Legislature(2005 - 2006)
2006-02-21 House Journal
Full Journal pdf2006-02-21 House Journal Page 2593 HB 488 HOUSE BILL NO. 488 by the House Rules Committee by request of the Governor, entitled: 2006-02-21 House Journal Page 2594 "An Act repealing the oil production tax and gas production tax and providing for a production tax on the net value of oil and gas; relating to the relationship of the production tax to other taxes; relating to the dates tax payments and surcharges are due under AS 43.55; relating to interest on overpayments under AS 43.55; relating to the treatment of oil and gas production tax in a producer's settlement with the royalty owner; relating to flared gas, and to oil and gas used in the operation of a lease or property, under AS 43.55; relating to the prevailing value of oil or gas under AS 43.55; providing for tax credits against the tax due under AS 43.55 for certain expenditures, losses, and surcharges; relating to statements or other information required to be filed with or furnished to the Department of Revenue, and relating to the penalty for failure to file certain reports, under AS 43.55; relating to the powers of the Department of Revenue, and to the disclosure of certain information required to be furnished to the Department of Revenue, under AS 43.55; relating to criminal penalties for violating conditions governing access to and use of confidential information relating to the oil and gas production tax; relating to the deposit of money collected by the Department of Revenue under AS 43.55; relating to the calculation of the gross value at the point of production of oil or gas; relating to the determination of the net value of taxable oil and gas for purposes of a production tax on the net value of oil and gas; relating to the definitions of 'gas,' 'oil,' and certain other terms for purposes of AS 43.55; making conforming amendments; and providing for an effective date." was read the first time and referred to the Resources and Finance Committees. The following fiscal note(s) apply: 1. Zero, Dept. of Natural Resources 2. Fiscal, Dept. of Revenue The Governor's transmittal letter dated February 21, 2006, follows: 2006-02-21 House Journal Page 2595 "Dear Speaker Harris: Under the authority of art. III, sec. 18, of the Alaska Constitution, I am transmitting a bill relating to the oil and gas production tax. This bill would eliminate the economic limit factor (ELF) from the determination of production tax, and would replace it with a more progressive and investment-friendly tax system. Under current law, the tax imposed on oil or gas production generally is determined by multiplying the gross value at the point of production times the appropriate tax rate times the economic limit factor for that production. The economic limit factor was intended to provide a proxy for costs. It is determined by a complex formula that uses as input the total production from, and productivity of, the wells in a field. The theory behind the economic limit is that a producer would not be taxed for production below the economic limit while still recovering costs. However, this has not worked well in recent practice. On the one hand, under current conditions, producers are allowed proxy costs several times their actual costs. On the other hand, a producer reinvesting its profits from Alaska production in exploration, production, or development in the state may receive little or no tax benefit compared to a producer who exports its profits and makes those same investments in another state or country. As explained in more detail below, this bill introduces two important investment-friendly tax concepts in place of the economic limit factor. · The tax proposed in the bill is based essentially on the cash flow from a lease, or the profit net of all qualified costs. Thus, a deduction is allowed for all upstream costs, including expenses and capital investment. In other words, the tax base is not gross value at the point of production but the net value. In addition, every producer is allowed an annual allowance of up to $73 million, so if a producer's cash flow is $73 million or less in a year, there would be no tax. 2006-02-21 House Journal Page 2596 · A 20 percent tax credit is allowed for all the upstream capital investment, even if a deduction was taken for that investment as described above. Another credit is allowed for operating losses. Because of this proposed switch from a gross to net basis, a higher tax rate is appropriate and this bill would raise the rate (before applying ELF) from the current 15 percent (or 12.25 percent for new production) to 20 percent. In addition, the minimum tax is repealed. Thus, as mentioned above, a company would incur a production tax liability only if it has positive cash flow from its Alaska production properties greater than $73 million a year. Upstream Cost Deduction The calculation of the net value of a producer's oil and gas starts with gross value, which is essentially unchanged from current law, with some streamlining. Direct lease costs, including both capital investment and operating costs are deducted from that gross value. If in any month the total cash flow is reduced to zero by those costs, remaining costs are carried forward to future months (or, if unused by the end of a calendar year, are translated into a credit applicable in future years). In addition, each producer is granted an allowance of up to $200,000 a day or $73 million a year. That is, if after calculating its net profit a producer still showed positive cash flows of $73 million or less, this allowance may be used to reduce that cash flow to zero (though again, not any lower). If the producer showed a positive cash flow of more than $73 million, the allowance would be used to reduce the taxable cash flow by $73 million. Finally, as a transition measure, for the first 72 months in which the Alaska North Slope oil spot price is above $40 a barrel, a producer is allowed to include in its upstream deduction a pro rata amount of capital costs incurred in the five years before the new production tax takes effect. In the interests of streamlining and simplicity, the Department of Revenue is directed to take into account the kind of costs that an operator typically bills a working interest owner (and a working interest owner typically audits) and the Department of Natural Resources' net profit share lease regulations. 2006-02-21 House Journal Page 2597 A number of indirect costs that may not be included in the calculation of direct lease costs are specified in the bill. Finally, the bill specifies that any deduction for lease expenses must be reduced by any reimbursements that a taxpayer receives from other taxpayers, say, for example, for use of facilities, or from the government where such payments are in the nature of field costs. New Investment Credits Two major new credits are provided for in the bill. (1) A credit would be allowed against the production tax for 20 percent of any qualified investment, even though that same outlay may also be deductible in calculating taxable net value of the oil and gas. This credit and the exploration credits under AS 43.55.025 may not both be taken for the same expenditures. Qualified capital expenditures include outlays for new (or new-to- Alaska) assets that are treated as capital under the federal tax code, as well as geological and geophysical exploration costs and drilling costs that would be expensed under the federal tax code. (2) A credit also would be allowed for 20 percent of any annual loss. Because the tax due can only be reduced to zero (and not below zero), mechanically this is the same as allowing unclaimed expense to be carried forward year to year, but for tax administration purposes it is preferable for carryforwards to be in the form of credits. These credits would be non-refundable; that is, they could not be used to reduce a taxpayer's liability below zero. However, any credit not used in a given period could either be carried forward or sold to another taxpayer who might better be able to use it. Taxpayers who purchase credits may not use the credits to reduce their production taxes by more than 20 percent in any year. In addition to the two major new credits, producers would be allowed to credit their oil conservation surcharge payments under AS 43.55 against the production tax. 2006-02-21 House Journal Page 2598 Other Provisions In providing for taxation of the net value of oil and gas, the bill also would preserve most of the current provisions on calculating gross value at the point of production, since this calculation is an intermediate step in calculating taxable net value. This approach has the benefit of conserving the body of regulations, interpretations, and case law that has developed over several decades. In the interest of fostering simplicity and efficiency, however, the bill would make a significant addition to the current provisions, authorizing the Department of Revenue to allow taxpayers, if appropriate, to rely on royalty settlement agreements with the Department of Natural Resources (DNR), or other royalty values or methodologies accepted by the DNR, or the United States Department of the Interior (in the case of some federal leases or units) or to use a simplifying formula approved by the Department of Revenue. The bill would make several changes in current law to facilitate administration of the new production tax approach. The subjects addressed include tax returns and tax payment due dates, definitions of oil and gas and other terms, and treatment of private royalty oil and gas for production tax purposes. The bill clarifies how the Department of Revenue may disclose certain otherwise confidential information to taxpayers when the information affects their tax liabilities. Persons who violate the conditions of such disclosure would be subject to the same criminal penalties that currently apply to state employees who violate taxpayer confidentiality. The bill also simplifies the tax treatment of flared gas and extends to oil the current tax exemption for gas that is used on the lease. The bill would make needed updates and clarifications to certain provisions of the production tax statute: confirming the Department of Revenue's long-standing application of the prevailing value concept to internal transfers of oil or gas, incorporating a necessary reference to the constitutional budget reserve fund regarding the department's disposition of revenue, and repealing a specific failure-to-file penalty that is superfluous in the light of the general penalty provisions of the revenue laws. 2006-02-21 House Journal Page 2599 The proposed new production tax on net value, and related provisions of the bill, would apply prospectively, as of July 1, 2006. The bill has an immediate effective date for other purposes. This bill will greatly improve Alaska's oil and gas tax system, encouraging investment in the state, making tax administration more predictable, better reflecting the variable economics of oil and gas development, and providing Alaskans with a fairer share of the value of the oil and gas taken out of the ground in our state. I urge your prompt and favorable action on this legislation. Sincerely yours, /s/ Frank H. Murkowski Governor"