Legislature(2003 - 2004)
05/17/2003 10:15 AM JUD
* first hearing in first committee of referral
= bill was previously heard/scheduled
= bill was previously heard/scheduled
SJR 19-CONST. AM: PERMANENT FUND INCOME SENATOR GEORGIANA LINCOLN, sponsor of SJR 19, and Representative Eric Croft, sponsor of HJR 3 (House companion legislation), introduced themselves. SENATOR LINCOLN told members that members' bill packets contain a copy of SJR 19, its fiscal note, a sectional analysis, and a letter from former Governor Jay Hammond. She described each section of SJR 19 as follows. · Section 1 requires that the income of the permanent fund be deposited into the earnings reserve account and distributed according to specific statutes as they read on July 1, 2002, which contains a statutory formula for the distribution. · Section 2 requires that the statutes referred to in Section 1 remain in effect as they were on July 1, 2002, essentially freezing those statutes. That will allow future Legislatures to appropriate funds from the earnings reserve account only as authorized under the frozen statutes unless the voters ratify a different appropriation. · Section 3 suspends and repeals the [constitutional] amendment if the IRS makes any adverse ruling on the earnings reserve account regarding taxation of the fund. SENATOR LINCOLN said the crux of the legislation is to protect the permanent fund dividend. She noted that members of a House committee met that morning and discussed implementing various taxes to close the fiscal gap and using the permanent fund earnings, which is frightening for constituents. REPRESENTATIVE CROFT informed members that he introduced HJR 3 because he believes the public should weigh in on this very important public policy decision. The public is very concerned about the Legislature's ability to take away the dividend. The Legislature has been a responsible steward of the dividend throughout the permanent fund's history, but the public should be involved in the decision of whether the Legislature is able to use any portion of the earnings. He said this constitutional amendment assures the public it will be involved in that decision. REPRESENTATIVE CROFT said, regarding the taxation issue, the courts apply a number of tests to determine whether a public fund should be taxable. The two tests of primary concern are whether the fund is an integral part of the state and whether its proceeds accrue to a private benefit. He does not believe establishing the dividend in the Alaska Constitution, by statute, or by regulation will change whether the fund is an integral part of the state or whether it is a public or private benefit. He maintained that the Michigan Educational Trust ruling should provide the Legislature with solace regarding the tax issue and said he does not believe this constitutional change will create any new risk. REPRESENTATIVE CROFT concluded: We put on those provisions that Senator Lincoln talked about at the end that give protection if my reading of those cases is wrong. So, we've tried to protect it two or three different ways to make sure that this is not taxed, and if we can solve that problem, then the fundamental policy question becomes is it appropriate that we ask the people before we change the dividend or use their earnings. We believe it is and that is why we introduced this constitutional amendment. SENATOR LINCOLN referred members to a 1998 letter from Morrison & Foerster, a legal firm in Washington, D.C., that addresses the tax issue. In the executive summary the author says that three primary arguments support the position that the income of the fund and the APFC are not subject to federal taxation. The first argument is that the constitutional doctrine of implied immunity of state instrumentality of federal taxation applies. The second argument is that, according to the history of the IRS rulings, income earned by a state or an integral part of a state is not specifically subjected to taxation. The third argument, an alternative, is that the income is excluded from Section 115 of the IRS Code, which excludes gross income from any income that is derived from the conduct of an essential government function and accrues to the state or political subdivision. SENATOR FRENCH thanked Senator Lincoln and Representative Croft for introducing the resolutions and said, in his mind, this is the central public policy question before the state for the next several years. The issue is whether to let the people have a say before the Legislature takes part of their dividends and spends that money on government. He stated: That is a train that's on the tracks and I think the history of the permanent fund and the history of our grappling with the fiscal issues in the state says that the people expect to vote. The people expect a say and the only way they're going to get a say is if this or a very similar amendment gets in front of them on the ballot soon so that this is subject to a public vote. He said he is not very concerned about the tax issue. He has read the Morrison & Foerster letter twice and his reading is the permanent fund is nothing but an integral part of the state. It is made of Alaskan oil that has been transferred from underground to a bank above ground. He thanked both sponsors for the work they have done and stated full support for the resolutions. CHAIR SEEKINS said the Senate Judiciary Committee plans to hold hearings during the interim to get public input on the POMV issue. He intends to work in conjunction with APFC Board of Trustees and to discuss SJR 19 and HJR 3 simultaneously. He said his concern is that the legal opinion cited today was written in 1998 and he wants to make sure the Legislature is updated. He feels it would be valid to ask for a legal opinion from the IRS. He emphasized his intent is to make sure the public trust is protected. SENATOR THERRIAULT indicated he did not have a copy of the letter from former Governor Hammond. MR. BRIAN HOVE, committee aide, said he would be sure to distribute copies of that letter to members. SENATOR THERRIAULT then stated: I really would like to take a look at that. Of course, we saw a letter from a former Governor the other day that suggested that to save the longevity bonus, we just go back and ignore the Zobel case. I don't know exactly how many times we have to lose that case before it's clear that we can't do what the Governor suggested. The other thing, Senator, I'm not sure this letter from Mr. Martin - is this something that you had included in the packet and had distributed? SENATOR LINCOLN was not aware of the letter Senator Therriault was referring to. REPRESENTATIVE CROFT pointed out that Mr. Martin was available to testify at the meeting scheduled the prior day, but because that meeting was postponed until today, Mr. Martin sent in his written testimony. CHAIR SEEKINS repeated his intent is to include SJR 19 as part of the committee's discussions on the permanent fund during the interim. SENATOR ELLIS said his personal preference is that the committee take action on SJR 19 today and move it to the full body for consideration. CHAIR SEEKINS said he is concerned about the legal ramifications and does not believe the committee can address those before the end of session. 10:32 a.m. SENATOR THERRIAULT indicated the Board of Trustees, at its next meeting, plans to discuss the issue of who would have standing to request an IRS ruling and the mechanics of that procedure. CHAIR SEEKINS maintained that answers to those questions are essential. SENATOR FRENCH said his view differs. He stated the IRS is a subsidiary of the U.S. Congress, which is where this battle will be fought if it is to be fought decisively. If the IRS issues an adverse ruling, the state will take the ruling to court. The court will not look to previous IRS rulings; it will look to Congress to determine whether Congress has written a law that affects this fund. He noted that Congress has been enormously reluctant to tax the state. He believes that in the absence of clear direction from Congress, the court is highly unlikely to say that the United States government can tax an integral part of the state. CHAIR SEEKINS responded that Senator French has much more faith in the court system than he does. 10:35 a.m. SENATOR THERRIAULT indicated that he is not concerned that the permanent fund, in its current structure, will be deemed to be taxable. He believes Congress would have to take action to change that status. However, he is concerned that establishing the payout mechanism in the Alaska Constitution instead of keeping it completely within legislative control could trigger the question of whether the fund is being used for a public purpose; that is the question he would like the IRS to address. He then said he does not understand the need to push this legislation through now since the public could not vote on it until next year. He believes it is important to take the time to find out who has standing to make a request for a ruling from the IRS. SENATOR FRENCH maintained the particular genius of SJR 19 is Section 3, which would revert the permanent fund to its pre-tax status should Congress take action. CHAIR SEEKINS maintained it is better to have a clear picture ahead of time and reduce any risk. REPRESENTATIVE CROFT asked if the committee would be taking public testimony on SJR 19. CHAIR SEEKINS said the committee would have ample opportunity to take public testimony on SJR 19 at this time and during the interim. SENATOR LINCOLN said legal counsel from Legislative Legal and Research Services does not believe the Morrison and Foerster opinion needs to be updated. Director Tam Cook reiterated that assets and income of the permanent fund are those of the state and therefore are not subject to federal taxation. She questioned opening Pandora's box when the resolution contains a repeal clause. CHAIR SEEKINS argued the committee should address the question of who has standing to request an IRS opinion and how the POMV proposal would work. He said he is not ready to determine whether constitutional amendments for both SJR 19 and the POMV proposal should be on the ballot simultaneously without giving full consideration to both proposals first. REPRESENTATIVE CROFT stated it is his understanding that the IRS is reluctant to issue prospective rulings. He then informed members: The integral part of the state test, which the Michigan Educational Trust, the Sixth Circuit in that case determined, where private money went into government hands and then was paid back out for tuition, they ruled that was an integral part of the state - that educational trust. This is government money that started as government money and stays. And the distinction between putting it in regulation, statute or the Constitution, for example, Mr. Chairman, the CBR is no less governmental by the fact that we have a three-quarter vote on it. The fact that you have made it through a different governmental process - accessing it through a different governmental process, sometimes with higher hurdles, doesn't change its essential governmental character. But to make doubly, triply sure, we put that Section 3 on. I hope we don't let this taxation issue, which will never conclusively be solved I believe, delay the public right to have a constructive say in the dividend and the future of the fund. I'm glad that we're going to take it out to public hearing but as long as the ultimate, complete power rests solely in the legislature, I don't think you're going to get broad public authority to use some of those funds. I don't think you're going to get that public buy-in. So, I understand what you're going to do. Obviously I'm disappointed about it. I'll let you hear other testimony or not as you will, but I appreciate you hearing it here today. CHAIR SEEKINS replied that every legislator should advocate for his or her position. He believes, as a former permanent fund trustee, that the Legislature should not hurry into a position. He then took public testimony. MS. VICTORIA PATE, a resident of Nikiski testifying on her own behalf, stated strong support for SJR 19. She believes it will guarantee for the permanent fund what 83 percent of the voters supported in 1999. She said almost every candidate she heard in November of 2002 promised not to touch the permanent fund without a vote of the people. She believes SJR 19 will fulfill that promise. She asked members to pass SJR 19 out of committee so that all members of the Senate could vote on it. She believes Section 3 provides a back door if the IRS does not rule favorably. 10:46 a.m. MR. JAMES PRICE, a resident of Nikiski testifying on his own behalf, echoed Ms. Pate's testimony. He believes SJR 19 is supported by an overwhelming majority of the citizens of Alaska. He believes the threat of IRS taxation is real, however SJR 19 recognizes and addresses that threat. He strongly encouraged legislators to give Alaskans the opportunity to vote on a constitutional amendment. MR. BILL ARNOLD, a resident of Sterling testifying on his own behalf, thanked Representative Croft and Senator Lincoln for introducing the resolutions. He said the Morrison & Foerster 1998 report boils down to two issues. First, the report says it might be argued that the implied immunity of state instrumentalities from federal taxation applies. Second, federal taxation cannot reach income earned by an integral part of a state. He said he has researched germane U.S. Supreme Court cases and believes the argument boils down to states' rights. The IRS promulgates regulations and interprets the code, but the court would decide any conflict. However, it all begins in Congress. [A portion of Mr. Arnold's testimony was inaudible.] He said his desire is to protect future generations of Alaskans. MR. BOB BARTHOLOMEW, Chief Operating Officer of the Alaska Permanent Fund Corporation, told members the current board of trustees has not deliberated SJR 19 and taken an official position. He said many people have commented that the Morrison & Foerster report supports the tax-exempt status of the permanent fund as it is today. The executive summary and the final paragraphs of the opinion focus on the proposed change. He said the Board of Trustees has been concerned about understanding the effects of that change and plans to focus on them, particularly on the creation of a private benefit. He informed members the Board of Trustees will consider its role in this issue, if any, at its June meeting. The board needs to determine its role versus the role of the executive branch versus the role of the legislative branch. MR. BARTHOLOMEW told members if the policy decision is to move forward, he hopes two issues are considered. The first issue is the Board of Trustees has proposed constitutional changes to the permanent fund because the board deals with how much money comes out of the permanent fund each year and desires to make the rules that govern the permanent fund consistent with its current investment strategy. The board believes that issue is critical, regardless of the outcome of SJR 19. The second issue is that if the Board of Trustees' percent of market value (POMV) proposal is adopted, the mechanics of it would be inconsistent with SJR 19. Under SJR 19, the calculation of the dividend amount would be based on existing statute, but the board believes that calculation was designed for a fund that was created 26 years ago and it no longer works in the same way. He said if the dividend were enshrined in the Alaska Constitution, the board would recommend that the Legislature look at using a dividend calculation method that is compatible with the POMV. Mr. Bartholomew noted that legal counsel to the APFC was available to answer questions about the tax status. 10:55 a.m. SENATOR THERRIAULT noted Mr. Storer said last week the trustees are primarily interested in the POMV because they view their highest goal as preserving the purchasing power of the fund over time. He asked if the legislature takes what he considers to be an overly simplistic step to ensure a dividend [SJR 19], it would be inconsistent with the POMV proposal, which is designed to preserve purchasing power. He stated the philosophy [of the resolution] is not inconsistent but the methodology is. MR. BARTHOLOMEW said if the citizens adopt the POMV payout, and SJR 19 is also adopted, the mechanics would be incompatible. Although the mechanics of SJR 19 are in use today, they are problematic, and one motive behind the POMV proposal is to make the payout strategy work with the investment strategy. SENATOR THERRIAULT asked if the question of ensuring that a percentage of the payout would be used for dividends and the question of adopting the POMV methodology are compatible and could be linked or whether the two issues would have to be posed as separate questions. MR. BARTHOLOMEW said they could be separate questions. The trustees' POMV proposal allows [up to] 5 percent of the value of the permanent fund to be made available annually for distribution. He pointed out that a House bill attempts to determine how that money would be distributed and provides a mechanical set up that would work with the POMV. He said the House bill would delineate the distribution in statute; SJR 19 sets a distribution method in the Constitution. SENATOR THERRIAULT said he noted a previous testifier said if the POMV methodology is adopted, and a percentage payout is enacted to guarantee a dividend, that would smooth out the swings in the dividend amount. He said that would benefit people who build the dividend into their budget. 11:00 a.m. MR. BARTHOLOMEW responded: ... To reiterate, the highest dividend that's been paid was $1,950. We're projecting two years from now, all things staying equal in the financial markets, we'll have a dividend of $600. If you roll that up to a statewide perspective, the total amount paid out for a dividend at its largest was $1.1 billion. In two years, we project the payout to be $400 million. Just when you look at it in that scale, that is a huge difference - $1.1 billion to $400 million - what comes into the economy. What's available changes significantly and it varies drastically. If you had a percentage of market value and decided whatever amount of that you wanted to go to the dividend, you would not see those yearly swings. You'd have a much tighter range. You would not have had a $1,950 dividend; it would have been smaller. You would not have a $600 dividend; it would be larger. Again, everything depending on what you pick, but if you tried to keep the percentage that goes to the dividend the same, you would have had a much narrower range. But the more important issue that the percent of market value proposal has is under the current constitutional structure, you can go to zero, you can have no distribution. So you can have a dividend formula as we have today that says come this June 30, our 5-year formula says pay to the citizens of Alaska an $1100 dividend. If the stock market takes a dip or there's an international event that drives the stock market down before June 30, there could be zero available. I think the second most significant change that the percent of market value offers is it would remove the floor that there would ever be zero available. And that has as large an effect on future payouts from the fund for dividends or any other purpose. So there's a formula issue. You could improve the formula to make it smoother, more predictable, but you could also have a policy decision of whether you want to risk going to zero or whether there should be a distribution every year. That's the second issue that can really affect payouts in the future and we believe, by making the change, you could achieve both. A stable consistent payout is one policy issue. The second one is how do you want to approach the determination of the dividend. SENATOR FRENCH said he is concerned about the effect of a deflationary period on the POMV method. He asked that the trustees analyze that scenario at great length because a 10-year period of deflation could result in a loss of half of the fund's value. He asked Mr. Bartholomew to take back to the trustees an interesting example of a parallel to the permanent fund and dividend in its current form. He referred to page 21 of the Morrison & Foerster letter, and explained that another state created a lifeline fund to subsidize utility bills of the poor. The IRS concluded that use of the fund was an integral part of the state. The funds came from a state ordered surcharge on utility bills and were invested until paid out to needy individuals. TAPE 03-51, SIDE B He asked that the trustees, as they examine the proposals, make the point that the IRS has looked at state created funds that pay dividends directly to individuals and found that use to be an integral part of the state and the fund was thus shielded from taxation. MR. ROGER SHANNON, testifying from Kenai on his own behalf, said, in regard to SJR 19, "The hens have been disturbed, the fox is on the loose, the [indisc.] are aware." CHAIR SEEKINS closed public testimony. SENATOR ELLIS asked that the entire committee decide whether to take action on SJR 19 at this time. He then moved SJR 19 to the Senate Finance Committee with its accompanying fiscal note. SENATOR THERRIAULT objected to the motion. He asked Senator Lincoln if it was her intent when she introduced SJR 19 to preclude public and legislative consideration of the POMV methodology. SENATOR LINCOLN replied the POMV issue is separate from SJR 19. SENATOR THERRIAULT noted that the committee was just told that the mechanics of SJR 19 are not compatible with the POMV. He asked if it is her intention to cut off consideration of the POMV proposal. SENATOR LINCOLN said she is aware that folding SJR 19 and the POMV together would create some complications, but she did not explore those complications because she feels very strongly about SJR 19. SENATOR THERRIAULT maintained that guaranteeing a dividend via SJR 19 would prevent passage of the POMV proposal. He pointed out that Mr. Storer said if the Legislature wants to guarantee a dividend, SJR 19 is a clumsy way of doing that. He asked Senator Lincoln why she is not interested in looking at a methodology that would mesh with the POMV proposal. SENATOR LINCOLN said she has not concluded that SJR 19 is a clumsy way of guaranteeing a dividend. She said she is not prepared at this point to say whether the two are compatible. She said right now, SJR 19 and the POMV are very separate issues and she believes SJR 19 is very workable. She then thanked the Chair for hearing SJR 19 at this time. She acknowledged that she would be disappointed if the committee does not take action on SJR 19 at this time. However, if that is the case, she hopes that she and Representative Croft can be involved in the discussion during the interim. CHAIR SEEKINS said he hopes so too. CHAIR SEEKINS announced the following result of a roll call vote: Senators French and Ellis were in favor; Senators Therriault and Seekins were opposed. Chair Seekins noted the motion to move SJR 19 to the Senate Finance Committee failed.