Legislature(2005 - 2006)
07/31/2006 03:09 PM House FIN
| Audio | Topic |
|---|---|
| Start | |
| HB3001 | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
HOUSE BILL NO. 3001
An Act relating to the production tax on oil and gas
and to conservation surcharges on oil; relating to
criminal penalties for violating conditions governing
access to and use of confidential information relating
to the production tax; amending the definition of 'gas'
as that definition applies in the Alaska Stranded Gas
Development Act; making conforming amendments; and
providing for an effective date.
Co-Chair Chenault noted that there was a conceptual draft
amendment for HB 3001 in the Committee member's files. The
amendment is in the form of a WORK DRAFT (copy on file). He
stated that the committee substitute would be available on
8/01/06. He hoped that the work draft would help the
Legislature come to an agreement and address the problem.
He stated that it was a produce or pay program (POP).
3:11:52 PM
DR. PEDRO VAN MEURS, CONSULTANT, OFFICE OF THE GOVERNOR,
provided members with a handout: Produce or Pay (POP), July
31, 2006 (copy on file). He said the questions concerning
PPT are whether or not the tax break would in fact create
more investment and if there is not investment shouldn't the
tax rate be higher. The concept of produce or pay addresses
both issues.
3:15:02 PM
Dr. Van Meurs referenced Page 3. He introduced the produce
or pay concept. He noted the difficulty in separating
existing production from incremental production.
Dr. Van Meurs referenced Page 4.
In the Produce or Pay concept, the production of each
company is split into:
· Base production
· Incremental production
The base production is determined on the basis of the
2005 production in terms of barrels equivalent.
Dr. Van Meurs compared the situation to Kuwait. He observed
that the situation facing Kuwait is similar to that of
Alaska. Kuwait has produced for many years, fields below
cost, but now they face a period where fields are more
costly due to water invasion and required recovery factors.
He went on to say that in response to their concerns there
was a simple decline curve established on the base
production whereby any incremental production over that
decline curve could be taxed differently. As a result,
Kuwait drafted a contract where the base production was
taxed more than the incremental production. He stated that
this was the example he used to bring forth the idea of base
production and incremental production.
3:18:37 PM
Dr. Van Meurs defined "base production". The base production
uses a defined and identifiable starting point. [Alaska's]
base production was determined by taking 75 percent of each
company's 2005 production. For 2006 and future years, a 5%
decline per year would be used relative to 2005 on an
exponential basis. This matches the way in which oil and
gas fields typically decline. Any production of a company
in excess of the base production is incremental production.
If actual production is less than the base production, all
production is considered base production. He said this
concept has worked successfully in other nations.
3:21:17 PM
Dr. Van Meurs referenced Page 6. The graph illustrates a
typical base production curve calculated on a 5% per year
decline.
3:22:38 PM
Dr. Van Meurs referenced Page 7: Base Production. The
geological and engineering evidence indicates that current
actual decline curves for oil and gas are steeper than 5%.
Current actual decline of the various mature reservoirs
under a "do nothing" scenario may range from 8% to 12% or
more. With current levels of ongoing investment, companies
may be able to reduce the decline rate of 5%. Therefore,
the 5% decline rate is based on the fact that oil companies
need to continue the current levels of re-investment in the
State.
3:24:13 PM
Dr. Van Meurs referred to Page 8: Tax Rates. The produce or
pay is proposed to have the following tax rates:
· Base production: 25%
· Incremental production: Initially 15% going up to 5%
per year from 2012 onwards until by 2031 the two rates
are merged at 25%.
Dr. Van Meurs said that typically base production and
incremental production are used during a time when a
government is attempting to stimulate new investment. He
maintained that building in increase in government take is a
good idea for Alaska and emphasized that an incremental tax
can keep Alaska competitive.
3:27:03 PM
Dr. Van Meurs evaluated the concept as listed on Page 9.
Five oil production scenarios were developed to test the
weighted average tax rates on an Alaska wide basis.
· 500,000 bopd
· 700,000 bopd
· 900,000 bopd
· 1,000,000 bopd
· 2,000,000 bopd (ANWR)
3:28:15 PM
Dr. Van Meurs referenced page 10, which provides five
production scenarios, including an ANWR scenario of an
increase of up to 2 million barrels per day.
3:28:48 PM
Dr. Van Meurs pointed out that Page 11 provides the Alaska-
wide blended rate based on a 5% decline. If the Alaska oil
industry would rapidly develop further oil production, the
blended rate may reach as low as 20%. If they do not
actively pursue further developments, the blended rate would
not decline below 22.5%.
3:31:30 PM
Dr. Van Meurs reviewed Page 12.
Page 12 indicates the effect on individual companies. The
blended rate of individual existing oil and gas producers
would vary more than the Alaska wide rate depending on their
efforts:
· Companies, which pursue a harvesting approach, would
rapidly pay a blended rate of 25%;
· Companies which let production decline at a 5% rate
would pay 22.5% going up to 25%; and
· Companies that strongly maintain or increase
production would benefit from a rate less than 22.5%
for up to two decades until the rate goes up to 25%.
3:32:28 PM
Dr. Van Meurs referenced page 13 noting that though the
examples reflected are the extreme, they show a clear
example of the produce or pay concept. He outlined in
further detail with examples. He said that if production
doesn't increase the tax rate will provide revenue and if
there were greater production this would provide revenue
into the future.
3:33:54 PM
Dr. Van Meurs referenced page 14.
He explained that because new investors start at zero base
production they would be taxed at the incremental rate of
15%. He noted that this was considered to encourage
investment and reinvestment.
The previous PPT did not address the concerns for investment
and reinvestment, or the harvester only scenario, the POP
addresses both by establishing both a base rate as well as
an incremental rate.
He further noted that the state continues to collect
corporate income tax, property taxes, and royalties.
3:38:09 PM
Dr. Van Meurs said that due to current circumstance in the
world, oil prices in the future are uncertain. The
provision in the POP to reevaluate in 2011 protects the
state from being locked in.
He responded to earlier concerns regarding the soundness of
the government's ability to audit. He stated that
modifications made to the bill strengthen the concept of
non-deductible costs and auditing procedures.
3:41:05 PM
Representative Kelly asked what would happen under a harvest
only scenario regarding companies getting quickly to the
25%. Dr. Van Meurs said the base rate is established by
taking 75% of the total production. If that declined by 5%,
incremental oil would always be 25% and base production
would be 75% so you would maintain a rate of 22.5%. He went
on to say that the natural decline of a mature oil reservoir
is 12%. At a 10% decline rate, after 4 to 5 years, you have
no more incremental production because the 5% cushion is
used up. All production would then become base production.
If a company makes no investment they are up to 25% in 5 to
6 years. The incremental goes away quickly because of the
strong decline rate of the total production while the base
production continues to decline at 5%.
Representative Kelly asked about freezing the original base.
Dr. Van Meurs explained that the incremental production
declines also. If a company does nothing, there would be no
more incremental production. Base production is always
locked in at 5% decline rate. That is why companies that
are only harvesters would be faced with the 25% rate.
3:44:45 PM
Representative Kelly thought if the 5% was close to the
average, and it was ridden down, the rate would stay at
22.5%. He questioned the balance behavior and asked if the
scenario stated would be an unusual case.
Dr. Van Meurs stated it would not be an unusual case in a
typical mature oil field during the final 10 to 20 years of
that oil field. Oil production, at a 10% decline is the
normal average. On the North Slope, the base decline rate
without well work and supplemental investments is faster
than 5%. This illustrates the point that if a company
continues to make investments to maintain production the
decline rate is maintained at 5%.
3:47:17 PM
REPRESENTATIVE ETHAN BERKOWITZ inquired if the POP could
work with both the gross and net tax.
3:47:59 PM
Dr. Van Meurs stated the concept of produce or pay could be
applied to any fiscal framework. It can be related to gross
or net.
3:49:32 PM
REPRESENTATIVE KERTULA asked if deductions and credits are
allowed, could a company have enough credits that it would
undercut the requirement of more production, to get a lower
tax. Dr. Van Meurs explained that 20% tax credits only
apply if companies actually invest. The loss carried forward
tax credits were also set in the bill at 20% and therefore
are not really affected. The blended rate, the loss carried
forward tax credit is also set at 20% to avoid excessive
interaction between the possible blended rate and the loss
carried forward.
3:52:12 PM
REPRESENTATIVE LES GARA commented on the incentive and the
rate itself. He stated that in earlier discussions
regarding the tax for new investors there was a 25% rate
then a 20% tax rate and now a 15% tax rate. He asked Dr.
Van Muers to explain the decrease in rate. Dr. Van Meurs
responded by clarifying the concept. He supported the
concept by saying that companies would get a blended rate on
the extra 25% over the base production. He contends that
this would stimulate long-term investment in Alaska.
3:56:07 PM
REPRESENTATIVE PAUL SEATON asked if a separate base rate
should be applied for the Alaska National Wildlife Refuge
(ANWR). He voiced concern that the most significant source
of oil would be taxed at an incremental rate rather than the
base, which would not realize maximum return. Dr. Van Meurs
responded that technically, there would be no limitation on
regions that can be created with separate base production
and incremental production. He referenced the graph on page
11. He went on to say that even if [ANWR] were declared
open in 2007, it would take considerable time before there
is production, possibly 8 to 10 years. At the point of
actual production the State would realize the blended rate
of 25%. He concluded with a recommendation that the
proposed tax rates stay intact and that the legislature not
establish a different base rate for ANWR.
4:01:15 PM
Co-Chair Meyer asked if there was a bias toward new
investors. Dr. Van Meurs responded by clarifying that the
POP system encourages new investors, but over time
establishes a level playing field for all producers. He
further maintained that there is no difference between
incremental investments and new production.
4:03:42 PM
Dr. Van Meurs reported that it is common for existing
production to be subject to a higher government take than
subsequent production and is not seen as an inherent
discrimination.
REPRESENTATIVE BERTA GARDNER inquired that if the system is
known and encourages reinvestment, why was the original bill
set at 20/20 PPT.
Dr. Van Meurs replied that it is his desire to propose a
simple system, but often the political process makes it more
complex. He opined that the previous system would have
worked, but that there was an additional concern to
incentivize investment. The proposal will assure Alaskans
that investment is attained.
4:10:16 PM
Representative Stoltze asked how open the process with the
Administration is. He wanted to make sure that the door is
open and the effort is "good faith".
WILLIAM CORBUS, COMMISSIONER, DEPARTMENT OF REVENUE,
reported that the Governor introduced the 20/20 PPT last
session and is interested in seeing the process go forward.
Representative Stoltze asked if the Administration is open
to looking at the alternative proposal. Commissioner Corbus
encouraged the Legislature to come forward with legislation.
4:12:50 PM
ROBYNN WILSON, DIRECTOR, DIVISION OF TAX, DEPARTMENT OF
REVENUE, identified changes in the WORK DRAFT[L1]. She said
that in addition to the variable rates there are four areas
that represent change from the original bill. The first
change is to the type of reports DOR is to prepare and the
time frame they are due. The reports are more comprehensive
and include the effects of tax rates and all credits. This
st
report is due the 1 legislative day in 2011.
Secondly, she pointed out the requirement of an annual
filing by companies with monthly installment payments or
estimated tax payments. She noted that this guards against
cash flow issues. Transportation costs would be estimated
and paid at the end of the year.
4:16:33 PM
Thirdly, the changes clarified language in the bill. Ms.
Wilson referenced Section 160 noting that this section is
now broken in to 3 parts to make it easier to read. It does
not change intent. She said there are also improved
language additions to clarify intent, in particular the
section explaining lease expenditures. She said she would
further highlight these changes as she moved through the
bill.
4:18:14 PM
Ms. Wilson referred to a matrix, "Limited Comparison of PPT
Bill Versions and POP draft WORK DRAFT" (copy on file.) She
reviewed the tax rate. She said the capex credit rate has
not changed. The capex section has been renumbered and
reordered.
She also noted that the bill maintains language regarding
the ELF tax ceiling on Cook Inlet. The structure also
remains for various regions.
Ms. Wilson noted that the particulars regarding
progressivity surcharge are still under discussion.
She explained the credit for annual loss. The mechanism of
a loss is converted into a credit for use in the following
years. It is accomplished at the base tax rate (20%). She
pointed out that though there was a credit usage floor in
the conference committee version, there is none in the WORK
DRAFT. The bill maintains the language for the TIE
(Transitional Investment Credit).
Ms. Wilson drew attention to the base allowance credit,
which had been in the previous version of the bill to assist
smaller, newer producers. In the WORK DRAFT, this credit no
longer appears, as it was seen as a duplication of incentive
with the incremental production tax. She discussed the new
area development credit of $6 million.
4:23:37 PM
Ms. Wilson talked about the lease expenditures: authority of
industry practices. She reported that there are a number of
language changes in the lease expenditures. These changes
provide for improvement and clarity regarding nonallowable
expenditures. As an example, overhead allowance will be a
percentage of direct costs.
She stated that in the WORK DRAFT the Department of
Revenue[L2] reports to the legislature. She noted that the
language regarding this starts on page 33 of the WORK DRAFT
rather than page 34 as noted in the handout. She reported
on the effective date, the tax returns date, and said that
there is no safe harbor for payments due. She went on to say
that installment payments and estimated tax payments are
based on the federal tax rates rather than state tax codes.
Under the federal tax code there are different rules for
underpayments and over payments. She said in previous
versions there was a 10-month transition payment on the old
system, which would true up on 3/31/07. With new version the
producer would pay under the old system through January of
2007 and then at the end of February the first estimated tax
payment would be due.
4:28:25 PM
Representative Stoltze asked about interest rates for under
payments and over payments and whether this impacts the rate
for disputed payments. Ms. Wilson replied that it makes no
changes in the state rate. Federal rates would apply from
the date of installment payments until March 31; on March 31
the state rate of 11 ¼% would be applied.
4:29:30 PM
Representative Holms asked what the cost to the State of
Alaska would be if the severance tax problem were not
solved.
4:29:50 PM
ROGER MARKS, (TESTIFIED VIA TELECONFERENCE), PETROLEUM
ECONOMIST, ECONOMIC RESEARCH SECTION, TAX DIVISION,
DEPARTMENT OF REVENUE, ANCHORAGE, responded to the question
by referencing the graph handout. (Copy on File).
Mr. Marks said that the under the ELF, with no change at $60
a barrel the loss would be approximately 1.1 billion. Under
the POP system set forth by Dr. Van Meurs and Ms. Wilson the
gain is approximately 2.6 billion, leaving a difference in
loss of $1.5 billion dollars per year.
Representative Holms asked if it were possible for the next
legislature to make this policy retroactive. Mr. Marks
advised that constitutionally there is not an issue of
retroactivity within the same year. He went on to say that
if retroactivity where to go much beyond that it could raise
policy issues regarding the stability and health of the
business environment.
4:32:28 PM
ROBERT MINTZ, (TESTIFIED VIA TELECONFERENCE), ASSISTANT
ATTORNEY GENERAL, DEPARTMENT OF LAW, ANCHORAGE, added that
there was no specific verbiage regarding retroactivity. He
went on to say the when the courts have upheld retroactivity
in tax law it was with regard to relatively short periods
within the same calendar year.
He furthered the point by saying the longer period of
retroactivity, the more risk of constitutional problems
could be found by the court. He reiterated that
retroactivity is usually handled within the calendar year
without any legal challenges.
4:34:01 PM
Representative Kelly expressed concern regarding the
accuracy of a 5% decline rate. He questioned whether a 3%
decline might be more appropriate.
Dr. Van Meurs referenced page 11 of the POP handout: Alaska
Wide blended rate. He pointed out that though there might be
a dip to 22% or 21½% tax rate around 2011, the rate would
increase relatively strongly because of a steeper
decline[L3], thus reaching the 25% rate.
On the 3% decline rate scenario companies would have to
realize massive additional investment effort, but would
remain at the 25% tax rate, losing the incentive of the
incremental rate[L4]. He agreed that the decline curve is a
sensitive feature, but maintained that 5% is the most
reasonable and fair level of decline.
4:42:18 PM
Mr. Marks added that the North Slope base decline rates have
investment backing it up.
Representative Kelly asked if different base and incremental
rates were calculated, specifically a 20-25 rate. Dr. Van
Meurs stated that different rates were looked at and that
there are infinite combinations. He went on to say, by
making a differential between the base rate and incremental
rate too low, the system is not strong enough to encourage
investment.
4:46:14 PM
Representative Kelly asked if they froze the FY05 base rate,
making a zero decline. Dr. Van Meurs stated that many rates
were used. He emphasized that it is best to take a decline
rate that is similar to average oil industry behavior. The
5% decline rate reflects that average.
4:48:38 PM
REPRESENTATIVE KELLY commented on the upcoming decade and
pointed out that the opportunity to capture value would be
higher. He asked if Dr. Van Meurs would be surprised if the
model performed like a 20% tax and if so would he be pleased
because additional production had occurred. Dr. Van Meurs
responded by referencing the graph on Page 11, (Produce or
Pay). The sensitivity of the graph illustrates what would
happen in the case of major production increase.
4:52:31 PM
REPRESENTATIVE RALPH SAMEULS commented on the difficulties
of establishing rates. He noted that in all scenarios they
were basing their projections on corporate behavior, which
is not necessarily a predictable variable in the future. He
concluded by supporting the idea of keeping the decline
curve as an average rather than taking averages per field.
4:56:30 PM
Representative Hawker commented on the reconfiguring of the
Trans-Alaska Pipeline System (TAPS) and how the capacity for
TAPS is less than a million barrels a day. In conclusion,
he said that though the extremes scenarios (2 million
barrels a day) are useful they have other realistic barriers
such as the case with TAPS.
4:57:44 PM
Representative Gara questioned whether the state would be
rewarding companies for doing what they are already doing.
Dr. Van Meurs noted that was an important point. If the oil
[L5]industry continues to produce at the current level, the
decline rate is roughly 5%. [L6]With a 5% decline of total
production and 5% decline of base production, the ratio
between base production and incremental production would
always stay the same. Such a company would pay, until 2012,
an average of 22.5%. After that, the blended rate would go
up from 22.5% to 25%. The goal of the proposed scheme is to
make distinction between existing production and incremental
production. There is a penalty for companies in[L7] blended
rate that decline steeper than 5% and a reward to companies
that decline less than 5%. There is a strong reward on the
blended rate to companies that double production.
5:01:42 PM
Representative Gara asked about companies artificially
reducing the rate of production, thereby staying under a 5%
loss. Ms. Wilson stated that the tax rate the next year
does not calculate with respect to that lower deduction; it
is still calculated with respect to the decline line.
5:03:32 PM
Representative Kerttula asked what geological information
has been ascertained to determine rates of production. Dr.
Van Meurs stated that many presentations have been made
regarding the decline rate in the North Slope. He went on
to say that in a state of mature decline, rates could vary
between 8-12%. These rates are generally accepted as normal
international decline rates.
5:06:45 PM
HB 3001 was HELD in Committee for further consideration.
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