Legislature(2015 - 2016)BUTROVICH 205

04/02/2016 02:00 PM RESOURCES

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Audio Topic
02:06:30 PM Start
02:06:52 PM SB163
02:11:51 PM Overview: Alaska's Oil and Gas Tax Credit System
04:33:47 PM Adjourn
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
-- Please Note Additional Hearing --
+ Overview: Alaska's Oil and Gas Tax Credit System: TELECONFERENCED
Department of Revenue; Legislative Consultants
enalytica
-- Testimony <Invitation Only> --
+ Bills Previously Heard/Scheduled: TELECONFERENCED
+= SB 163 NATL. RES. WATER NOMINATION/DESIGNATION TELECONFERENCED
Moved CSSB 163(RES) Out of Committee
^Overview: Alaska's Oil and Gas Tax Credit System                                                                               
        Overview: Alaska's Oil and Gas Tax Credit System                                                                    
                                                                                                                              
                [Contains discussion of SB 130.]                                                                              
                                                                                                                                
2:11:51 PM                                                                                                                    
CHAIR GIESSEL announced the overview  of Alaska's oil and gas tax                                                               
credit system  and said that the  referral of SB 130  is pending.                                                               
She invited Commissioner Hoffbeck and  Mr. Alper to explain their                                                               
past experiences with Alaska's tax policy.                                                                                      
                                                                                                                                
                 Department of Revenue Overview                                                                               
                                                                                                                                
RANDALL  HOFFBECK,  Commissioner,  Department of  Revenue  (DOR),                                                               
Juneau, Alaska, said he has  about 30 years of experience dealing                                                               
with Alaska tax policy, the  majority of it dealing with property                                                               
tax issues, but he also served  five years as the state petroleum                                                               
property  assessor and  was  a contractor  to  the Department  of                                                               
Revenue (DOR)  for two years  before that.  Prior to that  he was                                                               
the tax  manager for  the North  Slope Borough  dealing primarily                                                               
with oil and  gas taxes. Most recently, he served  as the CFO and                                                               
finance  director for  the North  Slope  Borough, the  government                                                               
entity where the Prudhoe Bay oil  fields reside, and now he is in                                                               
his  current position.  He  authored  the AS  43.56  oil and  gas                                                               
regulations in 2001/2.                                                                                                          
                                                                                                                                
2:13:48 PM                                                                                                                    
KEN ALPER,  Director, Tax Division, Department  of Revenue (DOR),                                                               
Juneau, Alaska, said  he had been engaged in the  oil and gas tax                                                               
world  for  about 11  years.  He  spent  10  years working  as  a                                                               
legislative aide  primarily focusing on  oil and gas  issues, and                                                               
in later years  served exclusively as the oil  and gas specialist                                                               
for the  House Minority. He was  very involved in all  aspects of                                                               
the  development of  the  last 10  or  so years  of  oil and  gas                                                               
legislation:  PPT in  2006,  ACES  in 2007,  AGIA  and other  gas                                                               
projects in 2007/8/9, and SB 21.  He worked for Senator Bishop in                                                               
his  last  position at  the  legislature  before Governor  Walker                                                               
asked him to become Tax Division Director.                                                                                      
                                                                                                                                
COMMISSIONER HOFFBECK explained  that SB 130 is only  one part of                                                               
the  governor's  total fiscal  plan  that  has three  parts:  the                                                               
Permanent Fund Protection Act, which  deals with how the earnings                                                               
of  the  Permanent Fund  could  be  used for  funding  government                                                               
services;  and second,  expenditure reductions  of which  the oil                                                               
and  gas tax  credits is  a significant  component. He  explained                                                               
that the governor  proposed about $400 million in  savings in oil                                                               
and  gas  tax  credits,  about  $200  million  of  that  being  a                                                               
reduction  in  credits that  would  be  issued and  another  $200                                                               
million  in payment  delays of  some of  the credits  into future                                                               
years when  there was  more production  to underlie  the credits.                                                               
The third part of his fiscal  plan is new revenues, and this bill                                                               
touches on the  hardening of the floor for the  oil and gas taxes                                                               
and an increase  of the minimum tax  from 4 to 5  percent. SB 130                                                               
hits two of the three components of the governor's fiscal plan.                                                                 
                                                                                                                                
2:17:11 PM                                                                                                                    
COMMISSIONER HOFFBECK said he would  discuss why credit reform is                                                               
needed now  and put  their cost into  perspective; he  would also                                                               
discuss  how  the various  fiscal  components  of SB  130  impact                                                               
industry  and the  state and  the implementation  plan. He  would                                                               
also  provide a  list  of  presentations he  had  given to  other                                                               
committees that this committee may be interested in hearing.                                                                    
                                                                                                                                
Putting  the cost  of the  credits  in perspective,  Commissioner                                                               
Hoffbeck said the state has paid  out about $8 billion in oil and                                                               
gas tax  credits from 2007 to  2016. About $4.4 billion  of those                                                               
credits were used against a tax  liability; most of them were the                                                               
20  percent capital  credits under  Alaska's Clear  and Equitable                                                               
Share (ACES) and the per taxable barrel credits in SB 21.                                                                       
                                                                                                                                
To  be  fair, he  said,  those  credits  really are  an  embedded                                                               
portion of  the tax  structure. Although  they are  referenced as                                                               
credits in the  statutes, they really are more  of the underlying                                                               
tax regime, itself, and need to  be looked at in a separate light                                                               
from the  reimbursable credits, which  is what this  bill focuses                                                               
on. It  does not try  to change SB 21  or some of  the per-barrel                                                               
tax credits. This  bill is primarily focused  on the reimbursable                                                               
credits and  some of the other  credits that can be  used against                                                               
tax liability.  Most of the reform  is to ACES components  of the                                                               
tax law rather than SB 21 components.                                                                                           
                                                                                                                                
2:19:02 PM                                                                                                                    
COMMISSIONER  HOFFBECK  said  there  had  been  $2.3  billion  in                                                               
refunded  credits  on the  North  Slope,  primarily paid  to  new                                                               
producers and explorers,  and about $1.3 billion  in credits that                                                               
were paid  in Cook  Inlet, about  $100 million  against liability                                                               
and about $1.2 billion in refunded credits.                                                                                     
                                                                                                                                
He said that  it's important to understand that there  is no real                                                               
tax structure  within Cook Inlet  right now.  Oil does not  pay a                                                               
production tax  in Cook Inlet until  2022 and gas pays  a nominal                                                               
tax. Because  there is no  real underlying tax structure  in Cook                                                               
Inlet  an  estimated  $500-800  million in  taxes  has  not  been                                                               
collected because of the 2022 exemption.                                                                                        
                                                                                                                                
2:20:09 PM                                                                                                                    
The  amount of  credits the  state paid  out through  2012/13 was                                                               
relatively modest,  but since 2013,  they have exploded.  This is                                                               
where one  starts to see how  the size of the  credits versus the                                                               
amount of  revenue that the state  is taking in is  becoming much                                                               
larger  than   that  what  the   state  can  afford.   His  graph                                                               
illustrated how the credits are  continuing to grow in Cook Inlet                                                               
and Middle  Earth. The North Slope  has trailed off a  little bit                                                               
in recent  years, but  is at a  relatively consistent  level. The                                                               
reason this  is being talked  about now is because  sustained low                                                               
oil prices  are tied to the  high credit liability, and  are at a                                                               
level that can't be ignored.                                                                                                    
                                                                                                                                
CHAIR GIESSEL  asked what  factors caused  Cook Inlet  credits to                                                               
increase so much.                                                                                                               
                                                                                                                                
MR. ALPER  replied that  the single greatest  factor that  led to                                                               
the  explosion in  Cook Inlet  credits is  the passage  of credit                                                               
incentive  legislation in  2010  HB 280,  called  the Cook  Inlet                                                               
Recovery Act  and another piece of  complementary legislation, SB                                                               
309. Both  provided much  broader incentives  for Cook  Inlet. In                                                               
addition  to  the Cook  Inlet  gas  storage facility,  which  was                                                               
designed to  fix some of  the seasonal problems with  supply that                                                               
was  being  felt  with  the Agrium  facility  shutting  down  and                                                               
reduction in  ConocoPhillips' export facility, those  bills added                                                               
the  40 percent  well lease  expenditure credit  and other  small                                                               
incentives  that  really  added  up in  terms  of  credits  being                                                               
claimed in  one year. The  reinvestment requirement that  used to                                                               
be attached to credits  where the money had to be  put into a new                                                               
project  within 24  months was  also eliminated  along with  ring                                                               
fencing (credits  earned in  Cook Inlet could  be used  to offset                                                               
North Slope taxes). This happened at the same time the new jack-                                                                
up  rig credit  was  put in  place. That  whole  suite of  things                                                               
opened the door on Cook Inlet investment.                                                                                       
                                                                                                                                
At  the same  time,  the Regulatory  Commission  of Alaska  (RCA)                                                               
loosened  up some  of its  rules around  pricing and  allowing of                                                               
contracts. The gas price in Cook  Inlet also crept up, which made                                                               
it  easier  to make  investments  there.  So,  with all  of  that                                                               
happening, there  was an increase  in spending and  therefore, an                                                               
increase in  credits. A big share  of the credit can  be given to                                                               
the Hilcorp  Company that bought a  lot of the mature  Cook Inlet                                                               
assets and  started spending  a lot of  money working  them over.                                                               
There is  no distinction in  credit law between  a new well  or a                                                               
well work-over, he said; a capital expense is a capital expense.                                                                
                                                                                                                                
CHAIR GIESSEL agreed,  but when she first  chaired this committee                                                               
in  2013, her  first meeting  was about  the brown-out  exercises                                                               
that were going on in  Cook Inlet and Southcentral Alaska because                                                               
of  the lack  of gas,  and  said, "These  credits have  certainly                                                               
turned that around."                                                                                                            
                                                                                                                                
MR. ALPER  agreed that they  needed to  make sure there  wasn't a                                                               
supply  problem, but  maybe  it  is time  to  at least  partially                                                               
declare victory in Cook Inlet.                                                                                                  
                                                                                                                                
2:25:00 PM                                                                                                                    
SENATOR STEDMAN commented that they  had spent many meetings over                                                               
the years trying to re-energize  oil extraction and help with gas                                                               
extraction  in the  Cook  Inlet.  It ended  with  the Cook  Inlet                                                               
rewrite  in 2010.  Some felt  the  price issue  was holding  back                                                               
development  of gas  in Cook  Inlet rather  than the  legislature                                                               
coming  up  with  incentives,  and in  his  opinion,  they  over-                                                               
incentivized  Cook  Inlet.  Then  the  Regulatory  Commission  of                                                               
Alaska (RCA) changed  the ceiling on price and now  Cook Inlet is                                                               
a run-away  area where the state  has virtually no revenue  and a                                                               
huge  expenditure. It's  quite  "a  substantial imbalance."  Some                                                               
members of the legislature then  never thought the risk of brown-                                                               
outs were real.                                                                                                                 
                                                                                                                                
COMMISSIONER HOFFBECK  commented that  regardless of  exactly how                                                               
the state got here, they have to  deal what the issue in front of                                                               
them, learning  from the  past, but  not necessarily  focusing on                                                               
why. They want to keep that forward focus.                                                                                      
                                                                                                                                
CHAIR GIESSEL  said she appreciated  that and that  the utilities                                                               
now  are getting  long term  contracts,  and they  have to  think                                                               
about  how  policy  changes  will impact  the  gas  available  to                                                               
utilities in the future.                                                                                                        
                                                                                                                                
SENATOR  MICCICHE agreed  that RCA  improvements made  Cook Inlet                                                               
more  attractive,   but  Senator   Stedman  didn't   mention  the                                                               
increased delta  between the  shrinking Henry  Hub price  and the                                                               
increasing value  of Cook Inlet  gas. He asked how  that factored                                                               
into the size of companies looking for gas in Cook Inlet.                                                                       
                                                                                                                                
MR. ALPER agreed  that was an excellent point. Back  when the RCA                                                               
was rejecting  contracts, what was  being sought at the  time was                                                               
ironically to  try to  increase the  price of  gas in  Cook Inlet                                                               
when consumers in Anchorage were more  in the $3/4 range to mimic                                                               
Henry Hub,  which was  at $6/7. Suddenly,  Cook Inlet  gas became                                                               
some of  the best  price points available  and that  doubled with                                                               
the  state's aggressive  and generous  credit system  brought new                                                               
players  to Cook  Inlet. However,  one of  the concerns  with the                                                               
system is  that they  didn't distinguish between  oil and  gas to                                                               
the extent  that the  credit system was  made extra  generous for                                                               
the  purpose  of gas  supply  certainty.  The same  credits  were                                                               
available  for oil,  which while  valuable, is  not the  life and                                                               
death necessary it is for the Southcentral consumer.                                                                            
                                                                                                                                
2:29:40 PM                                                                                                                    
MR. ALPER said he thought at  the time the Agrium credit bill was                                                               
being discussed  that the underlying  economics of a  new project                                                               
in  Cook Inlet  were  fine. They  could  create their  platforms,                                                               
drill their  wells, and sell  their gas without tax  credits. But                                                               
state  subsidies become  necessary  when there  is a  constrained                                                               
market, and maybe people need to  look at how to build the market                                                               
for gas in Alaska.                                                                                                              
                                                                                                                                
COMMISSIONER  HOFFBECK  noted  that  slide 8  showed  that  state                                                               
tripping  a point  going into  FY17  it hadn't  seen before:  the                                                               
state actually paying more in  credits than it brought in through                                                               
all  of  the  revenue  streams  combined.  The  credits  entirely                                                               
overwhelm revenues at  some point in FY17.  However, $200 million                                                               
in credits  is being carried-over  from FY16, so the  credits are                                                               
actually absorbing all of the  revenues the state is getting from                                                               
oil and gas taxes right now.                                                                                                    
                                                                                                                                
In  other committees  this  is where  the  discussion splits;  it                                                               
became an  issue of  oil and  gas tax policy  or a  discussion on                                                               
state finances.  But to be fair,  it has to be  about both. There                                                               
must be a  balance between what the state can  afford and what is                                                               
necessary to have a healthy oil and gas industry.                                                                               
                                                                                                                                
COMMISSIONER  HOFFBECK  said  purely   as  the  DOR  Commissioner                                                               
looking at the  numbers, oil and gas revenues  cannot support the                                                               
level of  credit program the  state has  right now. Some  form of                                                               
modification is needed  on a pure numbers  basis. Another concern                                                               
is that according to the  spring revenue forecast oil prices have                                                               
become "range-bound" in  the $30 to $60 price range.  It's at the                                                               
lower end now  and while it will eventually climb  back up, there                                                               
is no money  for anybody at $30. People pull  back on development                                                               
and because  of natural  decline in the  oil fields,  supply will                                                               
eventually start to diminish. With  a supply deficit, prices will                                                               
rise back  up, and at $60,  a lot of  oil can be brought  on line                                                               
relatively quickly  because of  changes in  shale oil  and things                                                               
like that. There may be volatility  and perhaps a $20 price point                                                               
might be seen or  a $70 or $80 spike, but they  expect it to stay                                                               
in the  $30 to  $60 range,  and those  numbers simply  don't work                                                               
without controlling the credit program.                                                                                         
                                                                                                                                
2:34:00 PM                                                                                                                    
CHAIR GIESSEL  remarked that Prudhoe  Bay is shutting  down three                                                               
of five rigs  which equates to the loss of  300 jobs and Alaska's                                                               
government has a fiscal problem, but  they don't want to make the                                                               
state's problem a  citizens' economy problem. If it  costs $52 to                                                               
pull  a  barrel  of oil  out  of  the  ground  and the  price  is                                                               
approximately $40, the companies are still losing money.                                                                        
                                                                                                                                
COMMISSIONER HOFFBECK said that begs  the question: can the state                                                               
afford to make up the differential?                                                                                             
                                                                                                                                
SENATOR STEDMAN  said restricted  and unrestricted  revenues will                                                               
be a  re-occurring theme in these  presentations. It's imperative                                                               
that  as  policy  makers,  legislators  see  the  total  revenues                                                               
combined.  For  example,  property  tax  and  royalties  are  not                                                               
reflected in this chart.                                                                                                        
                                                                                                                                
COMMISSIONER  HOFFBECK responded  that those  could be  added in.                                                               
Today's message  is money  in versus money  out of  the treasury.                                                               
The state  has no money  coming in from oil  and gas that  can be                                                               
spent right now.                                                                                                                
                                                                                                                                
2:38:02 PM                                                                                                                    
SENATOR MICCICHE  said the slide  includes refinery  credits, but                                                               
he wanted the  timing for the $200 million in  delayed credits to                                                               
be included, too, because it  would make FY16 look very different                                                               
and improve FY17 somewhat.                                                                                                      
                                                                                                                                
COMMISSIONER HOFFBECK  said he could  do that. He  explained that                                                               
the  delayed credits  aren't due  until FY17,  but in  historical                                                               
context,  some of  those  credits, if  the  money was  available,                                                               
would have been paid this  year even though they weren't required                                                               
to be paid until next year.  Payment is being held this year into                                                               
FY17,  because the  money isn't  in the  budget to  pay them.  He                                                               
explained that in the past, credits  that were earned in one year                                                               
but  could be  paid in  two years,  but now  they are  being more                                                               
precise about when they can be paid.                                                                                            
                                                                                                                                
MR. ALPER said in the past they  hadn't had to be that precise on                                                               
when  2011 begins  for purposes  of calculating  credits, because                                                               
appropriations   were   open-ended.   Enough   money   would   be                                                               
transferred to  meet the  demand and then  when more  was needed,                                                               
they would  transfer some more. Now  that funds are more  dear, a                                                               
greater degree of precision is necessary.                                                                                       
                                                                                                                                
SENATOR  MICCICHE  said  this is  a  specific  production  credit                                                               
problem,  and  that   is  why  he  wants   the  refinery  credits                                                               
separated.                                                                                                                      
                                                                                                                                
MR.  ALPER  explained that  the  refinery  credit statute,  which                                                               
passed in 2014,  has an effective date of January  1, 2015, which                                                               
means the work would have been  done last year, and by the nature                                                               
of the  corporate income tax,  the division won't actually  see a                                                               
claim  or  application  until  October  of  this  calendar  year.                                                               
Inherently, the first credits for those,  if any, will be seen in                                                               
FY17.                                                                                                                           
                                                                                                                                
CHAIR GIESSEL asked him to  clarify that no refinery credits have                                                               
been claimed to date.                                                                                                           
                                                                                                                                
MR. ALPER said that was correct.                                                                                                
                                                                                                                                
SENATOR  STEDMAN followed  up that  it's also  important that  to                                                               
keep things straight, they should look  at the credits as if they                                                               
were  totally  paid  in  the  year they  were  owed  without  any                                                               
appropriation  restrictions,   and  clearly  delineate   what  is                                                               
carried forward. He  expects to see well in excess  of $1 billion                                                               
in credits in FY18 with carry forwards.                                                                                         
                                                                                                                                
COMMISSIONER HOFFBECK said  that would be covered  in about eight                                                               
or  nine slides,  but  he  would also  be  glad  to provide  more                                                               
granularity if that was requested.                                                                                              
                                                                                                                                
2:43:18 PM                                                                                                                    
MR.  ALPER said  total credits  add  up to  $3.5 billion  through                                                               
FY16. He didn't have all the  analysis FY16, do he left that out.                                                               
So, they  are looking in greater  detail at what happened  at the                                                               
end of the prior year, FY15.  Of that $3.5 billion from the state                                                               
treasury, about  $1.45 billion went  to six North  Slope projects                                                               
that are now  in production in one form or  another. Another $650                                                               
million went  to 13 projects  with no production; some  have been                                                               
abandoned, and some they expect future production from.                                                                         
                                                                                                                                
He said  credits are  also offered  to seismic  library companies                                                               
that will never  have production but do  independent seismic work                                                               
for sale or lease to other companies. It's an oddity in statute.                                                                
                                                                                                                                
CHAIR GIESSEL asked how much credit goes to seismic companies.                                                                  
                                                                                                                                
MR. ALPER answered  tens of millions of dollars, and  it might be                                                               
getting larger,  because the impending sunset  of the exploration                                                               
credit is creating some unusual  short-term phenomenon in the oil                                                               
patch.                                                                                                                          
                                                                                                                                
CHAIR  GIESSEL  said  she  had heard  that  the  seismic  library                                                               
companies can sell  their work, but they also can  claim a credit                                                               
from the state. So, it's almost as if they can be paid twice.                                                                   
                                                                                                                                
MR. ALPER explained that the company  that is paying for the work                                                               
gets to claim  a lease expenditure, so they are  paying less tax.                                                               
The credit is only being paid  on the difference between what the                                                               
library  paid   and  what  it   received  for  selling   it.  The                                                               
exploration credit is  not quite so much and they  simply get it.                                                               
It gets  a little difficult for  the Tax Division when  a library                                                               
sells that data  a couple of years later to  a second customer. A                                                               
seismic library  company is not  necessarily an oil  company, but                                                               
by statutory definition, once that  credit is claimed, it becomes                                                               
an oil company taxpayer. Therefore,  when they sell it the second                                                               
time, they should pay taxes on  it. But the division doesn't have                                                               
the ability to  diligently follow up on all those  people, and he                                                               
thinks some revenue may be slipping through those cracks there.                                                                 
                                                                                                                                
He said that a small amount  of credits are used on the non-North                                                               
Slope  area called  Middle Earth,  most  of which  is claimed  by                                                               
Doyon.  That  makes  it  easier for  the  division,  because  the                                                               
numbers  are  all  confidential.  Another $450  million  went  to                                                               
projects  that now  have production  in the  Cook Inlet  area and                                                               
another $450 million went to  eight projects that are in process.                                                               
That all adds up to the $3 billion.                                                                                             
                                                                                                                                
2:47:36 PM                                                                                                                    
The  next  couple  of  slides  indicated  that  six  North  Slope                                                               
projects had lease expenditures of  $1.4 billion and 38.5 million                                                               
barrels  of  production with  refundable  credits  of $37.30  per                                                               
barrel. That  number will come  down, because these  projects are                                                               
for  the  most  part  paid  for, but  there  will  be  continuing                                                               
production every  year that will  reduce the average  (dollars in                                                               
credit per barrel  produced over time), plus the  money that went                                                               
to the  fields that are  not in production, which  would increase                                                               
that number. The lease expenditures  on those projects at the end                                                               
of FY15 is $4.94 billion. This  means the state has reimbursed 29                                                               
percent of companies' lease expenditures on these projects.                                                                     
                                                                                                                                
Slide 12 takes the same analysis  and looks at Cook that had $450                                                               
million in lease expenditures on  six producing projects equating                                                               
to  55.9 barrels  of oil  equivalent (BOE).  He explained  that a                                                               
producer receiving credit  for one new project  is getting credit                                                               
applied  to all  of their  gas production.  Their fields  are not                                                               
parsed out  from each  other. If  a company  has four  fields and                                                               
only one of them is new and  they are earning credits on it, they                                                               
are getting that credit for all of their gas.                                                                                   
                                                                                                                                
Setting that  aside, that  55.9 million  BOE of  total production                                                               
would  lead to  $7.80/BOE credits  or about  $1.30/mcf, a  number                                                               
that will  decrease over time  due to additional  production from                                                               
these fields. Lease expenditures  for these projects through FY15                                                               
were $1.09 billion, which is  lease expenditure credit support of                                                               
40 percent.                                                                                                                     
                                                                                                                                
2:50:00 PM                                                                                                                    
The estimated  value to industry  of the  Cook Inlet tax  caps is                                                               
$550-$850   million  from   2007-2013  (slide   13).  The   total                                                               
production  for that  timeframe  in Cook  Inlet  was 250  million                                                               
cubic  per day  (equaling  640 BCF/or  106  million BOE).  Adding                                                               
10,000 barrels/day,  one gets  to the  equivalent of  132 million                                                               
barrels BOE. He used a  midpoint $700 million estimate, the value                                                               
of the caps equals $5.30/barrel  or $0.88/mcf. Adding that to the                                                               
calculation from prior slide 12, the  sum of credits and tax caps                                                               
is $2.18/mcf.                                                                                                                   
SENATOR MICCICHE  said that spans  of 2007-2013 were  narrowed to                                                               
after the Cook Inlet Recovery  Act passed, the investment per BOE                                                               
for the state would increase dramatically.                                                                                      
                                                                                                                                
MR. ALPER agreed.                                                                                                               
                                                                                                                                
SENATOR  STEDMAN asked  what the  revenue  side to  the State  of                                                               
Alaska was for Cook Inlet over the same timeframe (FY7-FY15).                                                                   
                                                                                                                                
MR. ALPER answered  he thought the production tax  revenue was in                                                               
the neighborhood  of $25  to $27  billion and  total oil  and gas                                                               
revenue  was $40  billion or  so. Senator  Stedman brought  up an                                                               
important  point, that  the tax  credit system  was put  in place                                                               
with  the expectation  that fairly  robust oil  and gas  revenues                                                               
were  going to  be  coming in  (in the  billions  of dollars  per                                                               
year). This system was envisioned  as something of a reinvestment                                                               
of some  fraction of the  state's revenues to get  tomorrow's oil                                                               
drilled  and built.  According  to  Commissioner Hoffbeck,  state                                                               
revenues  have  shrunk  to  where   it  is  not  even  supporting                                                               
government any  more, and the  credits are  relatively unchanged,                                                               
if not  larger. So the system  is very different now  from how it                                                               
was original constructed.                                                                                                       
                                                                                                                                
SENATOR STEDMAN said  Cook Inlet didn't have  billions of revenue                                                               
that he  knew of and asked  ballpark numbers for what  Cook Inlet                                                               
contributed to  the treasury. The  $25 to $27  billion referenced                                                               
came from the North Slope.                                                                                                      
                                                                                                                                
MR.  ALPER answered  the production  tax  will be  very close  to                                                               
zero. The  17 cent/mcf works out  to about $15 or  20 million per                                                               
year in  a typical year, but  most of that would  be lost through                                                               
the small producer credit. The  royalties and other revenues from                                                               
Cook  Inlet would  be  in the  ballpark of  tens  of millions  of                                                               
dollars per year.                                                                                                               
                                                                                                                                
SENATOR STEDMAN  said he was trying  to make the point  that Cook                                                               
Inlet is a closed basin and  the state energy subsidy goes to the                                                               
Anchorage Bowl.  It doesn't produce  any revenue to  the treasury                                                               
to  speak  of  that  would  benefit  the  entire  state.  He  was                                                               
concerned that the  presentations hadn't dealt with  how they got                                                               
in this position in the first place.                                                                                            
                                                                                                                                
2:55:45 PM                                                                                                                    
COMMISSIONER HOFFBECK said in fairness  to the presentation, they                                                               
had a  history section and pulled  it out in order  to focus more                                                               
directly  on the  specifics of  the fiscal  issue. However,  they                                                               
could add it back in.                                                                                                           
                                                                                                                                
CHAIR  GIESSEL  said they  had  presented  that history  numerous                                                               
times before  a number of  committees and  it's all on  line, and                                                               
the Senate  is able to  do that  kind of research.  So, committee                                                               
members could look it up. She  added that the Cook Inlet supplies                                                               
gas  for  the Kenai  Peninsula,  the  MatSu  Borough, and  it  is                                                               
trucked  to Fairbanks;  so 50  percent of  the state's  residents                                                               
benefit.                                                                                                                        
                                                                                                                                
SENATOR  MICCICHE  said  the  number  referenced  to  communities                                                               
impacted  by Cook  Inlet gas  is higher  than 50  percent of  the                                                               
state's  population.  He asked  Mr.  Alper  to correct  that  the                                                               
production for  Cook Inlet  in 2007  was essentially  zero, since                                                               
the Cook Inlet Recovery Act didn't come into effect until FY11.                                                                 
                                                                                                                                
MR. ALPER responded that the statutory  tax caps were part of the                                                               
PPT bill  that passed during  the 2006 special sessions.  So, the                                                               
17 cent/zero rate  has been in place since that  point. The rates                                                               
were designed as  a "hold harmless" to mimic what  the taxes were                                                               
in the year before the effective date of PPT (2005).                                                                            
                                                                                                                                
2:58:17 PM                                                                                                                    
SENATOR STEDMAN  said this  is the bill's  first hearing  in this                                                               
committee  and  he  was  trying  to put  things  into  context  -                                                               
depending on  if they want  the public to  be able to  follow the                                                               
information and hopefully  support the legislature's conclusions.                                                               
At some  point they must talk  about what the credit  is, why the                                                               
state has  it, and when  it would be used.  "If you put  the cart                                                               
before  the horse,  these  conversations  get real  interesting."                                                               
There is a reason  why he and a lot of  colleagues swim around in                                                               
the tax  codes. Many  policymakers understand  the basics  of the                                                               
tax and  credit system. They  need to get  a firm basis  down and                                                               
try to get some stability in the tax code.                                                                                      
                                                                                                                                
MR. ALPER  said it's true that  the tax code is  very complicated                                                               
and every time it changes it tends not to get simpler.                                                                          
                                                                                                                                
3:00:12 PM                                                                                                                    
Slide 14 showed  the status of the credit fund  and how demand is                                                               
moving around for  FY16-17. The FY16 appropriation  was capped at                                                               
$500  million through  a line  item veto.  Of that,  $473 million                                                               
money has been  paid out to date  even though it is  near the end                                                               
of  the fiscal  year:  about  $200 million  went  to North  Slope                                                               
producers and $273 to non-North  Slope producers. That leaves $27                                                               
million in the fund; about $4  million in claims are in some form                                                               
of the payment process.                                                                                                         
                                                                                                                                
Meanwhile,  his   division  has  an  applicant   que  worth  $675                                                               
million:, $10 million  in older net operating  loss (NOL) credits                                                               
from  prior  years  (where the  department  requested  additional                                                               
information), $22 million in older  exploration credits that also                                                               
need  more information,  and $552  million in  2005 credits  (NOL                                                               
credits, the non-North Slope  qualified capital expenditure (QCE)                                                               
and well lease expenditure (WLE) credits).                                                                                      
                                                                                                                                
He explained that other well credits  are only applied for at the                                                               
end of  the year, because  a loss has to  be proved, and  the tax                                                               
filing deadline  was March 31.  The capital and well  credits are                                                               
sometimes  applied for  quarterly  or even  more frequently,  but                                                               
they will be  processed together this summer and  will largely go                                                               
out the door in July and August.                                                                                                
                                                                                                                                
3:02:50 PM                                                                                                                    
Meanwhile, thus  far, they have  $60 million in  2015 exploration                                                               
claims and  another $31  million on  top of  the $552  million in                                                               
preliminary applications that for  some reason aren't really done                                                               
yet  and  awaiting  amended  returns.  That  means  the  "minimum                                                               
demand" for  FY17 "stuff  in hand"  is $652  million. That  is an                                                               
extremely  current  figure, based  on  filings  that came  in  on                                                               
Thursday  from major  and minor  taxpayers throughout  the state.                                                               
They  expect additional  credit  applications  during the  coming                                                               
CY16, which  could also be  paid in  FY17, and about  another $40                                                               
million for QCE and WLE from Cook Inlet.                                                                                        
                                                                                                                                
MR. ALPER said  the exploration credits for both  the North Slope                                                               
and Cook Inlet  are extremely aggressive, an additional  30 or 40                                                               
percent on top  of some other credits, and they  are sunseting on                                                               
July 1,  2016. They  are now realizing  that companies  are going                                                               
for those  credits before the sunset  date through "frontloading"                                                               
projects  to try  to max  out companies'  abilities to  get those                                                               
exploration credits,  a one-time cost,  but still very much  as a                                                               
cost in  FY17. They are  expecting about $20 million  between the                                                               
refinery credit  and the  credit for  the Interior  gas utilities                                                               
gas storage  project. Should  that go forward  and the  tank gets                                                               
built,  a credit  claim could  come in  some time  this year  for                                                               
reimbursement. So,  foreshadowing the spring FY16  forecast, they                                                               
will most  likely revise the  number from $825 million  that they                                                               
presented about two weeks ago down to about $775 million.                                                                       
                                                                                                                                
CHAIR GIESSEL thanked him for  the very current information asked                                                               
if he  could group the  exploration credits together to  let them                                                               
know where they are being claimed in each basin.                                                                                
                                                                                                                                
MR. ALPER answered yes and added  that Table 8-4, on pages 77-78,                                                               
in  the  Fall  Revenue  Sources Book  has  the  same  information                                                               
although in a  different format. But the simple  answer back when                                                               
it was $825 million it was  almost exactly 50/50: $410 million in                                                               
one basin and $415 million in the other.                                                                                        
                                                                                                                                
CHAIR GIESSEL said  she wanted to see the value  of each specific                                                               
credit.                                                                                                                         
                                                                                                                                
MR.  ALPER  explained   that  AS  43.55.890  says   data  can  be                                                               
aggregated  for confidentiality  purposes if  there are  three or                                                               
more companies so  that numbers cannot be  reverse engineered. He                                                               
explained that  if he told them  all of the North  Slope credits,                                                               
then he'd  be telling them  there is only  one in the  Cook Inlet                                                               
slide  15. However,  he would  do  everything he  could to  parse                                                               
these numbers as fine as possible under the law.                                                                                
                                                                                                                                
SENATOR COSTELLO asked how companies  responded to the governor's                                                               
decision to cap credits.                                                                                                        
                                                                                                                                
COMMISSIONER  HOFFBECK  answered  there  was  angst  amongst  the                                                               
companies, because a lot of  these credits are used as collateral                                                               
for loans,  and when  the vetoes  were put  in place  the capital                                                               
markets pulled back  saying if they can't be  certain the credits                                                               
are going  to be paid,  then they  aren't any good  as collateral                                                               
against  the loans.  So,  he spent  the better  part  of a  month                                                               
talking to  various lending institutions  and assuring  them that                                                               
the  credits   would  be  paid.  However,   the  veto  introduced                                                               
uncertainty into  some of the  companies' decisions as  to moving                                                               
forward. For the  most part, the state saw the  type of work that                                                               
would have  happened without the veto,  but it took some  work to                                                               
put that back together again.                                                                                                   
                                                                                                                                
3:08:55 PM                                                                                                                    
SENATOR COSTELLO asked  if that is something that  can affect the                                                               
state's credit rating.                                                                                                          
                                                                                                                                
COMMISSIONER HOFFBECK answered no,  because there is no statutory                                                               
requirement  that these  credits have  to  be cashed  out by  the                                                               
state.  The credits  are earned,  but  they could  be held  until                                                               
there is production  or they could be sold to  somebody who has a                                                               
tax liability  who could then  use the credit. The  credit rating                                                               
saw it as a responsible action  in light of the state's financial                                                               
situation.                                                                                                                      
                                                                                                                                
SENATOR COSTELLO asked if all the credits are transferable.                                                                     
                                                                                                                                
MR.  ALPER  answered  that  all   of  the  cashable  credits  are                                                               
transferrable.  There are  caps  on  transferability meaning  the                                                               
company  who  is  buying  them  can only  reduce  their  own  tax                                                               
liability  to 80  percent  of  what it  would  otherwise be.  And                                                               
considering how  little production tax  liability is in  the next                                                               
couple of years,  there is, to be fair, a  relatively soft market                                                               
for transferable credits. The small  producer credit and the per-                                                               
barrel  credit  on  production  are both  not  cashable  and  not                                                               
transferable. Those are use it or lose it credits.                                                                              
                                                                                                                                
SENATOR COSTELLO asked how often credits have been transferred.                                                                 
                                                                                                                                
MR. ALPER answered  that it happened in the beginning  of the era                                                               
of  transferable credits  (PPT  time period),  but the  anecdotal                                                               
information they received  was that the market  price for credits                                                               
was 70  cents on the  dollar and the  major producer was  the one                                                               
getting  the full  value  of it  because they  were  using it  to                                                               
against  their tax  bill.  In  2007, with  passage  of ACES,  the                                                               
legislature  decided to  get rid  of credit  repurchase caps  and                                                               
reverted back  to a  take away  per company  per year  limit that                                                               
used  to be  in statute.  Since then,  there has  been almost  no                                                               
transferring of credits in the oil and gas world.                                                                               
                                                                                                                                
CHAIR GIESSEL asked  if the net operating loss  (NOL) credits are                                                               
cashable or transferable.                                                                                                       
                                                                                                                                
MR. ALPER answered yes.                                                                                                         
                                                                                                                                
3:12:25 PM                                                                                                                    
SENATOR STEDMAN said it would be  nice to model - using the first                                                               
in first out  system for payment by the state  to the companies -                                                               
how  the  accumulated  credits  versus  the  appropriations  will                                                               
impact  the  state. With  a  $70  million appropriation  for  the                                                               
credits he  expected it  would take  a while to  get to  the FY17                                                               
credits,  and he  has been  told by  at least  one company  whose                                                               
credit is  $65 million that  their interest rate for  their loans                                                               
on the project is 20 percent.                                                                                                   
                                                                                                                                
He also wanted  the numbers for how much will  be carried forward                                                               
to FY17 in accumulated credits north  of 68 latitude and south of                                                               
68 and the expectation for FY17 credits.                                                                                        
                                                                                                                                
MR. ALPER responded that that information is on slide 14.                                                                       
                                                                                                                                
SENATOR STEDMAN  clarified that he  didn't want the  $500 million                                                               
broken down; he just wanted  the aggregate amount of credits that                                                               
were accumulated and the appropriation.                                                                                         
                                                                                                                                
MR. ALPER  answered that he  would do everything possible  to get                                                               
that information for  him. In the next couple of  slides he would                                                               
get into  the new world  of NOLs  earned by major  producers that                                                               
are very explicitly  not cashable, and those are all  going to be                                                               
carried forward.  They will be  coming from the  major producers,                                                               
not from this pool.                                                                                                             
                                                                                                                                
CHAIR GIESSEL said  he could get that information to  her and she                                                               
would distribute it to the committee.                                                                                           
                                                                                                                                
3:15:21 PM                                                                                                                    
MR. ALPER recapped slide 15  saying that when the spring forecast                                                               
comes  out,  the  total  claims  will  probably  be  around  $775                                                               
million. Slide  16 talks  a little  bit about  how the  state got                                                               
from $825  million to $775 million.  It went up a  little because                                                               
the  NOL claims  were higher  by $100  million than  expected for                                                               
calendar year 2015.                                                                                                             
                                                                                                                                
He explained  that "calendar year  (CY) 2015 equals FY17"  is not                                                               
an intuitive way to look at  the numbers and that a loss finishes                                                               
in on  December and taxes are  filed on March 31.  The NOL credit                                                               
statute, AS 43.44.023,  says the certificates shall  be issued in                                                               
120 days, and 120 days later  means the last week of July. That's                                                               
when  the  Tax  Division  scrambles   "to  get  all  the  credits                                                               
processed  and  out the  door."  Then  many companies  will  turn                                                               
around and request  repurchase the next day and  the money should                                                               
be available in the Tax Credit  Fund. So, in essence, the bulk of                                                               
CY15 credits  will be paid in  July and August of  2016, which is                                                               
in the  early months of FY17,  and what appears to  be a two-year                                                               
lag is really just a four-month lag.                                                                                            
                                                                                                                                
He  said because  all  of the  CY15  NOLs are  going  to be  FY17                                                               
credits, the decision  was made to take all the  future NOLs from                                                               
CY16  off  the  FY17  pool  and  move  them  into  FY18,  because                                                               
realistically  that  is  when  they will  be  paid.  Making  that                                                               
calculation correction  reduces the total by  about $150 million.                                                               
The net effect  is the FY17 projection goes down  by $50 million,                                                               
but FY17 and  FY18 will have larger credit estimates  by at least                                                               
$50 million.                                                                                                                    
                                                                                                                                
3:17:59 PM                                                                                                                    
SENATOR STEDMAN asked that this  data be brought forward in table                                                               
format so the public can follow along.                                                                                          
                                                                                                                                
MR.  ALPER said  it is  his preference  to provide  math data  in                                                               
table  format, because  it  reads  better that  way,  but in  the                                                               
context of a  presentation it's sometimes easier to  turn it into                                                               
bullets. But he would do that interpretation for him.                                                                           
                                                                                                                                
MR.  ALPER said  the growing  carry forward  NOLs are  a new  and                                                               
growing problem. The  beginning of a net profits  tax where there                                                               
was such a thing as a  net operating loss credit was basically in                                                               
2007. All of the companies except  for the three majors have been                                                               
able to  get cash for  their credits whether  there was a  cap or                                                               
not  (in the  later years  there wasn't).  Cashable credits  were                                                               
part of the way the state  did things with the singular exception                                                               
of companies producing  more than 50,000 barrels a  day, of which                                                               
there  were  three,  the  larger   producers.  Now  with  Hilcorp                                                               
crossing the 50,000 barrel threshold,  there are four. This means                                                               
they won't  be able to  get cash  for credits going  forward. The                                                               
division knows  that at least  one of the  majors has an  NOL for                                                               
the  prior CY15.  That NOL  credit can  be used  to offset  their                                                               
monthly  tax  payments beginning  in  January  of CY16,  and  can                                                               
reduce  them as  far as  zero for  as long  as it  takes to  work                                                               
through their NOL credit. Eventually,  in the later months of the                                                               
year there will be tax  payments. This will partially offset what                                                               
the minimum tax  payments would have been in CY16  (half FY16 and                                                               
half FY17), but  not take it all  the way to zero.  So, the state                                                               
will  have positive  production tax  income. However  the revised                                                               
forecast that the governor released  last week - and they believe                                                               
the  price of  oil isn't  going to  change -  indicates that  all                                                               
three majors  have operating  losses in CY16  and in  some cases,                                                               
relatively robust ones, and possibly for years beyond.                                                                          
                                                                                                                                
This is  a new  world, he  said, and that  means that  by January                                                               
2017,  the  state's  monthly  production  tax  payments  will  be                                                               
effectively zero. Once  this calendar year ends,  if the forecast                                                               
holds, everyone  will be  completely offsetting  their production                                                               
tax.                                                                                                                            
                                                                                                                                
MR. ALPER  explained that the  smaller numbers - $10  million and                                                               
$15 million  - are  from some sidebar  pieces of  production tax,                                                               
the main one being the 5  percent gross tax on private royalties.                                                               
Some private  companies receive  royalties; the  main one  now is                                                               
the Arctic  Slope Regional Corporation  that owns a chunk  of the                                                               
land  under CD5,  ConocoPhillips's new  development on  the North                                                               
Slope. They will  be receiving a certain amount  of royalties and                                                               
that  is taxable  income and  shows up  under the  production tax                                                               
umbrella,  although  it's  very different  from  the  traditional                                                               
production tax.                                                                                                                 
                                                                                                                                
MR. ALPER  said if the  majors have  larger loss credits  than it                                                               
takes to zero out their minimum  tax, the credits can get carried                                                               
forward and  get added to  any losses that might  get accumulated                                                               
in the  following year. The  bottom half of  slide 18 is  a table                                                               
that tries to  show how that happens based on  the actual numbers                                                               
in forecast documents and the ANS  oil price (starting at $40 and                                                               
creeping  up to  $65.90 10  years from  now). The  production tax                                                               
revenue  drops to  a number  very close  to zero;  zero plus  the                                                               
outlier issues increasing  in the later years. The  column on the                                                               
right is  new information  - the  carryforward credits  form this                                                               
concept.                                                                                                                        
                                                                                                                                
3:22:04 PM                                                                                                                    
At end of  2017, there will be $632 million  worth of NOL credits                                                               
that are  in hand  and not  cashable, because  they are  with the                                                               
major producers who have already  zeroed out their taxes. So that                                                               
increases the NOL  credits to $747 million in  2019 credits. Then                                                               
it goes down as the price of oil increases.                                                                                     
                                                                                                                                
MR. ALPER said that  the price of oil is forecast  to go from $43                                                               
to $60  between 2018  and 2021,  but the  production tax  is only                                                               
projected  to be  $32 million  in FY20/21,  the reason  being the                                                               
drawdown  of the  accumulated NOL  credits. However,  that number                                                               
zeroes out in 2025.                                                                                                             
                                                                                                                                
SENATOR  STEDMAN asked  for a  synopsis of  any credits  that can                                                               
apply  to activities  on  private land  and if  the  state has  a                                                               
mechanism to recoup any of that credit investment.                                                                              
                                                                                                                                
MR. ALPER said there are two  different answers to that. The work                                                               
done on private  land is fully eligible for all  of the credits -                                                               
the credits are silent  as to what part of the  state they are in                                                               
whether state,  federal, or  private land.  The difference  is if                                                               
it's on  state land the  state gets the  royalty. If it's  not on                                                               
state land,  the state gets 5  percent (or the equivalent  of .06                                                               
percent) of the gross of the  owner's royalty. That is "a must be                                                               
paid number."                                                                                                                   
                                                                                                                                
3:25:05 PM                                                                                                                    
SENATOR STEDMAN  asked what the assumption  for the appropriation                                                               
on the carry forward credits is.                                                                                                
                                                                                                                                
MR. ALPER answered the assumption  is that the appropriation will                                                               
be whatever the demand for re-purchasable credits is.                                                                           
                                                                                                                                
SENATOR  STEDMAN  suggested  footnoting  the tables  on  how  the                                                               
appropriation impacts  credits, because  clearly there is  a $500                                                               
million  limit  this  year,  and   people  need  to  be  able  to                                                               
understand both sets of data.                                                                                                   
                                                                                                                                
CHAIR  GIESSEL  said  it  would  also  be  helpful  to  have  the                                                               
calculations of  how much  is required  to be  in the  Tax Credit                                                               
Fund, complying with the formula in AS 43.55.028.                                                                               
                                                                                                                                
MR.  ALPER thanked  her for  the  question, because  he had  been                                                               
internally  wrestling with  how  to  come up  with  a number  the                                                               
legislature might appropriate if it  was something other than the                                                               
claimed  number. The  most obvious  alternate  scenario to  model                                                               
would be the 15 percent formula that is in statute.                                                                             
                                                                                                                                
SENATOR COSTELLO asked  him to provide the  oil price assumptions                                                               
that were used in projecting that price.                                                                                        
                                                                                                                                
COMMISSIONER  HOFFBECK  replied  the   department  can  do  that.                                                               
Briefly, he  explained that the  department uses  a probabilistic                                                               
model with  a range  of prices, and  for budgeting  purposes they                                                               
select  a specific  price  point within  it,  typically the  mid-                                                               
point. But  the price is now  below the mid-point of  last fall's                                                               
probabilistic modeling,  and they  selected the price  point that                                                               
reflects the current price of oil,  because it will be in the $39                                                               
range for  the year. Then they  slowly brought it back  up over a                                                               
four-year  period until  they got  to the  50 percent  confidence                                                               
level.                                                                                                                          
                                                                                                                                
CHAIR  GIESSEL said  it would  be informative  to hear  about the                                                               
process the department goes through.                                                                                            
                                                                                                                                
COMMISSIONER  HOFFBECK explained  that  they convene  a group  of                                                               
typically  20 to  40 people  with various  oil price  forecasting                                                               
expertise  (academic and  on-the-ground experience)  in the  fall                                                               
and try to  come to some consensus over what  they feel the price                                                               
is going forward.  Then they do statistical testing  on long term                                                               
historic averages  for prices adjusted  for inflation as  well as                                                               
looking at supply and demand  coefficients. They actually look at                                                               
what other  forecasting agencies put  out. The group then  does a                                                               
Monte Carlo  analysis on the  probabilistic modeling of  what oil                                                               
prices would  be starting with where  it is now. So,  they really                                                               
have three ways of  looking at it: one is this  group, one is the                                                               
Monte  Carlo   process,  and  one   is  the  supply   and  demand                                                               
coefficients.                                                                                                                   
                                                                                                                                
SENATOR COSTELLO  asked for the  assumptions used on slide  18 of                                                               
the production tax revenue projections.                                                                                         
                                                                                                                                
COMMISSIONER HOFFBECK said absolutely.                                                                                          
                                                                                                                                
3:31:03 PM                                                                                                                    
MR.  ALPER added  that  those are  the numbers  that  are in  the                                                               
spring forecast they published last week.                                                                                       
                                                                                                                                
CHAIR  GIESSEL stopped  at slide  18 saying  the committee  would                                                               
next hear from enalytica.                                                                                                       
                                                                                                                                
SENATOR STEDMAN went back to  Senator Costello's earlier question                                                               
about the price range and said  it would be helpful to talk about                                                               
the minimum  tax range  the state  is in  and the  expectation of                                                               
when it  will get  out of  it. Most people  can realize  that the                                                               
state will be  at a minimum tax range for  the entire environment                                                               
and  that cuts  through a  lot  of the  chase when  they look  at                                                               
revenues.                                                                                                                       
                                                                                                                                
MR. ALPER  said he  was formulating a  graphic showing  where the                                                               
minimum tax overlays the gross and  net and credits that it would                                                               
be ready soon.                                                                                                                  
                                                                                                                                
                   Presentation by enalytica                                                                                  
                                                                                                                                
3:32:57 PM                                                                                                                    
CHAIR GIESSEL thanked  Mr. Alper and said the  next speaker would                                                               
be oil and gas legislative consultant, Janak Mayer.                                                                             
                                                                                                                                
JANAK MAYER, Chairman and Chief  Technologist, enalytica, said he                                                               
had worked  over the  last decade  in the  consulting environment                                                               
for  the oil  and  gas sector  primarily  dealing with  financial                                                               
modeling, evaluation,  and economic analysis of  upstream oil and                                                               
gas projects. For the  last four or five years he  has done a lot                                                               
of  work  for  the  Alaska Legislature  through  the  Legislative                                                               
Budget and Audit Committee, two or  three of those years with PFC                                                               
Energy, and the  last couple of years with his  own firm and that                                                               
of  his colleague,  Nikos Tsafos.  Most recently,  they had  done                                                               
work around  natural gas commercialization of  the AKLNG Project,                                                               
and have  been engaged through  the Legislative Budget  and Audit                                                               
Committee  as  consultants for  the  legislature  as a  whole  to                                                               
provide independent and dispassionate  advice and analysis on its                                                               
questions.                                                                                                                      
                                                                                                                                
3:35:20 PM                                                                                                                    
NIKOS  TSAFOS, President  and Chief  Analyst, enalytica,  related                                                               
that this  is his third  or fourth  year engaged with  the Alaska                                                               
Legislature, and like Mr. Mayer, he  used to work for PFC Energy.                                                               
His background is in consulting on  the oil and gas industry with                                                               
a focus on gas commercialization  and gas market analysis. He has                                                               
spent the last two years working  on a range of issues Alaska has                                                               
been  dealing with  on both  oil and  gas and  especially on  the                                                               
AKLNG Project.                                                                                                                  
                                                                                                                                
3:36:20 PM                                                                                                                    
MR.  MAYER said  their  presentation today,  Alaska  Oil and  Gas                                                             
Credits,  focuses  on  the  background   for  some  of  the  core                                                             
questions  around oil  and gas  credits  in Alaska,  both on  the                                                               
North Slope  and in Cook Inlet:  trying to put numbers  into some                                                               
perspective as  well as the  broader context of the  history, the                                                               
purpose of the  credits, how well the purpose  has been achieved,                                                               
and how much they are needed going forward.                                                                                     
                                                                                                                                
Slide  2 was  a high  level visualization  of some  of the  total                                                               
numbers one  sees in  the Revenue Sources  Book. Looking  back at                                                               
2015, there  was a total of  $1.3 billion in credits.  He divided                                                               
them up between  North Slope and non-North Slope  (Cook Inlet and                                                               
a small portion  outside of Cook Inlet) credits:  $879 million on                                                               
the North Slope and $413 million outside of the North Slope.                                                                    
                                                                                                                                
He divided  the credits further  into what was refunded  and what                                                               
was taken  against liability.  On the  North Slope,  $224 million                                                               
was  refunded versus  $655 million  taken  against liability.  In                                                               
Cook  Inlet,  that  situation  is   reversed:  $404  million  was                                                               
refunded versus $9 million taken against liability.                                                                             
                                                                                                                                
3:38:24 PM                                                                                                                    
Another aspect of  the credits is their purpose.  The North Slope                                                               
dollar-per-barrel credit is $595 million;  it is an integral part                                                               
of the  tax system.  Thinking about  it as a  credit is  almost a                                                               
misnomer,  even though  it is  written  in statute  that way.  It                                                               
really exists as a way  of introducing a progressive element into                                                               
the tax system  of curving the tax rate down  at lower oil prices                                                               
(SB 21)  in exactly the  same way as progressivity  combined with                                                               
capital  credits did  under Alaska's  Clear  and Equitable  Share                                                               
(ACES). About  $203 million is  net operating loss  (NOL) credits                                                               
on the North Slope. By  and large these two credits substantially                                                               
remain on  the North Slope  when other credits  (capital credits,                                                               
exploration tax credit, and the  small producer tax credit, which                                                               
ends  in May  2016) have  ended. The  yellow category  of "other"                                                               
includes those things  that are at various  stages of sunsetting.                                                               
The core  of what  is happening  on the North  Slope is  the per-                                                               
barrel  credit  and  the  NOLs   credits.  The  tax  system  will                                                               
recognize NOL  credits eventually,  but the  question is  if they                                                               
are paid now or later.                                                                                                          
                                                                                                                                
MR. MAYER explained that unlike  the previous capital credits and                                                               
credits in  the Cook Inlet, which  are very much about  the state                                                               
providing  incentives to  do something,  these credits  recognize                                                               
the value  of the tax  system of expenses incurred.  Whether that                                                               
happens  now  or later  is  a  timing  question not  an  absolute                                                               
question of amounts of money.                                                                                                   
                                                                                                                                
3:41:31 PM                                                                                                                    
The Cook  Inlet revenue is  a fraction  of the North  Slope's and                                                               
there  are very  substantial credits  being paid  out there,  the                                                               
vast  majority   being  refunded   versus  being   taken  against                                                               
liability. He assumed that was  mostly small producer tax credits                                                               
going against  the minimal  tax liability  that is  incurred from                                                               
gas and other things in the  Cook Inlet. Lumping the two together                                                               
as state  support for activity in  the Cook Inlet, he  would talk                                                               
about the rationale behind that  state support, what it was years                                                               
ago and  what it is  now, and then discuss  if there are  ways of                                                               
reducing it.                                                                                                                    
                                                                                                                                
MR. MAYER  said roughly  speaking there  are three  categories of                                                               
tax credits; the  per-barrel credit, the NOL on  the North Slope,                                                               
both fundamental  to the  tax system, and  the third  category of                                                               
support or subsidy to incentivize  particular behaviors, which is                                                               
really about what is going on in Cook Inlet.                                                                                    
                                                                                                                                
3:42:58 PM                                                                                                                    
SENATOR STEDMAN  said the state  is in a minimum  tax environment                                                               
and will  be there for quite  a while. The issue  that sticks out                                                               
is  the  $595  million  per-barrel  credit,  but  it  is  just  a                                                               
calculation to  get down to the  4 percent of the  wellhead value                                                               
minimum tax.  It's not a credit  the state pays out;  it's just a                                                               
credit to  exercise if one  is in  a minimum tax  environment. It                                                               
makes the amount of credit numbers change significantly.                                                                        
                                                                                                                                
3:45:16 PM                                                                                                                    
MR. MAYER agreed  that the per-barrel credit is  a math exercise.                                                               
The North  Slope credits are  broken down  in detail on  slide 3.                                                               
The elevated  level of 45  percent were the result  of transition                                                               
arrangements under  SB 21, because  it substantially  reduced the                                                               
level of  overall government support  from 45 to 35  percent, and                                                               
this  is  a way  of  holding  that level  at  45  percent for  an                                                               
additional two years to allow  companies that had made investment                                                               
decisions  under the  assumption of  that high  level of  support                                                               
(under ACES) to  continue and from this point forward  know it is                                                               
down to  35 percent. The  basic purpose behind that  incentive is                                                               
to equalize  the impact  of the  tax system to  make it  the same                                                               
between a  new developer  without a tax  liability and  an income                                                               
producer with one. He explained  that the inequality is not about                                                               
the big guys on the North  Slope that dominate everything and the                                                               
state needs to help the little  guys; it's really about pure hard                                                               
math and simply saying a  series of deductions are allowable when                                                               
one has a liability, and the  NOL credit is providing exactly the                                                               
same thing to  companies that don't have that  liability. He will                                                               
talk about how that math works in the coming slides.                                                                            
                                                                                                                                
He mentioned  that the dollar-per-barrel credit  is for so-called                                                               
"old" legacy production from the  big producing fields and ranges                                                               
from zero  to $8/barrel or  $5 per-barrel  of "new" oil  under SB                                                               
21.                                                                                                                             
                                                                                                                                
3:47:31 PM                                                                                                                    
SENATOR STEDMAN asked  him to clarify the  difference between the                                                               
per-barrel credit and  the $5 gross value  reduction (GVR) credit                                                               
where one can be taken against the floor and one cannot.                                                                        
                                                                                                                                
MR.  MAYER  answered that  could  be  better answered  with  some                                                               
slides in  a short while.  He added that for  old oil there  is a                                                               
sliding  dollar  per-barrel credit  that  ranges  from $0  to  $8                                                               
depending on  where the  price is; it's  highest when  prices are                                                               
low and  it exists to  curve the effective  rate of tax  down. It                                                               
can't be  used to go below  a 4 percent gross  minimum floor. The                                                               
only credit that can do that is  an NOL credit, which he would go                                                               
through shortly.                                                                                                                
                                                                                                                                
By contrast, the  calculation of the gross minimum  floor for new                                                               
oil is  effectively done first, and  then the question of  the $5                                                               
fixed per-barrel credit  is done after that. That  means that the                                                               
hard  gross  minimum  floor  doesn't   apply  in  the  same  way.                                                               
Essentially these are both integral  components of the tax system                                                               
that is  used to figure  out what  the actual effective  tax rate                                                               
should  be in  a range  of  different price  environments and  to                                                               
reduce that  tax rate  in lower price  environments to  create an                                                               
overall  progressive   system,  which  balances   out  regressive                                                               
elements of the  overall fiscal system, which is  the royalty. He                                                               
would cover how those pieces fall together a little later.                                                                      
                                                                                                                                
3:49:53 PM                                                                                                                    
The elements  that are at  various stages  of phase out  are: the                                                               
exploration credit  that expires on  July 1, 2016, and  the small                                                               
producer credit  which expires  on May 1,  2016, but  phasing out                                                               
with a nine year tail from  the time an eligible company received                                                               
first production.                                                                                                               
                                                                                                                                
Non-North  Slope  (Cook  Inlet)  credits  are  a  form  of  state                                                               
supported subsidy that offers to  incentivize particular types of                                                               
activity. There  is a  loss of credits  tied to  capital spending                                                               
and the  NOL credit  is the  same in  statute as  the one  on the                                                               
North  Slope,  but it  functions  very  differently, because  the                                                               
North Slope has a profit-based  production tax and the NOL credit                                                               
is simply a  way of recognizing expenses that  would otherwise be                                                               
deducted  against liability.  Cook Inlet  doesn't have  a profit-                                                               
based production  tax, and so the  NOL credit in lots  of ways is                                                               
similar to either  the capital credits under ACES  or the capital                                                               
credits  that exist  in Cook  Inlet, except  that it's  something                                                               
that can  only be  taken by a  producer that  effectively doesn't                                                               
have production.                                                                                                                
                                                                                                                                
The 20  percent for  qualified capital  expenditures is  the same                                                               
credit  that used  to exist  under ACES  on the  North Slope;  it                                                               
continues  to  exist in  Cook  Inlet.  The additional  heightened                                                               
credit  of   40  percent  for   capital  expenditures   are  also                                                               
intangible drilling  costs for  well-related spending.  These two                                                               
credits can be taken and stacked  together if one is eligible for                                                               
a NOL credit  (if one is a  new developer) to receive  a total of                                                               
45-65 percent total state support.                                                                                              
                                                                                                                                
SENATOR STEDMAN  remarked that the  committee is being  told that                                                               
there is no  way for the treasury to recoup  the 45-65 percent in                                                               
credits being  issued in the  non-North Slope region,  Cook Inlet                                                               
specifically.                                                                                                                   
                                                                                                                                
MR. MAYER said  that is correct; the one exception  is Cook Inlet                                                               
royalty.                                                                                                                        
                                                                                                                                
MR. MAYER  said the  exploration credits in  both Cook  Inlet and                                                               
the North  Slope expire on July  1; the one exception  to that is                                                               
outside of those two basins  (Middle Earth) where the proposal is                                                               
to extend those. The small producer  tax credit is used to reduce                                                               
a  liability  to  zero  if  less than  50,000  BOED  is  produced                                                               
declining in  a straight line up  to 100,000 BOED. In  Cook Inlet                                                               
the tax  liability is primarily  from gas. For  companies working                                                               
in Frontier basins  (Middle Earth) there is an up  to $6 million-                                                               
a-year credit),  structured similarly  to the small  producer tax                                                               
credit  that  has  the  same phase-out  timeframe  as  the  small                                                               
producer  tax credit.  That was  the  end of  his description  of                                                               
various North Slope and non-North Slope credits in statute.                                                                     
                                                                                                                                
3:54:05 PM                                                                                                                    
He said  the key part of  the conversation is about  the refunded                                                               
component that  are cash payments  from the treasury.  Those have                                                               
grown  very  substantially  over  time,  and  looking  from  FY11                                                               
onwards,  the  North  Slope  part of  that  component  is  pretty                                                               
stable.  The most  striking growth  has been  in Cook  Inlet; the                                                               
majority of FY15  is actually Cook Inlet and  FY16 is essentially                                                               
capped  at $500  million total.  The numbers  are correspondingly                                                               
large in  FY17 and he  assumed that was  because the rest  of the                                                               
FY16 cap is being paid out in FY17.                                                                                             
                                                                                                                                
3:55:18 PM                                                                                                                    
MR. MAYER said slide 6  illustrates for FY15 the sheer difference                                                               
between Cook Inlet and the  North Slope, credits versus revenues.                                                               
There  is  about  $2.3 billion  in  restricted  and  unrestricted                                                               
petroleum   revenues,   about   $1.6  billion   of   that   being                                                               
unrestricted.  There are  about $600  million in  credit payouts,                                                               
and  those  are  substantially  greater  than  the  revenue  from                                                               
production  tax, although  by  no means  greater  than the  whole                                                               
stack of  revenues. To get the  full picture, he said,  one needs                                                               
to distinguish between  what is happening on the  North Slope and                                                               
what is  happening in  Cook Inlet: there  the disparity  is quite                                                               
striking. The  amount of revenue  that comes from the  Cook Inlet                                                               
is relatively small  versus the majority of  the refunded credits                                                               
that  are paid  out. It's  hard to  look at  that in  the current                                                               
fiscal environment and think that  that is a sustainable position                                                               
the state can maintain.                                                                                                         
                                                                                                                                
CHAIR GIESSEL commented that the  other striking thing about this                                                               
slide,  besides what  Mr. Mayer  already pointed  out, is  what a                                                               
massive piece the royalty is.                                                                                                   
                                                                                                                                
MR. MAYER  said royalty is a  gross tax and those  are inherently                                                               
regressive; that  is to say  they represent a much  greater share                                                               
of the  pie when prices  are low than  when prices are  high. And                                                               
that is  in contrast  to the progressive  element of  the system,                                                               
the  production tax,  which is  specifically  designed to  shrink                                                               
away as  prices go down. The  royalty alone takes a  vast portion                                                               
of the overall value  of a barrel of oil and  in many cases, more                                                               
than 100  percent. In  that sense,  royalty, more  than anything,                                                               
provides  the lion's  share  of the  value to  the  state at  low                                                               
prices, because the other components  of the system, particularly                                                               
the  profit-based  production  tax   only  exist  when  there  is                                                               
actually profit to  tax. Whereas the royalty  provides revenue to                                                               
the state even when there is no profit.                                                                                         
                                                                                                                                
SENATOR STEDMAN  asked Mr. Mayer  to graph FY16 even  though part                                                               
of it is still hypothetical, because  it ends at the end of June.                                                               
The contrast  will be  the price  difference between  roughly $70                                                               
and $30 a barrel for oil. He  thought that would make the bars on                                                               
the graph look a little different.                                                                                              
                                                                                                                                
4:00:52 PM                                                                                                                    
MR. MAYER  said he  would be happy  to do that.  He said  slide 7                                                               
uses  a  10  percent gross  tax  and  a  25  percent net  tax  to                                                               
illustrate the math involved. He  explained that an effective tax                                                               
rate is  a net  concept (how  much of the  profit is  being taken                                                               
through the  tax system),  and a  25 percent  flat net  taxes the                                                               
gross value  of the  sale, not anything  connected to  the actual                                                               
profit or  economic value  being created. Because  it is  a fixed                                                               
amount,  a  flat rate  represents  an  ever  greater share  of  a                                                               
shrinking  barrel  as  prices  go  down and  results  in  a  very                                                               
regressive  curve that  quickly gets  very high  when prices  are                                                               
low.                                                                                                                            
                                                                                                                                
A 10  percent gross tax might  represent barely 12 or  15 percent                                                               
of the  profits at  the highest prices,  but quickly  becomes 100                                                               
percent  of the  profits at  a  $50-or-so barrel,  and from  that                                                               
point very quickly  goes reaches infinity, because  at some point                                                               
one gets to where there is no  more profit and any fixed share of                                                               
nothing is nothing.                                                                                                             
                                                                                                                                
4:02:39 PM                                                                                                                    
The basic  idea is that  there are  key advantages to  both gross                                                               
and net  taxes, and Alaska  has a hybrid  of both, and  there are                                                               
certain tensions that come with having that, Mr. Mayer said.                                                                    
                                                                                                                                
He explained that  gross taxes are much  less volatile, precisely                                                               
because  they  are  regressive  in  the same  way  that  most  of                                                               
Alaska's revenue  is coming from  the royalty. Because  they take                                                               
much more of  the pie when times are hardest,  they provide a lot                                                               
of relative  revenue stability  to the state,  and they  are very                                                               
simple and easy  to administer. Unlike the  world of profit-based                                                               
taxes where one sees years of  audit backlog trying to figure out                                                               
all the costs that went in  and assessing exactly how much profit                                                               
was  made, the  state  only  needs to  know  two  data points  to                                                               
administer  a gross  tax system:  how much  was produced  and how                                                               
much  it sold  for. The  disadvantages  are: because  it is  high                                                               
government take  at low  prices and low  government take  at high                                                               
prices that  means over  the course of  the economic  cycle, when                                                               
times are good, the state is  probably not taking near as much as                                                               
it  could, but  it  also distorts  and dis-incentivizes  marginal                                                               
investments.  That  could  be  because  in the  same  way  it  is                                                               
regressive with the relative price,  it is regressive with regard                                                               
to costs. The  most difficult fields to produce  have the highest                                                               
government take, and  in many cases, that means  that fields that                                                               
are  expensive and  difficult  to  produce -  but  that might  be                                                               
economic other  than for the  incidence of  this tax -  become no                                                               
longer economic, because the take on them is so high.                                                                           
                                                                                                                                
MR. MAYER said companies are not  drilling in North Dakota at the                                                               
moment,  and  the  reason  is   that  North  Dakota  has  a  very                                                               
regressive  system that  takes a  huge amount  at these  sorts of                                                               
prices and much less at higher  prices. It's very hard to want to                                                               
be  reinvesting in  those sorts  of places  when prices  are what                                                               
they are now, because there is simply no profit to be made.                                                                     
                                                                                                                                
SENATOR STEDMAN noted  that Texas and Oklahoma  have private land                                                               
ownership  and Alaska  has a  state-owned resource.  He would  be                                                               
very surprised if  a farmer would want to produce  his 20 percent                                                               
royalty  at  $39   a  barrel.  That  would  have   an  impact  on                                                               
production, also.                                                                                                               
                                                                                                                                
MR. MAYER said certainly the royalty  in the majority of cases in                                                               
those  jurisdictions are  privately  held, but  from a  company's                                                               
perspective  in terms  of assessing  an  investment decision,  it                                                               
doesn't  matter whether  the royalty  is privately  or publically                                                               
held in so far as it's all cash  that goes to someone that is not                                                               
you.                                                                                                                            
                                                                                                                                
SENATOR  STEDMAN clarified  that  his point  was  that a  private                                                               
royalty owner  would be a lot  less excited about pumping  oil at                                                               
$39 a  barrel than  at $79  a barrel and  would probably  be more                                                               
reluctant to  reduce royalties rather  just leave the oil  in the                                                               
ground and  wait. The actions  from the landowners  are different                                                               
from the  State of Alaska  as a sovereign, because  its structure                                                               
is different.                                                                                                                   
                                                                                                                                
MR. MAYER said  that net taxes are much more  volatile and harder                                                               
to  administer, because  auditors are  needed to,  but the  great                                                               
advantages are a much more  efficient system. If structured well,                                                               
it is much less distorting  for marginal investments on expensive                                                               
fields allowing  investment to keep  going when times  are harder                                                               
and it enables investment across the commodity cycle.                                                                           
                                                                                                                                
4:07:18 PM                                                                                                                    
In  particular, he  explained,  net profit  taxes  (slide 8)  are                                                               
frequently structured, as the State  of Alaska's is, not as taxes                                                               
on income but as taxes on  cash flow. The key thing to understand                                                               
is that for the first three  years of a new development one might                                                               
see  three  years of  capital  investment  before any  production                                                               
actually occurs.  After the start  of production,  revenues occur                                                               
and operating costs  are deducted against those, but  the bulk of                                                               
that capital  spending is  happening up  front before  any actual                                                               
revenues occur. In a pure  cash-flow world that means three years                                                               
of  negative cash  flow, and  then subsequent  years of  positive                                                               
cash  flow. In  a world  of  income accounting,  all the  upfront                                                               
capital  expenditure  would  be   capitalized  at  the  start  of                                                               
production  and only  recognized through  the tax  system in  the                                                               
form of depreciation  (allowing a portion of that to  be taken as                                                               
an expense steadily over time).                                                                                                 
                                                                                                                                
Whereas the idea behind  a cash flow tax is to  say over time the                                                               
same expenses  are recognized but  capital spending is seen  as a                                                               
cash  cost when  it  occurs rather  than  being depreciated  over                                                               
time. The idea  behind that is to maximize the  efficiency of the                                                               
tax  system  in terms  of  minimizing  the distorting  impact  on                                                               
investment, and the  way to be least distorting  on investment is                                                               
for  the  tax  to  look  as  much  as  possible  like  an  equity                                                               
participation in  a project.  Equity participation  means putting                                                               
up some of the initial capital  and then taking some out from the                                                               
resulting  cash flow.  The basic  idea behind  any cash  flow net                                                               
profit tax  is to  look exactly like  that. The  simplest example                                                               
would be like the one on slide  8 where 25 percent of the upfront                                                               
capital  is  in  the  form  of  negative  tax  credit  (NOL,  for                                                               
instance), and then 25 percent of  the cash flow is taken through                                                               
the  tax  system later  on.  It's  important to  understand  that                                                               
distinction  when people  bring  up different  companies and  the                                                               
profits or losses  that they report are all  about income. Almost                                                               
all  companies that  are  reinvesting in  Alaska  at the  moment,                                                               
spending actual capital, are cash negative in this environment.                                                                 
                                                                                                                                
4:10:31 PM                                                                                                                    
MR. MAYER said it is useful to  come back to the core idea behind                                                               
Alaska's tax system, which has  steadily gotten more complicated.                                                               
It's easiest to understand the  components by going back to where                                                               
it all began:  in 2006 with a  paper by Dr. Pedro  van Muers that                                                               
proposed a net  profit based production tax of a  flat 25 percent                                                               
that would have two credits: the  20 percent capital credit and a                                                               
25 percent  net operating loss credit  (NOL) - the NOL  to be the                                                               
same as the 25 percent tax rate,  the idea being to allow the tax                                                               
to  go negative  those  years  of negative  cash  flow. In  other                                                               
words,  the  state  contributes  25   percent  of  the  costs  of                                                               
investment  and  then  takes  25  percent of  the  cash  that  is                                                               
generated.                                                                                                                      
                                                                                                                                
The 20 percent  capital credit was an additional  way of creating                                                               
-  instead  of  the  flat  neutral   25  percent  tax  rate  -  a                                                               
progressive  structure. The  impact  of that  20 percent  capital                                                               
credit  comes close  to  a 25  percent tax  rate  at the  highest                                                               
prices, but steadily  as prices go down, the tax  rate would bend                                                               
along with  it and eventually become  zero. He said if  one plots                                                               
the effective tax rate of 12.5  percent royalty it creates a sort                                                               
of symmetry  that ends up  with a fairly  flat tax rate  across a                                                               
wide range of prices.                                                                                                           
                                                                                                                                
4:12:39 PM                                                                                                                    
MR. MAYER said  Dr. van Muers' paper proposed  credits that would                                                               
be tradeable  but not  reimbursable from  the treasury,  the idea                                                               
being  a producer  with no  liability  could sell  the credit  to                                                               
someone with  a liability. This  means, effectively,  there would                                                               
be a statewide  floor of zero, because the credits  could only be                                                               
taken against a  liability, there would not be  a possibility for                                                               
the credits to take the liabilities below zero.                                                                                 
                                                                                                                                
SENATOR STEDMAN  remarked that  Alaska has an  imbalance of  a 35                                                               
percent NOL credit  and no corresponding 35 percent tax.  It is a                                                               
statutory 35  percent tax,  but mathematically,  due to  the per-                                                               
barrel credit, there  is no effective means of  achieving that 35                                                               
percent numeric.                                                                                                                
                                                                                                                                
4:14:51 PM                                                                                                                    
MR. MAYER  said the mechanism  for that balancing is  the sliding                                                               
per-barrel credit  under SB  21. Referring to  slide 10,  he said                                                               
the basic  idea of the  NOL credit is  to equalize the  impact of                                                               
the tax  system between  producers that  have a  liability versus                                                               
new developers that don't yet  have one. Instead of allowing them                                                               
to  carry  expenses  forward  and   deduct  them  against  future                                                               
revenues, the  credit just pays  them now. They would  not deduct                                                               
them in the future and therefore pay more taxes then.                                                                           
                                                                                                                                
4:18:04 PM                                                                                                                    
MR. MAYER said that slide 11  showed how ACES added an additional                                                               
progressive component to  the basic tax structure in  the form of                                                               
a tax  rate that could  steadily increase  as the price  goes up.                                                               
So, the total tax rate could  approach 40 to 50 percent or higher                                                               
instead  of 25  percent. The  progressivity structure  meant very                                                               
high marginal tax rates, and that  is because the actual tax rate                                                               
itself  was  based on  the  so-called  production tax  value  per                                                               
barrel.  This meant  that instead  of the  previous system  where                                                               
government take was  essentially a flat 45 percent  in all cases,                                                               
a  new  developer with  no  liability  would receive  45  percent                                                               
support  through the  combination of  the NOL  credit and  the 20                                                               
percent  capital credit,  but a  developer  with substantial  tax                                                               
liability  might  have  80  to  100  percent  effective  support,                                                               
because of  facing a  marginal tax  rate up  in the  80s combined                                                               
with 20  percent capital credit.  The amount of support  was very                                                               
unpredictable for  everyone. It meant  the state brought  in huge                                                               
amounts  of revenue  to the  treasury when  prices were  high and                                                               
spending  was low,  but  it also  meant that  in  periods of  low                                                               
prices  and high  spending there  was major  risk that  the state                                                               
would have  to pay out a  large percentage of cash  both in terms                                                               
of  foregone revenues  in the  tax system  and then  in terms  of                                                               
credits.                                                                                                                        
                                                                                                                                
4:20:21 PM                                                                                                                    
SENATOR STEDMAN  recalled under both  regimes the concept  was to                                                               
try to make  reinvestment in Alaska more  attractive than sending                                                               
the cash back  to the home office and trying  to get the industry                                                               
out of "harvest mode."                                                                                                          
                                                                                                                                
4:21:13 PM                                                                                                                    
MR. MAYER  said the  way the  4 percent gross  floor works  is to                                                               
first decide  if the net profit  tax one is paying  is greater or                                                               
less than  4 percent  of the gross  (the regressive  element that                                                               
gets steadily  bigger as prices  get lower). It seemed  that when                                                               
that  calculation was  done  it  really had  no  impact. That  is                                                               
because capital  credits were applied  after. So, as long  as one                                                               
had any baseline  level of capital spending, that  flow was never                                                               
binding. Therefore, the effective tax  rate still comes down to 0                                                               
percent at  the $60 or  so price range.  So, there was  really no                                                               
hard binding gross floor under ACES.                                                                                            
                                                                                                                                
4:22:15 PM                                                                                                                    
The core changes  in SB 21 (comparison on slide  12) were no more                                                               
20 percent  capital credit, a  higher nominal rate of  35 percent                                                               
tax,  and a  sliding $0-8  per-barrel credit  for oil  production                                                               
that acts  similarly to progressivity  (under ACES) to  create an                                                               
overall progressive curve.                                                                                                      
                                                                                                                                
SB 21  has a slightly lower  tax rate at last  year's prices, but                                                               
there are two  key differences. SB 21 has a  much lower rate when                                                               
prices are highest and it also  has a harder binding gross floor,                                                               
because it  essentially said if  there is no more  capital credit                                                               
and you can do the  calculation of this sliding per-barrel credit                                                               
that can reduce  your taxes steadily more as prices  go down, but                                                               
comparing it  to a gross system  is done after the  $1 per-barrel                                                               
credit is  applied. So, the  $1 per-barrel credit can  never take                                                               
you  down below  the 4  percent gross  floor. Then  the tax  rate                                                               
comes down to  just under 10 percent  of the net at  around $75 a                                                               
barrel  of oil,  but then  very quickly  starts to  go up  again,                                                               
because at  that point,  one is  no longer being  taxed on  a net                                                               
basis. One is being taxed on a  gross basis at 4 percent of gross                                                               
revenues, and  that very quickly  takes up ever more  until again                                                               
once  the price  goes down  to about  $50 a  barrel the  tax rate                                                               
quickly becomes 100 percent in net terms.                                                                                       
                                                                                                                                
4:24:15 PM                                                                                                                    
SENATOR  STEDMAN  said the  Senate  never  reviewed  a $0  to  $8                                                               
sliding scale.  The Senate bill  used $5  per barrel when  it was                                                               
sent over  to the  House and  at some point,  a sliding  scale is                                                               
needed for DOR  to hold a taxpayer in the  minimum tax range. And                                                               
a  "hardened floor"  just  doesn't exist;  it  is a  mathematical                                                               
equation to take credits against. He  thinks of it as a gross tax                                                               
calculation of 4  percent and then take whatever  you can against                                                               
it.                                                                                                                             
                                                                                                                                
MR. MAYER  added that the  only thing you  can take against  it -                                                               
unlike previous  times when the  entire capital credits  could be                                                               
counted and it  really had no effect - is  NOL credit, which only                                                               
applies literally when one has no  profit at all. The reason this                                                               
curve goes  up dramatically  is you  can only  plot the  lines in                                                               
terms of effective tax rates as  long as there is actually profit                                                               
to tax.   Below the  point of $46 barrel  there is no  longer any                                                               
profit  to tax,  the  point at  which  you have  on  one hand  an                                                               
infinite tax  rate and  also the  point at  which the  NOL credit                                                               
kicks in for  the first time and  starts to take you  from that 4                                                               
percent of gross down to zero.                                                                                                  
                                                                                                                                
SENATOR STEDMAN  pointed out that  the GVR $5  per-barrel credit,                                                               
the  small producer  credit, and  starting in  FY15 with  a large                                                               
enough Net Operating Loss (NOL)  credit, can all be taken against                                                               
the floor.                                                                                                                      
                                                                                                                                
4:26:17 PM                                                                                                                    
MR. MAYER said slide  12 looks at the world of  "new oil" that is                                                               
eligible for gross value reduction,  which at the moment makes up                                                               
"a very,  very, small  sliver of  the total  pie," and  "old oil"                                                               
under SB  21, and the  only thing that can  be taken as  a credit                                                               
against the hard  floor is the NOL credit. The  floor for old oil                                                               
is a very  hard floor right up  until the point that  there is no                                                               
profit whatsoever.  At that point  it starts coming  down because                                                               
of the  operation of the  NOL credit.  It's important to  keep in                                                               
mind through  the entire history  of tax regimes in  Alaska there                                                               
has been  an understanding of  this problem of gross  taxes being                                                               
highly  regressive. Under  the economic  limit  factor (ELF)  the                                                               
idea was understanding those problems  and needing a formula that                                                               
would  steadily reduce  the  tax  burden when  there  is no  more                                                               
profit to  tax, and  it worked  for a little  while, and  then it                                                               
stopped  working. Under  ACES  the  gross floor  was  put in  and                                                               
clearly it never  actually applied. But the idea -  based on cost                                                               
assumptions that existed  back then that are  very different than                                                               
today's cost assumptions - there would  be a 4 percent floor in a                                                               
certain range of  prices below $25 per barrel. Then  it went to a                                                               
2 percent floor and then no floor at all at lower prices.                                                                       
                                                                                                                                
MR. MAYER thought it was a  very intentional move to have the NOL                                                               
credit,  to say  once  one  was eligible  for  a  NOL credit,  by                                                               
definition one has no profit.  In circumstances, the state is not                                                               
sure  it  wants  the  full   4  percent  gross  floor  to  apply.                                                               
Reasonable  people can  differ as  to whether  that is  the right                                                               
policy call  or not, but that  is the right context  for thinking                                                               
about that debate.                                                                                                              
                                                                                                                                
SENATOR  STEDMAN said  he  should have  parsed  it more  clearly,                                                               
because he was looking at oil  in the aggregate and Mr. Mayer was                                                               
talking  about old  oil.  He  thought there  had  been  a lot  of                                                               
confusion in  the building  in the last  several years  about the                                                               
floor. A lot  of people were shocked that it  could be pierced so                                                               
easily.                                                                                                                         
                                                                                                                                
CHAIR  GIESSEL said  the point  that Mr.  Mayer made  was if  one                                                               
takes  net operating  losses, one  has  no profit.  Consequently,                                                               
it's rather difficult to say one owes  a tax in a system based on                                                               
net profits.                                                                                                                    
                                                                                                                                
4:29:55 PM                                                                                                                    
MR. MAYER said slide 13 is about  new oil. It is eligible for the                                                               
GVR, the idea being to create  a lower effective tax rate for new                                                               
fields. People  in Alaska tried  to do that  in the past,  but it                                                               
was very hard  to see how that would work,  precisely because the                                                               
entire system is set up is to  have no "ring fencing." It's a net                                                               
tax  system  where  one  thinks  about  costs  and  revenues  and                                                               
subtracts one from  the other and doesn't try to  get down to the                                                               
level  of saying  these costs  are associated  with a  particular                                                               
field. This  system treats  the North  Slope as  a whole  and the                                                               
idea behind  the gross value reduction  was to say if  we want to                                                               
have  a lower  effective  tax  rate on  some  production and  not                                                               
others,  the only  way  to do  that is  by  concentrating on  the                                                               
revenue side of  the equation. So, because they  wanted to reduce                                                               
the tax rate  but can't change it from 35  percent for everybody,                                                               
they created "this  fiction" that says you had X  in revenues and                                                               
we're going  to pretend you had  X minus 20 percent.  Having that                                                               
fiction allows  the tax rate to  be reduced, which turned  out to                                                               
be a substantial  reduction in the overall effective  tax rate on                                                               
new oil.                                                                                                                        
                                                                                                                                
The other difference, as Senator  Stedman pointed out, is that to                                                               
be  eligible  for  GVR  (a   very  small  portion  of  the  total                                                               
production), the gross floor is  calculated first and then the $1                                                               
per-barrel  credit is  applied afterwards.  So, it's  a fixed  $5                                                               
per-barrel credit  rather than  the sliding  one, and  it doesn't                                                               
get as big. The idea was to  not put the burden of the regressive                                                               
gross floor  on activities  they are  trying to  incentivize. The                                                               
idea was  to create  an overall tax  system that  was effectively                                                               
neutral at between  60 and 65 percent across a  really wide range                                                               
of prices.                                                                                                                      
                                                                                                                                
CHAIR  GIESSEL asked  if he  would  be available  to continue  on                                                               
Monday. Mr. Mayer said he could make that work.                                                                                 

Document Name Date/Time Subjects
enalytica presentation to SRES-4-2-2016.pdf SRES 4/2/2016 2:00:00 PM
Oil and Gas Tax Credits
DOR Presentation to SRES-4-2-2016.pdf SRES 4/2/2016 2:00:00 PM
Oil and Gas Tax Credits
SB 163-Supporting Document-40 CFR 122.2.pdf SRES 4/2/2016 2:00:00 PM
SB 163
SB 163-Supporting Document-40 CFR 230.3.pdf SRES 4/2/2016 2:00:00 PM
SB 163
SB 163-Comments-Bristol Bay Native Association.pdf SRES 4/2/2016 2:00:00 PM
SB 163
SB 163-Comments-Curyung Tribal Council.pdf SRES 4/2/2016 2:00:00 PM
SB 163
SB 163CS(RES)-Fiscal Note-DEC-WQ-03-31-16.pdf SRES 4/2/2016 2:00:00 PM
SB 163
SB 163CS(RES)-Fiscal Note-DNR-MLW-4-1-16.pdf SRES 4/2/2016 2:00:00 PM
SB 163
SB 163CS(RES)-Fiscal Note-DFG-HAB-4-2-16.pdf SRES 4/2/2016 2:00:00 PM
SB 163