Legislature(2007 - 2008)BARNES 124
03/21/2007 01:00 PM House RESOURCES
| Audio | Topic |
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| Start | |
| Presentation: Ncsl/usda | |
| HB128 | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| + | TELECONFERENCED | ||
| += | HB 128 | TELECONFERENCED | |
| + | TELECONFERENCED |
HB 128-OIL & GAS PRODUCTION TAX: EXPENDITURES 2:15:15 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." [Before the committee was CSHB 128(O&G).] The committee took an at-ease from 2:16 p.m. to 2:17 p.m. 2:18:35 PM KEVIN BANKS, Acting Director, Division of Oil & Gas, Department of Natural Resources (DNR), began by relating DNR's support for HB 128. He then turned to paragraph (19) [on page 3, lines 19- 23] of the legislation, which suggests a new category of costs that would be eliminated from a potential deduction in calculating the petroleum production profits tax (PPT) should there be repair or replacement or improperly maintained property. 2:20:11 PM CO-CHAIR GATTO asked if DNR has a definition of the term "improper." MR. BANKS related his understanding that John Iversen, Department of Revenue (DOR), has been working with Legislative Legal and Research Services, himself, and staff of the Alaska Oil and Gas Conservation Commission (AOGCC) to develop clear language. Mr. Banks related his belief that this is a provision of the petroleum production profits tax (PPT) that would not be used very frequently. He suspected that there could be a situation in which an auditor determines there has been some kind of failure, which would indicate that there's a problem. At that point the commissioner of DOR, under this provision, would be able to consult with DNR, the Conservation Commission, or the Department of Environmental Conservation (DEC) and ask whether something had occurred or whether the failure had occurred due to improper maintenance. After those conversations, the commissioner will be able to assemble an opinion regarding whether or not a facility had been improperly maintained. At this point, the commissioner of DOR could take it or leave it as he is only tasked with taking such into consideration when making a decision regarding whether the cost is deductible or not. He highlighted that DNR is now embarking on an effort, as a consequence of the events last spring and summer, to create the Petroleum Systems Integrity Office (PSIO). The PSIO will be responsible for collecting information regarding how facilities owned and operated by the [state's] lessees are being maintained. The PSIO will rely on the internal controls that the operators normally use in scheduling maintenance, various industry standards, as well as the operators' own internal controls for maintaining equipment. 2:24:47 PM REPRESENTATIVE WILSON related her understanding that the department can already do what HB 128 says. 2:25:14 PM MR. BANKS explained that [the department], as the landlord, will be extending the oversight over operations conducted by the lessees. The purpose of this organization is not to provide, on a routine basis, information that's relevant to a taxing authority of the state. He clarified that [the department] is going to assure that the facilities in operation in the oil field are being taken care of. When the commissioner of DOR comes to DNR and wants to know whether or not equipment has been maintained appropriately. Once [the PSIO] is up and running there will be evidence to share to answer the aforementioned question. In fact, he suggested that a lessee knowing that potentially the cost of maintenance activities might not be deductible under taxes may have the incentive to provide the PSIO with information that they have properly maintained their equipment. The evidence DNR may collect would serve as a benefit to establish that the lessee or taxpayer had legitimate costs to be deducted. 2:27:05 PM CO-CHAIR GATTO asked if this requires a person on-site or will the poor maintenance or nonmaintenance be based on the evidence of a leak, corrosion, or a pipe shut down. He noted his understanding that there can be a pipe shut down for a number of reasons, none of which are improper maintenance. Therefore, he questioned whether there is a test that would determine whether there is proper maintenance, improper maintenance, failure, et cetera. MR. BANKS responded that as part of the routine function of the PSIO, PSIO staff will examine the records and documents provided by the lessees that illustrate the types of maintenance plans and equipment replacement planning in place. The PSIO will verify that the lessee did what it said it would do. There will also be occasional on-site inspections to ensure that equipment is in place that the lessees specify and meet the standard certification expected in the various settings utilized. The idea, he clarified, is to ensure nothing happens. Mr. Banks emphasized that the PSIO won't pursue a problem. However, pursuing a problem may be the result of a tax audit that reveals a failure due to improper maintenance. Under those circumstances, the commissioner of DOR may request that DNR help determine whether [the failure] was caused by an accident or gross negligence or something in between, which is what paragraph (19) attempts to address. At that point [the PSIO] can turn to its records and information to establish that. 2:30:11 PM REPRESENTATIVE WILSON recalled that the PPT legislation included language that would cover the existing situation. Therefore, she questioned whether, because of regulations, BP's request for a tax credit could be disallowed, if the department so chose. She expressed interest in understanding what HB 128 is doing that's different. MR. BANKS replied that the regulations regarding the implementation of terms like improper maintenance, gross negligence, and other aspects of this particular section of the PPT is the responsibility of DOR. 2:31:55 PM JONATHAN IVERSEN, Director, Anchorage Office, Tax Division, Department of Revenue, said that there are a number of provisions in the PPT already that would be applicable to this sort of repair costs. Although there are a number of tools under the PPT to exclude costs, HB 128 would help to clarify whether costs attributable to improper maintenance can be excluded, in the absence of gross negligence. The legislation before the committee today makes it bulletproof, he opined. 2:33:20 PM ROBERT E. MINTZ, Attorney at Law, Kirkpatrick & Lockhart Preston Gates Ellis LLP, explained that the current law has an area which is clear and an area that isn't. The area of existing law that is clear is the exclusion of costs due to gross negligence. However, gross negligence is a much narrower category than what this legislation is trying to address, which is the lack of maintenance or improper maintenance. The unclear portion is the general definition of lease expenditures or deductible costs, which are ordinary, necessary, and direct costs of exploring, developing, or producing oil and gas deposits. He said that in interpreting that general definition, current law directs the department to review typical industry practices and standards in the state that are reflected in the types of costs that may be billed under joint operating agreements. If the department reviewed this and determined that improper maintenance costs are typically disallowed by industry practice, then it would be firmer ground to disallow them. If the facts are otherwise, the department would have to rely on the gross negligence standard. Mr. Mintz specified his agreement with Mr. Iversen that legislation is appropriate if the legislature is interested in making clear that costs due to lack of maintenance or improper maintenance should be excluded. 2:35:29 PM REPRESENTATIVE SEATON related his understanding that Mr. Mintz is excluding the lease expenditure portion of the enrolled version of House Bill 3001 on page 28 [which was passed in 2006]. Under that provision, there is another fallback so that if the other producers within that lease don't allow that those deductions were legitimate deductions or were caused by negligence, then the state automatically doesn't allow them as well or can exclude those costs as well. Therefore, there seems to be gross negligence and negligence as seen by the other owners on that lease. He questioned, "Can you tell me then, in reference to that, where is this new standard of improper maintenance come from our standpoint if the other owners of that lease don't consider that the improper maintenance was enough to not allow that to be deducted from the operator's costs that they're billing them. At what point does our standard of improper maintenance come in?" 2:37:26 PM MR. MINTZ stated his agreement that if the costs were in a unit subject to a unit operating agreement that the department had approved or acquired under [AS 43.55].165(c) or (d) and the producers disallow the bill, it would be disallowed for tax purposes as well. He then related his understanding that Representative Seaton is proposing a situation in which HB 128 is passed, but there's a situation in which the costs are billed under an operating agreement and the partners don't dispute it, they pay it. The question is whether the state would have to allow it as a deduction, to which the answer is no because subsections (c) and (d) specifically exclude all of the items listed in subsection (e). He directed attention to the lead-in language to subsection (c)(1) on page 28 and subsection (d)(1) on page 29 of House Bill 3001. The language specifies that lease expenditures that are deductible are the costs that are listed other than items listed in (e) of the section, which is the list of excluded items. 2:39:16 PM REPRESENTATIVE SEATON said: That's what I was recognizing. All of these, whether it's the gross negligence standard or the ... strict liability clause of 16 if there's a spill. And then we have this third fallback that we're just talking about in lease expenditures. If they're disallowed by the other operators. ... I guess if we're talking about standards of the industry and we're talking about standards that are used, ... is your position that the other owners are going to automatically roll over for these big high costs or you would expect them to roll-in and pay a good percentage of these high costs if they attribute them to negligent operation of the unit. If that's not the case, then what we're talking about a whole series that is beyond what they would disallow for negligence. Is that correct? MR. MINTZ said he wasn't sure he could predict how the other owners are going to behave. However, he recalled that in one of the early hearings of [House Bill 3001] a representative from ConocoPhillips Alaska, Inc. (ConocoPhillips) discussed that its corporate policy in reference to bills is to challenge bills that they believe are due to gross negligence or the acts of an imprudent operator. He further recalled that the ConocoPhillips representative said that a determination had not yet been made as to the company's position related to the particular costs related to pipeline corrosion. 2:41:49 PM DON BULLOCK, Attorney, Legislative Legal Counsel, Legislative Legal and Research Services, Legislative Affairs Agency, explained that under the PPT the producers are allowed to deduct the allowable lease expenditures in determining their tax. Under the 22.5 percent tax rate if there's a $1 deduction, the state shares 22.5 cents of the cost. In addition to the deduction allowed in determining the amount of the tax to be paid, there is also a credit for certain qualified capital expenditures. The aforementioned provides [the producers] another 20 percent of their qualified capital expenditure. He highlighted that to be a qualified capital expenditure, it has to also be an allowable lease expenditure. This bill, he stated, presents the question of how much risk the state wants to be for certain costs. Mr. Bullock then turned to negligence, and pointed out that an entity would be negligent because it didn't do what was expected. Therefore, HB 128 requires the commissioner of DOR to determine what is good oil field practice. The legislation specifies that certain deductions for cost will be given, but a certain level of performance is expected. How much of a deviation from what's expected to be good oil field practice will be determined by the commissioner of DOR. MR. BULLOCK then turned to the matter of depreciation. The PPT has some aspects of an income tax as it starts with a gross value at the point of production and the costs are allowed. However, the [costs] are all expensed and there's no capitalization. This means that regular maintenance costs would be deducted over the year as they go, but if equipment isn't maintained, then there would be a disproportionate deduction to make up. Therefore, if the cost is one that could've been prevented, then the question with HB 128 is whether the state is going to share in the cost of something less than what the state finds to be an acceptable standard. 2:45:23 PM CO-CHAIR GATTO posed a scenario during which the first three years there are normal maintenance costs of one, one, and one for a total of three. He then posed a scenario in which a company doesn't do maintenance until the fourth year when it's four, which would've been normal. In such a situation should the company be penalized for doing all of its maintenance in year four, or should the company be penalized for not doing maintenance during the first three years. MR. BULLOCK explained that it's the history of the maintenance as well as whether the company should've done something in prior years that later resulted in extraordinary cost. The [question] is whether the company deviated from the standard of good oil field practice. This legislation has the following two aspects: it tells a producer what level of performance is expected, that they be consistent with good oil field practice; and if the producer doesn't [follow good oil field practices], the state doesn't want to share in costs that could've been avoided. 2:46:33 PM CO-CHAIR GATTO posed a situation in which in year four a company only has an expense of three, and asked whether the companies should be rewarded for delaying maintenance to year four or should they be penalized for not doing one, one, and one. MR. BULLOCK said, "You do that in the forms already in the bill [by] giving credit for development of new equipment. That is something you can consider." The narrow scope of HB 128 addresses the level of operation that's expected for the state to share the cost. 2:47:14 PM REPRESENTATIVE SEATON commented that he is unclear with regard to the standard for life expectancy of something. He posed a situation in which something has a life expectancy of 20 years, but in the 22nd year it breaks and causes the pipeline to be shut down. In such a situation, when does the amount of maintenance and something's useful life come into play with regard to improper maintenance and subparagraphs (B) and (C) in relation to a partial or complete shutdown. MR. BULLOCK opined that the aforementioned is why the bill sponsor asked the commissioner of DOR to determine the expected standard. Still, it's logical to assume that toward the end of the useful life of property, it would require more maintenance. He mentioned the notion of normal wear and tear versus unusual wear and tear. He reminded the committee that it's a matter of what good oil field practice requires after [the useful life of an item]. One option is to insert presumption specifying clear examples of what should be done. He recalled that during the hearings in the House Special Committee on Oil and Gas, how often the inspection pigs were utilized was mentioned. As a policy, certain inspections could be required in addition to good oil field practice. 2:49:33 PM CO-CHAIR GATTO read lines 19-23 on page 3, and opined it's an almost impossible standard to meet. He asked if there's any way to get to an easy standard. MR. BULLOCK said that the committee is facing whether this is a high standard or merely the expected standard. The state is sharing in the costs through these deductions and credits. Therefore, it's a policy determination as to how much latitude the committee wants to allow. He pointed out that AS 43.55.165(a) discusses ordinary and necessary costs. The aforementioned is the rule of thumb. Subsection (e) being amended by HB 128 is where the legislature decides how much risk the state will take and what costs will be shared as well as for which expenditures, through leases expenditures and qualified capital expenditures, a credit will be allowed. 2:52:12 PM CO-CHAIR GATTO recalled that the $.30 was inserted for a specific maintenance reason. He asked if it would've helped to have never had that $.30 cents or should it be higher. MR. BULLOCK replied that there may be different reasons to have the $.30. One of the ironies of the [$.30 provision] is that if there are malfunctions and declining production and the volume decreased, the $.30 times the lower volume broadens the deduction that can be taken as it lowers the threshold. 2:53:19 PM REPRESENTATIVE SEATON expressed concern that most all of the standards are fairly firm, save this one. "The industry," he opined, "is going to have a very hard time pinning down what proactively is going to be determined in retrospect if something happens ... to have been improper maintenance." He further opined that this standard will depend more on whether the state is running a surplus or deficit in the budget. The earlier suggestion of including some presumptions might help, he commented. He then turned attention to the language on page 3, line 19, where it says, "costs or that portion of the costs" and recalled that one of the commissioners that would be deciding that didn't seem to know what that standard is. 2:55:12 PM CO-CHAIR GATTO announced that this Friday at 1:00, the committee will accept testimony on what constitutes proper oil field practices. [HB 128 was held over.]
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