Legislature(2007 - 2008)BARNES 124
03/19/2007 01:00 PM House RESOURCES
| Audio | Topic |
|---|---|
| Start | |
| HB165 | |
| HB149 | |
| HB128 | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| += | HB 165 | TELECONFERENCED | |
| + | HB 128 | TELECONFERENCED | |
| + | TELECONFERENCED | ||
| += | HB 149 | TELECONFERENCED | |
HB 128-OIL & GAS PRODUCTION TAX: EXPENDITURES 1:53:46 PM CO-CHAIR GATTO announced that the final order of business would be HOUSE BILL NO. 128, "An Act relating to allowable lease expenditures for the purpose of determining the production tax value of oil and gas for the purposes of the oil and gas production tax; and providing for an effective date." 1:54:27 PM REPRESENTATIVE SEATON moved that the committee adopt CSHB 128(O&G) for discussion purposes. There being no objection, CSHB 128(O&G) was before the committee. 1:55:20 PM CONRAD JACKSON, Staff to Representative Kurt Olson, Alaska State Legislature, speaking on behalf of the sponsor, explained that HB 128 was introduced in order to close the perceived loophole in AS 43.55.163 that specifies the lease expenditures that are not available for credit or deduction against the production profits tax (PPT). The sponsor, he related, believes that it is not appropriate for Alaskans to be held responsible for the expenses of repair or replacement of property or equipment that is improperly maintained or not maintained at all. The sponsor does not intend to open up the entire PPT, he further related. Mr. Jackson pointed out that CSHB 128(O&G) includes some minor changes on page 3 such as the inclusion of the commissioner of the Department of Natural Resources (DNR) and the entire Alaska Oil and Gas Conservation Commission (AOGCC), and inclusion of a provision that would address equipment that was not maintained. He noted that the committee packet should include an amendment that has been suggested by the Department of Revenue (DOR). He indicated that the sponsor is amenable to the adoption of the amendment. 1:58:19 PM CO-CHAIR GATTO asked if the oil companies, in failing to properly maintain [their equipment], did something "not right" or something illegal. MR. CONRAD deferred to Mr. Bullock with Legislative Legal Services. He then related his understanding that under the PPT if an oil company does not properly maintain a transit line, for example, which creates the need for repair, those expenses would ultimately be deductible from the PPT. CO-CHAIR GATTO related his understanding that under the PPT expenses, maintenance, and repairs are deductible. Furthermore, replacement is probably deductible, he opined. Co-Chair Gatto expressed his desire to be on firm legal ground regarding whether what the oil companies did not do was a violation that would cause the introduction of legislation removing the oil companies' ability to take deductions. 2:00:58 PM JONATHON IVERSEN, Director, Anchorage Office, Tax Divisions, Department of Revenue, related DOR's support for HB 128. The administration, he clarified, supports excluding these costs from being deducted or from being allowed as credits. Although the current law, depending upon the factual circumstances, would provide the ability to exclude a cost that is attributable to gross negligence, for example. Therefore, some or potentially all of the costs [being targeted by HB 128] would be excluded under the current law. Mr. Iverson related that DOR supports HB 128 because it clarifies the actual status of the law. Furthermore, the legislation would add strength to any regulation that DOR would write. If the legislature wants to have a clear manner in which to exclude these costs, then it should be done in the statute because regulations written under the current law would be subject to legal challenge. MR. IVERSEN then turned to DOR's interpretations of [subparagraphs] (B) and (C) on page 3. At this point, DOR interprets subparagraph (B) to address costs incurred to maintain operational capability of facilities or equipment during a shut down due to improper maintenance or practice. Therefore, an auditor would completely exclude all operating costs for equipment or facilities during a shut down when due to improper maintenance or lack thereof. Subparagraph (C) on page 3, he related, would come into effect during times of diminished production such as when production is reduced by half due to improper maintenance while the costs of operation are only reduced by one-third, for instance. In such a situation, the portion of the reduction in operating costs that does not track the reduction in production would be excluded. In other words, an auditor would exclude an operating cost to the extent the percentage reduction in production is greater than the percentage reduction in operating costs when the production is reduced due to failure to properly maintain the property. Mr. Iversen noted that HB 128 incorporates one of DOR's early suggestions [in paragraph (19) on page 3] to use the language "taking into consideration". The aforementioned was desired in the case the standards do not apply to the situation and thus DOR is given more flexibility to have the discretion to consider or give weight to any given practice, depending upon the circumstances. 2:05:50 PM CO-CHAIR GATTO highlighted the difficulty with the language "improperly maintained" because "proper" versus "improper" will have to be defined. He then posed a situation in which a company saved $100 from improper maintenance and then spent $100 on fixing the improper maintenance. In such a situation, should the company be penalized if it is a wash in money? 2:08:08 PM REPRESENTATIVE ROSES, in terms of allowed deductions, asked if the companies are allowed to depreciate the line. He further asked if the companies take a depreciation off of their corporate taxes or their PPT. MR. IVERSEN answered that capital expenditures under PPT are both "deducted" immediately and subject to a credit. Therefore, there is not a depreciation type of expense under the net profits scenario. In further response to Representative Roses, Mr. Iversen specified that the line itself is not a depreciable commodity, if there were no repairs or replacements. REPRESENTATIVE ROSES posed a situation in which a company, due to negligence, has to replace the pipe in the 18th or 19th year of its 15- to 20-year [estimated life]. In such a situation, would the entire amount of that repair not be allowed [as a deduction] since in another year the pipe would have to have been replaced. Representative Roses specified that his concern is one of equitability since he recalled that the PPT included language stating that any negligence [was not allowed as a deduction]. 2:09:57 PM REPRESENTATIVE WILSON pointed out that a company for which it was costly to maintain something and that company chose not to maintain it for a while knowing that when it had to be fixed, the cost of doing so could be deducted. On the other hand, if such a repair cannot be deducted, the company may maintain it in order to avoid more costly repairs later that would not be deductible. MR. IVERSON opined that those would be business-driven decisions rather than tax-driven decisions. The equipment at issue was in place prior to the enactment of the PPT, he noted. REPRESENTATIVE WILSON asked if HB 128 would make a difference from now on. MR. IVERSON said that he believes HB 128 would make a difference because it improves the incentives. As a policy matter, it pushes the incentives toward proper maintenance and giving a limit as to where the credits would be allowed and whether the costs being discussed would be deductible. 2:12:45 PM REPRESENTATIVE ROSES related his understanding that although negligence already disallows a deduction, HB 128 provides clarity. However, once it's retroactive the situation is changed due to an occurrence rather than predicting it prior. Therefore, Representative Roses said that he supported HB 128, save the retroactivity provision. 2:14:32 PM REPRESENTATIVE SEATON, returning to depreciation, posed a situation in which something in the oil field is designed for a useful life of 30 years. Under this provision if something happens to it even when it lasted through its full design life, would it be considered nondeductible because the company did not expend a lot of money to obtain a lifetime beyond its expected life. MR. IVERSON clarified that under current law costs due to gross negligence can be excluded. He then opined that it is really a facts and circumstance type of determination, especially since the life of technology is constantly changing. The aforementioned, he further opined, is why DNR and the AOGCC are involved so that they would have the ability to evaluate whether a pipeline would reasonably be expected to last to a certain age. 2:16:43 PM CO-CHAIR GATTO commented that none of the committee members are experts on pipelines, but everyone is an expert with regard to maintenance and make choices on maintenance every day. He then questioned whether anything could have been done to extend the life of the pipeline to 35 years when it would have needed to be replaced even with maintenance. Co-Chair Gatto asked whether the state is going too far in penalizing a company for failing to do a certain amount of maintenance not knowing what the appropriate amount was. MR. IVERSON reminded the committee that under the Pipeline Systems Integrity Office (PSIO) within DNR, the quality assurance programs required should address an ongoing maintenance plan in which revisions to life expectancy and related revisions to planned maintenance are incorporated. 2:18:31 PM JONNE SLEMONS, Acting Coordinator, Engineering Integrity Coordinator's Office, Division of Oil & Gas, Department of Natural Resources, in response to Co-Chair Gatto, explained that the Leak Monitoring and Engineering Integrity Coordinator's Office (LMEICO) was not actually an emergency order, although it may have had that appearance since it was initiated immediately after the August shutdown of a portion of Prudhoe Bay. She related that LMEICO was intended to be a long-term plan/project and the PSIO replaces it in order to distinguish between the scopes of the two programs, which are significantly different from an administrative point of view. 2:19:56 PM REPRESENTATIVE SEATON surmised then that if anything has to be replaced and it did not have proper maintenance, then it may not be deductible. He further surmised that the aforementioned will be determined by the commissioners. Representative Seaton said, "Whether it's pumps or valves, or well casings, or anything else, if there was any possible way they could've extended the life of that and not whether it's an emergency shutdown, but if it just has to be replaced, then ... this calls into question whether that's going to be deductible and creditable. Is that correct?" MR. IVERSON said it does call that into question, although how far that determination is to go should be made clear by the legislature on the record. He confirmed that improper maintenance will be called into question, but it may not necessarily only be in regard to the extension of the item's useful life. 2:21:23 PM REPRESENTATIVE SEATON clarified that the [legislation] isn't necessarily addressing breakdowns. He related his understanding that any time something is being replaced it would have a capital credit when it is replaced because the item is worn out. He asked if the deductibility and creditability of the capital expenditure and operation money would be called into question, if an item is showing wear and tear that could have been maintained in order to extend the item's useful life. MR. IVERSON responded that he believes that is correct with the caveat that the issue is whether the item "achieves" its useful life rather than extending its useful life. 2:22:37 PM REPRESENTATIVE SEATON then posed a situation in which a facility with a 30-year design life expectancy that exceeds that 30-year design life, "we're now going to ... or we have the possibility of disallowing the capital replacements or not." MR. IVERSON said he thinks that is an option in either case, but it would depend on the facts of any given case. The actual useful life of an item may change depending on technology and practices in the field. 2:23:42 PM ROD MINTZ, Attorney, K & L Gates, informed the committee that he is working with the Department of Revenue (DOR) and the Department of Law (DOL) on production tax matters. With regard to Representative Seaton's question, Mr. Mintz posed an example of a facility with an expected useful life of 25 years that had to be replaced after 23 years due to improper maintenance. He said he understood Representative Seaton's question to be whether in the aforementioned situation the legislation would disallow the entire replacement costs although only two-twenty- fifths of that would be attributable to the improper maintenance. The current legislation could be read as having that effect. However, the introductory language of the proposed paragraph (19) refers to "that portion of the costs", which could mean an allocation as to the portion of the costs that are attributable to the improper maintenance versus the replacement costs necessary in the ordinary course of events. Mr. Mintz said that this is a situation in which it might be beneficial to have some legislative clarification as to the intent of the sponsors on this matter. 2:25:42 PM REPRESENTATIVE SEATON surmised then that clarification is necessary. 2:26:26 PM REPRESENTATIVE ROSES recalled that early on the committee was told that this language would help clarify the situation and thus [the department] would not have to depend on negligence or gross negligence to determine whether the situation under discussion would be deductible. Representative Roses related his understanding from Mr. Mintz that even if the language was interpreted to mean an allocation as to the portion of the costs attributable to the improper maintenance, the amount of maintenance that contributed to the item not meeting its full life would have to be determined. Would that be any less difficult legally to define or defend as negligence or gross negligence, he asked. MR. MINTZ said that there are really two issues: the legal standard and what the facts show. Under any legal standard, the department will have to review the facts, consult with other agencies, and apply the legal standard to the facts. There will be controversy about that, especially when lots of money is at stake. With regard to whether there is sufficient clarity as to what the legal standard is, Mr. Mintz opined that the legislation would clarify that there is a broader legal standard in terms of disallowing costs than exists under the current law. The current law essentially utilizes a standard of gross negligence. If improper or lack of maintenance was due to something lesser than gross negligence, such as imprudent conduct or ordinary negligence, then it would be more difficult to exclude that under the current standard than the standard being proposed in HB 128. Therefore, if the desire is to make the applicable standard more bullet proof, that would be beneficial. The need to evaluate the facts under a particular circumstance would remain, although there would be a better standard in terms of the policy the legislature is interested in implementing. 2:29:31 PM REPRESENTATIVE ROSES asked if it would be difficult to prove gross negligence in a situation in which someone uses water instead of corrosion inhibitors. MR. MINTZ reiterated the need to apply the standard to the facts. He opined that there are surely situations in which the conduct or failures and omissions on the part of a person are so egregious that it would be easy to prove gross negligence. However, gross negligence is certainly a narrower standard that would apply to fewer cases than either ordinary negligence or the standard proposed in HB 128. 2:30:38 PM CO-CHAIR GATTO opined that the language "improperly maintained" is difficult because there could be situations in which only a section of the pipe is corroded. In such a situation, the question becomes whether the pipe was improperly maintained over its entire length or would the corroded portion only be subject to the improper maintenance rule. MR. MINTZ said that the question is the extent to which the phrase "portion of the costs" is intended to provide an allocation between the costs actually due to lack of maintenance and the costs that would have been incurred in any event. Again, he reiterated that the state could benefit from guidance from the legislature as to what it intends. 2:32:02 PM REPRESENTATIVE SEATON related his understanding that the standard being implied in HB 128 is improper maintenance rather than negligence. He pointed out that improper maintenance does not need to be negligence. He inquired as to the "bullet-proof relationship" between improper maintenance and negligence that would be utilized in all cases. MR. MINTZ stated that negligence is a very well-recognized concept in the law while improper maintenance seems to be a new concept for which he was not sure of the guidance available for it. It seems that by adopting something other than a negligence standard seems to indicate legislative intent to have a broader standard. Furthermore, rather than reviewing the standard of care the operator/producer is using, it reviews the results of the maintenance practices or omissions. Therefore, Mr. Mintz opined that it would be possible that costs would be excluded under the improper maintenance standard but would not necessarily be excluded under a negligence standard. REPRESENTATIVE SEATON surmised then that improper maintenance and negligence are not identical terms. Furthermore, improper maintenance can cover more things than negligence and thus is a much broader standard. MR. MINTZ replied, "I don't know that I could quantify it as being much broader or somewhat broader, but I do think it is broader." 2:34:59 PM REPRESENTATIVE GUTTENBERG highlighted that this state has a long history of litigation with the oil industry and often simply to define terms. He asked if the state's relationship with the oil industry has resulted in definitions of the following terms: "not maintained," "improperly maintained," "diminished capacity," "standard practices of the industry," or "good practices of the industry." MR. MINTZ answered that as far as the tax law is concerned, the state does not have those definitions. However, there is some jurisprudence in regard to "good oil field practices" and "reasonable producer standards." As to what standards exist that would address this, he deferred to DNR and AOGCC representatives. 2:36:49 PM JOHN NORMAN, Commissioner/Chair, Alaska Oil & Gas Conservation Commission (AOGCC), Department of Administration, explained that the AOGCC is reviewing this from the viewpoint of the law of general application that will reach into the years ahead, although recent events may be driving this. If HB 128 passes, AOGCC will do its best to implement it. Mr. Norman then offered that there are basically four categories of behavior of an individual or company. Those four categories are as follows: an intentional or willful act; gross negligence or willful or wanton conduct done in careless disregard to the consequences; negligence; and strict liability in which no concern is given to what led up to the incident. The first two categories, an intentional act and gross negligence, are already included in the legislation in Section 1(e)(6). The category of strict liability is partially addressed in Section 1(e)(16). That leaves the third category of negligence [in question]. He noted his agreement with Mr. Mintz that an argument could be made that the legislation disallows property that was not properly maintained or that was negligently maintained. "Normally, in gross negligence it often leaps out at you and the obvious cases and situations will sort themselves out," he opined. He further opined that such cases will be screened out by Section 1(e)(6). He suggested that Section 1(e)(19) will be more difficult because it seems to address ordinary negligence, although he said he did not presume to know. Therefore, if the legislation used the language "negligently maintained," the discussion would be ended. 2:42:57 PM MR. NORMAN suggested that if the intention is to penalize negligent maintenance without imposing a strict liability, then it might be best to use the term "negligence" for clarity. He said that the words "good oil field practices" are preferred by the AOGCC, and that it is his understanding that they are also preferred by DNR and DOR. Those terms already appear in Alaska law, specifically in AS 31.05.170(15) and in a number of places in the state's regulations. He said that it is a more objective and precise standard than one that says "standard practices of the industry" which might invite a company to look at what others in the oil field are doing and it is conceivable that the prevailing number of operators there are all operating not in accordance with good oil field practices. If they are all doing it, they could argue that this is "standard practice" in this field. He noted that there are a number of oil fields in the world that do not practice what AOGCC would consider "good oil field practices." MR. NORMAN addressed the issue of replacement. He noted that various components - compressors and gaskets, for example - have a certain useful life, but that this is not necessarily exact. Consequently, this could be inviting early replacement of component parts that actually still have a longer life. When the time comes to implement the bill's provisions by regulation, AOGCC would strive to promulgate regulations in a manner that does not discourage innovation, such as the pioneering of new techniques and production methodologies. He said that this is necessary because it sometimes takes years to figure out that something does not work. 2:46:09 PM MR. NORMAN advised the committee to re-think the policy being established by Section 1, paragraphs (19)(A) and (B), because operators are often reacting to an event. Paragraph (19)(A) denies the cost of repair and replacement of property or equipment that was not maintained or was improperly maintained. Paragraph (19)(B) denies the cost of an operational shutdown of the entire facility if it occurs as the result of improper maintenance. He stated that AOGCC believes operators should be allowed a certain amount of latitude in determining what is the best way to respond to an event. For example, the safest and most prudent way to handle a particular repair or replacement might be to shut down the facility for a certain period of time. However, under this new policy, an operator may instead elect to keep everything running so as not to lose the deductibility of the repair or replacement. 2:49:13 PM MR. NORMAN pointed out that in partnership operating agreements, the operating partners, as among themselves, do not normally penalize an operating partner for simple negligence, because no one would want to be an operator if, in effect, they are being required to become an insurer of a perfect operation. He requested that the legislature give AOGCC some guidance regarding whether Section 1, paragraphs (6) and (16), mean "negligence" or something broader than that, perhaps even approaching strict liability. 2:50:09 PM REPRESENTATIVE ROSES asked whether the term "good oil field practices" is the measure that would be used in determining intentional, wilful, or gross negligence. 2:50:36 PM MR. NORMAN stated yes, it would certainly be a measure. However, he said that what is looked for is the level of culpability, or the degree of fault. For example, whether an incident is not only a failure to follow good oil field practices, but it is done in a knowing way and often with careless disregard of the consequences. Occasionally in these types of incidents, there will be memoranda to management with management replying "Yes, we hear you, but we're opting to go forward." He reiterated that usually gross negligence cases are egregious violations that "jump out at you." He stated that AOGCC's approach, unless directed otherwise by the legislature, is to measure this type of incident against good oil field engineering practice. He said that it is the operator's conduct that identifies and brands the incident as gross negligence, as opposed to just simple negligence where no one was aware that this type of incident might occur. 2:52:41 PM MR. NORMAN, in response to a question, noted that [the incident which triggered this legislation] occurred in a transit line exiting a treatment facility. He said that, in theory, this line should have carried pipeline quality oil that would have flowed on through and that is why this was a surprise, at least on the one event that occurred. He related that there is testimony by various operators that supports the notion that maintenance is performed up to the anticipated length of useful life. He stated that he did not know the facts in this particular situation, and that if he did he would be unable to comment because it would prejudge something that will ultimately come before the AOGCC. However, he said that he can safely state that it is less likely to find this level of corrosion in a transit line as opposed to what is expected in a gathering line. Foreseeability is always an element of negligence - if something occurs and it is not foreseeable, then normally an operator is not held to have been negligent. 2:54:17 PM CO-CHAIR GATTO announced that CSHB 128(O&G) is being held over.
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