highest in the nation.

"This is not a big tax break for the oil industry," Ness said during a committee hearing Wednesday. "It's a long-term shift in tax policy."

No one testified against the bill during Wednesday's hearing, although Dale Frink, chief engineer for the state Water Commission, raised questions about its long-term effect on state tax collections. A portion of oil tax revenues are diverted to a fund that finances water projects.

Rep. Louis Pinkerton, D-Minot, said oil prices, rather than tax rates, "kind of drive what the activity is."

"Long term, this (oil tax bill) could have an enormous impact on our income as a state," Pinkerton said.

The Tax Department estimates the legislation would reduce oil tax collections by $3.24 million during the 2007-09 budget period. In the next biennium, it would be in effect for only one year.

Ness asked committee members on Wednesday to change the bill to add another incentive for drilling in the Bakken geologic formation in western North Dakota. It would result in another $2.6 million less in oil tax collections.

North Dakota has a 5 percent oil production tax and a 6.5 percent extraction tax, both of which are applied to the oil's value at the wellhead. The extraction tax was imposed by a November 1980 initiated measure, which Ness said has caused "a 25-year disaster" in oil tax policy.

Production is taxed at different rates, based on a well's production and when or where it was drilled, and North Dakota's oil taxes are difficult to understand as a result, he said.

Ryan Kopseng, a spokesman for Missouri River Royalty Corp. of Bismarck, and Leo Miller, a spokesman for Headington Oil LP of Dallas, said oil wells are difficult to drill in western North Dakota's Bakken shale, and results so far have been discouraging.

Headington is a leading producer in Richland County, Montana, which borders western North Dakota. Miller said Montana has an 18-month exemption on new horizontal wells, an incentive that Miller said helped spur development there.

Kopseng said the business environment for North Dakota's oil industry "is not very good right now" and described Bakken development as "the most frustrating for us."

"We face very high exploration and production costs. We have a poor market for our crude oil. We've seen disappointing drilling results," Kopseng said. "And the most disappointing of all, every barrel we find, we lose 11.5 percent right off the top."

The bill is SB2397.