Legislature(1995 - 1996)
03/17/1995 03:55 PM Senate RES
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* first hearing in first committee of referral
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+ teleconferenced
= bill was previously heard/scheduled
SRES 3/17/95
SB 114 HIGH COST MARGINAL OIL WELLS
CHAIRMAN LEMAN called the Senate Resources Committee meeting to
order at 3:55 p.m. and announced SB 114 to be up for consideration.
CHUCK LOGSDON, Chief, Department of Revenue Petroleum Economist,
briefed the committee on high cost marginal wells and Alaska's
severance tax.
The severance tax is levied on all barrels of oil produced in the
State of Alaska. The tax is calculated on a field by field basis
by multiplying the number of barrels of non-royalty oil by the
wellhead price multiplied by the tax rate (either 15% or 12.25%
depending on the age of the field) by the economic limit factor
(ELF).
The ELF is specifically designed to recognize the productivity of
each field that is severance taxed. It has a value that ranges
between zero and almost one. It can never be one. This means that
you take the value of production times the tax rate which results
in a percentage reduction in that total calculation based on how
productive the field is. For instance, if the ELF was 0, 0 times
0 is 0, and you wouldn't pay any severance tax at all.
SENATOR FRANK asked how wellhead is calculated. DR. LOGSDON
clarified that just transportation costs to the point of sale are
deducted. He said that the appropriate wellhead value is something
that the state and oil companies have fought about ever since
Prudhoe Bay came on line. There is no field cost allowance on the
severance tax side, but there is on the royalty side. There is an
allowance for gathering and dehydrating for most of the fields.
DR. LOGSDON illustrated the formula before the committee for
clearer understanding. He said you could also characterize the ELF
as a percentage reduction in the total tax as calculated by
wellhead and rate. You could also think of it as a percentage
reduction in the number of barrels that pay the maximum rate.
The ELF does provide considerable tax relief to the marginal wells
and small oil fields.
He explained that the ELF reduces the severance tax rate as both
per well and overall field wide production declines. The bigger
the field and the better the wells, the higher the tax. The first
300 barrels produced out of every well are tax free. The way it's
designed there are tax benefits to small oil fields. Most fields
(not barrels) in Alaska pay $0 severance tax.
At this point Dr. Logsdon explained some graphs he handed to the
committee titled: "Alaska Severance Tax Summary Table," "Economic
Limit Factor," "Field Size and ELF," and "Shrinking Piece of
Shrinking Pie."
On the ELF formula, itself, he said it was easier to understand if
you break it into two parts: ELF = (1 - 300/WP) - WP is the average
production per well in an oil field. He explained the reason the
first 300 barrels are tax free is because if the average well
produces 300 barrels a day and you substitute 300 and you get 300
over 300 which is 1 and 1 - 1 is 0 and 0 times 0 is 0. So if the
field averaged only 300 barrels a day per well, there would be a $0
ELF and there would be no severance tax.
The second part of the formula is ^(150,00/TP)^1.5333) or the field
size adjustment. TP is the total daily production from the field.
As field size decreases, it pushes the ELF down for a thousand
barrels per well per day. As the field size increases the field
size factor makes the ELF go up.
DR. LOGSDON said that only about five of the roughly 21 producing
Alaska fields pay any oil severance tax. The tax rate is now
falling. If you were to apply the same ELF that was applied in 1990
to 1994 production, the industry would have paid an additional $9.4
million in taxes. That is the tax benefit measured if the ELF
would have been frozen in at the 1990 rate.
Number 348
DR. LOGSDON said for the future, because the production tax rate
will fall as production falls, at some point in time every aspect
of the formula will fall. On the severance tax side, a few years
in the future we will be getting a shrinking piece of a shrinking
pie.
Number 394
SENATOR FRANK asked what the picture looked like on royalty. DR.
LOGSDON answered that there isn't an ELF concept on the royalty
side. Every field pays what the lease terms were. On the field
cost issue, he said, that allowance is a fixed amount that's
adjusted for inflation.
Number 437
SENATOR FRANK commented that royalty, then, would be a constant
piece of a shrinking pie. DR. LOGSDON agreed.
SENATOR FRANK noted that there is the corporate oil and gas tax and
asked if that apportioned world wide profits. DR. LOGSDON answered
that it did. He said it's difficult to say if that tax would
shrink with the pie, so to speak, because it depends on how much
off setting activity there is.
DAVID JOHNSTON, Chairman, Alaska Oil and Gas Conservation
Commission, said this bill would encourage continued production of
the high cost marginal wells. It would probably also return some
currently shut down wells to production. It might make Alaska a
more competitive place to do business.
To put it in perspective, he said, this bill would make the price
of oil for marginal wells $19 per barrel instead of the going rate
of $17. In the Cook Inlet Region, basically 41 wells would
qualify. Total production out of those wells is a shade under
700,000 barrels. A two dollars per barrel credit would cost the
state $1.4 million. He said it was harder to estimate how many
wells would be returned to production under this legislation,
although he thought there would be some additional production.
There are a few wells on the North Slope that would derive some
benefit, but in 1994 only six wells would qualify, MR. JOHNSTON
said. Historically, 28 wells would have qualified in 1990, 33
wells in 1991, 28 in 1992, 32 in 1993. Production numbers range
anywhere from just under 400,000 in 1990 up to 630,000 in 1991, and
560,000 in 1992.
MR. JOHNSTON said that SB 114 is a modest proposal not costing the
state much money - about $5 million per year in credits. It would
keep some wells in production that would continue to pay a royalty.
This bill will better ensure the royalties will continue to be
realized by the state.
Number 516
He suggested deleting language on page 2, line 22 and just go with
the $1,000,000 per well or the $5,000,000 per producer. Otherwise
the language would essentially do nothing.
SENATOR LEMAN asked if his fiscal analysis of SB 114 was based on
the assumption that that particular section is deleted. MR.
JOHNSTON answered yes.
Number 555
SENATOR FRANK asked if these wells pay a severance tax. MR.
JOHNSTON said they didn't. SENATOR FRANK asked if it was just
reducing a royalty payment. MR. JOHNSTONE said he understood it to
mean that it would keep these wells producing and we would be
getting 12.50% royalties on that production. On a 100 barrel well
that would net approximately $125 back to the state, but it would
cost us $200 in credits. You could offset that with some royalties
that would possibly be lost in the absence of these credits.
MR. JOHNSTON said that SB 114 is just one approach to encourage
production. He thought reducing the royalty would be like bringing
a sledge hammer to bear against the problem.
Number 571
SENATOR LEMAN asked him to explain the transferable tax credits on
page 3, line 2. MR. JOHNSTON explained that you may receive
credits, but not have any severance tax to apply it to in which
case the credit could be sold to another producer who does have a
tax obligation, or wants to purchase leases, or has a field he
wants to develop that would have a higher ELF.
TAPE 95-23, SIDE B
SENATOR LEMAN asked if it would be possible for the legislature to
require that there be benefit to the state in a transaction like
that. MR. JOHNSTON said that wouldn't necessarily be anything the
state would be concerned with, that it's just a commodity for
producers to sell or purchase.
SENATOR FRANK said it seemed like we are subsidizing production and
he was more interested in subsidizing exploration activities so we
could increase profitable production. He didn't really support
taking money out of the treasury to keep a well in production if
that's what is being proposed. MR. JOHNSTON agreed that
exploration should be encouraged, but this is just a tool to ensure
that the production we do have, especially in the Cook Inlet,
remains on stream. He thought this would be economically
significant to the people who live on the Kenai Peninsula.
SENATOR HOFFMAN said, looking at the fiscal note, it looks like it
would cost the state $1.1 million through 2001 and asked what the
benefits would be in terms of jobs and the total annual salary that
would be gained by keeping up the production of these fields as a
result of the legislation. MR. JOHNSTON said he didn't have that
information. He thought the operators in Cook Inlet would have a
good idea.
Number 494
BRAD PENN, Marathon Oil, explained that the credits are not a
payment out of the treasury; it's just a reduction of what would be
coming in if these wells are kept in production.
SENATOR LEMAN said that possibly the credits should be limited to
those similar type projects. MR. PENN said, theoretically, you
might be able to assign a credit to someone who wants to bid on
leases and drill an exploratory well with up front royalties.
DEBORAH VOGT, Department of Revenue, pointed out that the fiscal
note needed revision if subsection (a) of b (2) was deleted.
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