* Oil-producing states want new law declared
* Law shares out royalty income to other 24 states
* Legal battle clouds future of troubled oil industry
By Anthony Boadle and Jeb Blount
BRASILIA/RIO DE JANEIRO, March 15 Brazil's main
oil-producing states asked their country's Supreme Court on
Friday to overturn a new law that strips them of billions of
dollars in royalties levied on the output of rich offshore oil
The two biggest producers, Rio de Janeiro and Espirito Santo
states, filed challenges with the court in Brasilia arguing that
the legislation is unconstitutional because it changes existing
contracts and violates Brazil's fiscal discipline law.
Brazil's constitution has clauses limiting the government's
ability to deprive people of established rights. A decade ago,
Rio de Janeiro and other states pledged a percentage of oil
royalties to make payments on debt to the federal government.
The bill signed into law by president Dilma Rousseff on
Thursday night forces the government to share offshore oil
royalties more equally among the country's 26 states, federal
district, and 5,500 municipalities.
The dispute has poisoned relations between Brazil's states
and clouded the once-bright future of Brazil's oil industry,
where plans to auction production sharing concessions to tap
huge subsalt fields have been delayed by regulatory quarrels.
The royalty bill was originally meant to more widely
distribute Brazil's future oil wealth as it developed giant new
"subsalt" resources off its Atlantic coast near Rio de Janeiro.
But non-oil producing states and those with small on-shore
production wanted to get access to resources for education right
away and pushed through legislation that divided up royalties on
existing offshore oil agreements as well.
With 80 percent of output and the bulk of royalty payments,
Rio de Janeiro and Espirito Santo were receiving too much from
the offshore oil that was seen more as a federal resource than a
state one, supporters of the change said.
"Congress ignored our situation and we have had to resort to
the Supreme Court. We hope the court appreciates our arguments,"
said Espirito Santo Governor Renato Casagrande in a telephone
Otherwise, he said, "we will have to adjust our budget, cut
programs, reduce jobs and investments."
Espirito Santo stands to lose 800 million reais ($405
million) this year, and 10 billion reais by 2020 in reduced
royalty revenues if the law stands, Casagrande said.
Rio de Janeiro, Brazil's top oil state, has estimated it
could lose 3.1 billion reais ($1.59 billion) in income this year
alone from the new royalty sharing law.
In response, Rio de Janeiro Governor Sergio Cabral last week
ordered the suspension of all the state's payments - except for
legally mandated public employee salaries and transfers to
municipalities. Cabral warned that the new law will threaten
Rio's plans to host the soccer World Cup next year and the 2016
President Rousseff vetoed the original bill to ensure that
only royalties from future oil contracts would be shared.
Non-producing states, which have a majority in congress,
overrode her veto to grant themselves a bigger share of
royalties from existing production.
The distribution of royalties is not expected to directly
affect oil companies working in Brazil. However, the dispute and
threats by Rio de Janeiro to raise taxes on oil companies to
make up for the royalty losses could dampen interest in three
oil rights auctions planned for this year.
If the new royalty rules are upheld by the Supreme Court,
states and municipalities will start receiving their royalty
checks in May.
The feud between states could hinder the Rousseff
government's efforts to lower and unify inter-state taxes, which
is part of a web of duties that makes the Brazilian tax system,
one of the most onerous and complicated in the world.
Any agreement would require the approval of all 26 states
and federal district in addition to Congress.
"Tax reform in Brazil is always difficult, with this
'royalty' war it becomes even more complicated," said Benedito
Tadeu César, political scientist and director of the Institute
of Research and Social Projects.
"This could make it more difficult because some of the
richer states, which are losing money in the royalty dispute,
will not be willing to let go of any more revenue," Cesar said.
To avoid further strife between the states, some governors
led by Eduardo Campos of Pernambuco, have suggested that the new
royalty sharing legislation not apply to existing contracts, as
the producers want. Instead, Campos suggested the federal
government boost transfers to non-producing states by about 4.6
billion reais a year.
"That's a very good idea, we agree, as long as existing
contracts are preserved," said Casagrande, a member of Campos'
Brazilian Socialist Party (PSB). But that depends on Rousseff
agreeing to the compensation, he said.