A haul truck works a coal seam at a mine in the Powder River Basin in Wyoming in this undated photo. U.S. taxpayers are set to miss out on billions of dollars in royalty payments in coming years as a larger share of the black rock pulled from the coal-rich Powder River Basin in Wyoming and Montana is shipped to Asia.

By valuing coal at low domestic prices rather than the much higher price fetched overseas, coal producers can dodge the larger royalty payout when mining federal land.

The practice stands to pad the bottom line for the mining sector if Asian exports surge in coming years as the industry hopes, a Reuters investigation has found.

Current and former regulators say their supervisory work has lagged the mining industry as it eyed markets across the Pacific. They say they will now give the royalty question a close look.

"We are committed to collecting every dollar due," said Patrick Etchart, spokesman for the Office of Natural Resources Revenue, which collects federal royalties.

At issue is the black rock pulled from the coal-rich Powder River Basin in Wyoming and Montana. Miners there say they abide by the letter of royalty rules that call for the government to get a 12.5 percent cut on coal sold under federal lease.

The question is: At what point is that coal valued?

Most Powder River Basin coal is sold domestically, where prices have been depressed by a glut of natural gas and regulations meant to curb pollution.

But Asian economies rely on coal to sustain growth, so the ton worth about $13 near the Powder River Basin mines last year fetched roughly 10 times that in China.

After deducting costs like shipping by sea and rail, that ton of Powder River Basin coal sold in China last year would have returned about $30 to the miners, several industry analysts estimate.

Coal is loaded onto rail cars leaving a coal mine in the Powder River Basin.

Luther Lu, director at China-based Fenwei Energy Consulting, said the figure was closer to half that, with miners up against other costs that would have cut into their margin.

Whatever the take-home for miners, several royalty experts said, the taxpayer is due a share of the final sale price overseas.

Powder River Basin mining companies disagree and say that they are right to pay out royalties at the low domestic prices.

"If you look at the regulations, we are not required to do a net-back," said Karla Kimrey, a spokeswoman for Cloud Peak Energy, referring to the return on Asian sales. The taxpayers' bite would be based on that number.

The rules that govern Powder River Basin sales to Asia deserve a more rigorous review, and short royalty payments will not be tolerated, Etchart said.

The royalties question will remain an important one as Asian coal exports look set to expand and the United States faces a fiscal crisis.

"How do you justify paying royalties at anything less than the true value, particularly in these times of tight budgets?" said Autumn Hanna of the nonpartisan Taxpayers for Common Sense.

$100 million short?
Mining companies declined to explain how they book Asian coal sales, and their securities filings give only a partial picture of how miners operate in volatile energy markets.

Industry and publicly available data, though, indicate that taxpayers stand to lose out.

Paying royalties calculated on the net-back formula for Asian exports from Wyoming and Montana rather than on the benchmark domestic price would have yielded around $40 million in additional revenue for the government last year alone, according to data from Goldman Sachs and other analysts, and figures from the U.S. Energy Information Administration.

Extended to the last few years of increased Asian demand, that total could exceed $100 million in forgone royalties. The sum could balloon into billions of dollars if mining giants are allowed to ship 150 million tons of coal a year or more through the Pacific Northwest, as the industry wants.

Of course, if the companies are more profitable because of lower royalty payments, they may well be paying more in corporate taxes, though some experts dispute the point.

"A certain $1 collected on royalties is worth more than the unsure tax take," said Tom Sanzillo, a former deputy comptroller for New York state who has studied the economics of coal exports with the Institute for Energy Economics and Financial Analysis.

For now, the debate over exports from the Powder River Basin is of limited scope: Less than 4 percent of the roughly 476 million tons of coal produced in Wyoming and Montana was exported last year, according to the EIA. Three-quarters of U.S. coal exports are bound for Europe or other non-Asian ports, much of that from private, not federal lands, in the Appalachian region.

But Asian economies such as India and China cannot grow without abundant electricity, and that demand has opened a window for a U.S. coal sector long focused on delivering domestic power.

'Exports were not on the radar’
Several large coal companies mine the Powder River Basin - a high, grassy plain in eastern Montana and Wyoming. Cloud Peak exclusively works that terrain, which is chiefly on federal land. The company was in a position to save tens of millions of dollars in recent years by their reading of royalty rules.

Less than 5 percent of Cloud Peak coal was shipped to Asia last year, but that accounted for nearly 19 percent of total revenue, or about $290 million. A year earlier, Asian sales were only 3.4 percent of the total volume but 12 percent of revenue.

Cloud Peak, Peabody Energy and Arch Coal all declined to explain how they book their Asia business, but a large share of Powder River Basin sales passes through traders.

Sales to brokers and traders are allowed, but royalty rules assume that those buyers' economic interest is opposite to miners'. Sales to in-house or affiliated traders are due more scrutiny under the law.

"We are familiar with the rules around both arms-length and non-arms-length transaction and fully comply with both," said Vic Svec, a Peabody Energy spokesman, referring to the principle that is supposed to guide such sales.

Arch Coal declined to comment on their trading business, and Cloud Peak said it faces frequent audits from state and federal officials to make sure they follow the rules.

"In my neighborhood, I don't stop at every block. I could. But that's not where the stop signs are," said Cloud Peak spokeswoman Karla Kimrey. "You can say you don't like the regulations, but we play by the rules."

Former and current officials said the government has been slow to understand the power of foreign markets or protect the taxpayer's stake in those lucrative sales.

"Exports were simply not on the radar," said Bob Abbey, who in May stepped down as head of the Bureau of Land Management, the agency that grants federal coal leases.

A precedent in gas
While the industry says it is acting above-board, outside lawyers point to a natural gas precedent that they say further indicates the issue is far from settled.

In the late 1970s, Marathon Oil Corp. used a similar accounting system to settle royalties on natural gas that was produced in Alaska but sold to Japan.

A federal court eventually told Marathon to pay out royalties based on the overseas value. Officials leveled a $10 million fine against Marathon.

Peter Appel, a former Justice Department attorney, said the case shows that officials expect taxpayers to get a taste of the true gains on exported fuel.

"This ruling should give officials confidence to give a hard look at coal sales," said Appel, who prosecuted cases for the DOJ's Environment and Natural Resources Division and teaches at the University of Georgia School of Law.

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Tomas Bravo / Reuters file

Pedestrians walk past the entrance of British bank HSBC's headquarters in Mexico City in July.

In the second half of 2010, a senior federal prosecutor in West Virginia drafted an impassioned plea to his bosses in Washington to end infighting as multiple government agencies pursued a high-stakes investigation of HSBC Holdings Plc.

William Ihlenfeld II had been fighting a losing battle against fellow prosecutors in Washington and Brooklyn, who were jointly conducting a parallel probe into the British bank's controls over illicit transactions.

Ihlenfeld, the U.S. attorney in Wheeling, W. Va., said in the draft letter, a copy of which has been seen by Reuters, that there had been a breakdown in the relationship, and his office had been told to stand down in June 2010 by the Department of Justice, just as they were preparing to indict the bank for as many as 175 counts of money laundering.

An earlier mediation had failed. So for the first time in 30 years, Ihlenfeld said his office was seeking an arbitration of such a dispute.

"We have made several offers to amicably settle this dispute by dividing the investigation in a way that guaranteed the two investigations would never interfere with each other," Ihlenfeld wrote in the letter addressed to Gary Grindler, then the acting deputy attorney general. "Despite our best effort, all of our offers have been categorically rejected. None of our proposals has even induced a counter-offer.

"As a general proposition, there is no reason why the professionals from different DOJ components cannot work together for the common good. This particular situation is no exception."

It is not clear whether Ihlenfeld ultimately sent the letter or whether the Department of Justice agreed to arbitrate the dispute. But the draft provides a rare insight into the secret world of prosecutors, and sheds new light on a large and complex U.S. investigation that some two years later may lead to a settlement of more than $1 billion with HSBC.

At least 11 different U.S. departments, offices and regulators -- largely comprising the two competing groups -- as well as the U.S. Senate have probed HSBC for money-laundering lapses in investigations that date back to at least 2007.

Ihlenfeld's letter, other Department of Justice documents, regulatory filings and interviews with those close to the HSBC prosecution show how multiple -- and sometimes overlapping -- inquiries have slowed the prosecution and added to costs, as well as led to rancor within the department and between different government agencies.

They also underscore the problems the government faces in policing global banks such as HSBC that can enable a wide range of illicit transactions -- from small-time fraud to laundering of tens of billions of dollars for drug cartels and countries that are the subject of U.S. sanctions, such as Iran.

At one point, for example, a U.S. prosecutor in West Virginia was forced to explain to HSBC that dual Justice Department probes were not duplicative, according to a letter from the prosecutor to the bank's lawyer.

Such strife among different government agencies has surfaced in other complex investigations. In August, New York State bank regulator Benjamin Lawsky drew the ire of federal agencies when he independently pursued a $340 million settlement with another British bank, Standard Chartered Plc, rather than being part of an ongoing federal probe.

It is all at least partially due to a heightened effort by U.S. and state regulators to crack down on money laundering. Besides HSBC and Standard Chartered, a series of global banks, including JPMorgan Chase & Co and Citigroup Inc., have faced investigations into lapses related to money laundering.

A Department of Justice spokesman said in an emailed statement that the department continues to "aggressively pursue" the HSBC probe "in coordination with its internal components and external partners."

"Financial investigations, by their nature, are complex and time consuming," spokesman Dean Boyd wrote. "The department's track record in bringing successful enforcement actions in the banking industry speaks for itself, and has had a significant, positive impact on banking industry practices."

Spokespeople for the federal prosecutors in Brooklyn and West Virginia, as well as the other government agencies mentioned in this article declined to comment.

An HSBC spokesman also declined comment.

Parallel probes
Prosecutors in Ihlenfeld's office had been working since at least December 2008 on the case, which originated with an investigation of a local doctor's use of HSBC accounts to move $3 million tied to Medicare fraud, according to the letter.

But as the investigators looked deeper, they realized the case was merely "the tip of the iceberg", Ihlenfeld wrote.

Prosecutors in West Virginia had been working with two units of the Treasury Department -- the Internal Revenue Service's Criminal Investigation arm and the Financial Crimes Enforcement Network (Fincen), which enforces anti-money laundering laws.

Brooklyn prosecutors, meanwhile, had aligned with the more powerful Washington-based Asset Forfeiture and Money Laundering Section of the Department of Justice. Investigators in that enterprise also included the Drug Enforcement Administration and the Immigration and Customs Enforcement, a unit of the Department of Homeland Security.

The Asset Forfeiture unit had the power to veto any proposed money laundering indictment or settlement with HSBC, according to the letter.

Ihlenfeld touted the support of his own team, the IRS and Fincen, describing the agencies' investigators as "the best of the best when it comes to paper cases."

He also wrote that his office was much further along in the investigation, arguing that his group had devoted well over 5,543 hours to the investigation.

In one swipe at Brooklyn prosecutors, Ihlenfeld wrote that they did not realize that HSBC operated a bulk cash processing center "within walking distance" of their offices until West Virginia prosecutors pointed it out to them during the mediation.

He wrote that on March 24, 2010, the top prosecutor in Brooklyn had said that their investigation was "just starting".

"Even if DOJ's budget was unlimited, it would be wasteful for" the competing group to replicate what was already a successful investigation, he wrote.

In the end, Ihlenfeld did not win the battle. Prosecutors, including those in Washington, now oversee the probe, which is still ongoing.

For HSBC, after more than five years of investigation, a final settlement may be approaching. The bank has already set aside $700 million to cover those costs, and said in a regulatory filing in July that they could be "significantly higher." 

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