Legislature(2013 - 2014)SENATE FINANCE 532

03/13/2013 01:30 PM FINANCE

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01:42:21 PM Start
01:43:43 PM SB21
02:33:19 PM Adjourn
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
Heard & Held
+ Bills Previously Heard/Scheduled TELECONFERENCED
                 SENATE FINANCE COMMITTEE                                                                                       
                      March 13, 2013                                                                                            
                         1:42 p.m.                                                                                              
1:42:21 PM                                                                                                                    
CALL TO ORDER                                                                                                                 
Co-Chair Meyer called the Senate Finance Committee meeting                                                                      
to order at 1:42 p.m.                                                                                                           
MEMBERS PRESENT                                                                                                               
Senator Pete Kelly, Co-Chair                                                                                                    
Senator Kevin Meyer, Co-Chair                                                                                                   
Senator Anna Fairclough, Vice-Chair                                                                                             
Senator Click Bishop                                                                                                            
Senator Mike Dunleavy                                                                                                           
Senator Lyman Hoffman                                                                                                           
Senator Donny Olson                                                                                                             
MEMBERS ABSENT                                                                                                                
ALSO PRESENT                                                                                                                  
Senator Cathy  Giessel; Senator  Burt Stedman;  Roger Marks,                                                                    
Legislative   Consultant,  Legislative   Budget  and   Audit                                                                    
Committee;  Barry  Pulliam,   Managing  Director,  Econ  One                                                                    
Research,  Inc.;   Michael  Pawlowski,   Advisor,  Petroleum                                                                    
Fiscal  Systems,  Department  of  Revenue;  Bruce  Tangeman,                                                                    
Deputy Commissioner, Tax Division, Department of Revenue                                                                        
SB  21    OIL AND GAS PRODUCTION TAX                                                                                            
          SB 21 was HEARD and HELD in committee for further                                                                     
SENATE BILL NO. 21                                                                                                            
     "An  Act relating  to  appropriations  from taxes  paid                                                                    
     under the  Alaska Net Income  Tax Act; relating  to the                                                                    
     oil and gas  production tax rate; relating  to gas used                                                                    
     in the state; relating  to monthly installment payments                                                                    
     of the oil and gas  production tax; relating to oil and                                                                    
     gas  production  tax  credits for  certain  losses  and                                                                    
     expenditures; relating  to oil  and gas  production tax                                                                    
     credit  certificates; relating  to nontransferable  tax                                                                    
     credits based  on production; relating  to the  oil and                                                                    
     gas tax  credit fund; relating to  annual statements by                                                                    
     producers and explorers;  relating to the determination                                                                    
     of annual  oil and gas production  tax values including                                                                    
     adjustments  based on  a percentage  of gross  value at                                                                    
     the  point   of  production  from  certain   leases  or                                                                    
     properties;    making   conforming    amendments;   and                                                                    
     providing for an effective date."                                                                                          
1:43:43 PM                                                                                                                    
ROGER MARKS, LEGISLATIVE  CONSULTANT, LEGISLATIVE BUDGET AND                                                                    
AUDIT COMMITTEE, presented  the PowerPoint presentation, "SB
21: Long-Run Revenue Scenarios"  (copy on file). He examined                                                                    
the fiscal  implications of adjusting  oil and gas  taxes in                                                                    
order to  create a more  competitive investment  climate for                                                                    
Alaskan oil. He  voiced that in 2007 the  state instituted a                                                                    
production  tax increase.  He shared  that  during the  same                                                                    
time period,  Alberta, Canada  increased oil  tax royalties.                                                                    
The oil drillers moved their  operations to nearby provinces                                                                    
in   Canada  and   oil  production   in  Alberta   declined.                                                                    
Subsequently, Alberta  reduced its royalties  and production                                                                    
increased.  He  furthered  that the  infrastructure  on  the                                                                    
North  Slope  was  worth  $60   billion  and  could  not  be                                                                    
relocated.  He   characterized  the  present   situation  as                                                                    
"captive investment."  The producers kept producing  oil and                                                                    
paid increased taxes to the state.                                                                                              
Mr.  Marks  discussed Slide  2,  "Alaska  North Slope  (ANS)                                                                    
Production under  Status Quo  Current Decline  Rate Extended                                                                    
Out  20  Years." The  slide  graphed  the decline  curve  by                                                                    
barrels per day  from 2006 through 2023. He  stated that the                                                                    
"predictable"  consequence of  the  increased tax  structure                                                                    
caused  a  shift  in investment  from  Alaska  to  worldwide                                                                    
upstream  capital investment,  which  increased 50  percent.                                                                    
Conversely, investment in Alaska's  oil industry remained at                                                                    
2007  levels. Alaskan  North  Slope  oil production  dropped                                                                    
300,000  barrels   per  day   (bbl./d)  to   550,000  bbl./d                                                                    
currently. Within  the next twenty years  ANS production was                                                                    
predicted to  decrease to 200,000 bbl./d.  He cautioned that                                                                    
the Department of Revenue's  (DOR) production forecasts were                                                                    
historically high.                                                                                                              
Mr.   Marks  pointed   to   two   important  elements   when                                                                    
instituting changes in the tax  structure in order to create                                                                    
a  more  competitive  environment: (1)  Revenue  comparisons                                                                    
could not  use the  same production  number of  barrels when                                                                    
examining  the  difference  between  a  non-competitive  tax                                                                    
system  and  a competitive  one.  A  competitive tax  system                                                                    
needed  more  investment in  production.  (2)  In the  short                                                                    
term, changes in  the production tax needed  "lead time" for                                                                    
the investment  in production response  to work  itself out.                                                                    
Reductions in revenue were expected.                                                                                            
Mr. Marks turned to Slide  3, "ACES Total Petroleum Revenues                                                                    
over 20  Years, ACES at Trended  Current Production Forecast                                                                    
vs.  CSSB   21  (FIN)  with  Various   Potential  Production                                                                    
Increases  $110/bbl.  ANS   Market  Price  ($billions)."  He                                                                    
predicted  that  a  competitive tax  system  would  increase                                                                    
investment   and   production.   He   commented   that   ANS                                                                    
recoverable  oil was  estimated at  10 billion  barrels. The                                                                    
amount   of   increased   investment  and   production   was                                                                    
impossible  to  predict  but  estimation  was  possible.  He                                                                    
explained  that under  ACES  (Alaska's  Clear and  Equitable                                                                    
Share)  and the  current production  decline rate  the state                                                                    
was  estimated to  receive $87  billion  in total  petroleum                                                                    
revenues  (production  tax,  royalties,  property  tax,  and                                                                    
state  corporate income  tax).  He  hypothesized a  scenario                                                                    
that incorporated  the predicted  base production  and added                                                                    
increments of  10,000 bbl./d taxed  under the  provisions of                                                                    
CS SB  21 (FIN) and  calculated that  over a 20  year period                                                                    
the  state would  generate increase  revenue  above ACES  at                                                                    
70,000 additional  bbl./d. He noted  that 70,000  bbl./d was                                                                    
not  that large  of an  increase when  compared to  the fact                                                                    
that oil production declined 300,000  barrels per day within                                                                    
the last  six years. North  Slope proven oil  reserves stood                                                                    
at  4 billion  barrels. He  reiterated that  recoverable oil                                                                    
reserves were estimated at 10 billion barrels.                                                                                  
Mr. Marks displayed Slide 4,  "Total Petroleum Revenues over                                                                    
20 Years,  ACES at  Trended Current Production  Forecast vs.                                                                    
CSSB  21   (FIN)  with  Various  Potential   Reserve  Growth                                                                    
$110/bbl. ANS  Market Price ($billions)." He  explained that                                                                    
70,000 bbl./d  was only  a small  fraction of  the potential                                                                    
reserve base; one  half billion barrels per day out  of a 10                                                                    
billion barrel potential  reserve was only 5  percent of the                                                                    
potential reserve  base. He concluded  that the  tradeoff of                                                                    
modifying the tax system was  lost ACES revenue in the short                                                                    
term with the potential for more  or less new tax revenue in                                                                    
the future.                                                                                                                     
1:52:27 PM                                                                                                                    
Senator Hoffman  referred to his  support of tax  credits in                                                                    
previous years. Mr.  Marks replied that "there  were pro and                                                                    
cons to credits." He discerned  that the expenditure credits                                                                    
were  not increasing  production.  He  related that  credits                                                                    
incentivize production  and when utilized in  the investment                                                                    
period  of  the  project  they  positively  affect  the  net                                                                    
present value.                                                                                                                  
Senator  Hoffman wondered  whether  the  credits under  ACES                                                                    
were expected  to produce  new oil over  the next  10 years.                                                                    
Mr.  Marks  responded  that  any  increased  production  was                                                                    
included in the long term production forecast.                                                                                  
Co-Chair Meyer  cited a slide  from a  previous presentation                                                                    
and asked for clarification on  extending the time period of                                                                    
the GRE (Gross Revenue Exclusion).                                                                                              
BARRY PULLIAM,  MANAGING DIRECTOR, ECON ONE  RESEARCH, INC.,                                                                    
reviewed Slide  6, "Relationship  Between Length of  GRE and                                                                    
Percent  of NPV  of  Drilling Cost  Initial  1,500 BPD,  12%                                                                    
Decline  Rate"  of  "Comments on  Senate  Finance  CSSB  21"                                                                  
(March  12,   2013)  (copy  on   file)  from   the  previous                                                                    
presentation. He explained that  the analysis translated the                                                                    
value of  the GRE into  an equivalent capital  credit value.                                                                    
The longer the GRE applied  and the higher percentage of the                                                                    
GRE the  greater monetary value  it produced.  He delineated                                                                    
that  at a  20 percent  GRE the  tax rate  was reduced  each                                                                    
year. Within five years half of  the oil from the well would                                                                    
be produced and  was the equivalent of a  30 percent capital                                                                    
credit up front.  He added that the GRE at  15 percent would                                                                    
yield  the same  results  when applied  over  a longer  time                                                                    
period. He  recommended the lower  GRE, citing  benefits for                                                                    
the  producers and  the state.  Consequently, each  year the                                                                    
revenue loss  to the  state would be  reduced with  the same                                                                    
level  of benefit  to the  producer extended  over a  longer                                                                    
period  of time.  The scenario  avoided  increasing the  tax                                                                    
during  the   production  period  of  the   well,  therefore                                                                    
extending the life of the well.                                                                                                 
1:59:37 PM                                                                                                                    
Vice-Chair  Fairclough asked  about  "price distortions"  at                                                                    
various  prices  per  barrel.  Mr.  Pulliam  explained  that                                                                    
percent  fluctuations would  happen concurrently  with price                                                                    
fluctuations. He examined  the GRE after 5 years  at $80 per                                                                    
barrel as opposed  to $100 per barrel. The  NPV (net present                                                                    
value) of GRE  as a percent of drilling costs  would drop to                                                                    
20 percent  instead of 30  percent. If the prices  were $120                                                                    
per  barrel  the percentage  would  rise  to 40  percent  of                                                                    
drilling  costs.  The  fluctuations   could  be  avoided  by                                                                    
eliminating  the GRE  and instituting  an additional  $4 per                                                                    
barrel  allowance.  The  benefit  would  be  "invariant"  to                                                                    
Co-Chair Meyer asked for clarification on the later point.                                                                      
Vice-Chair Fairclough asked whether  he was referring to the                                                                    
proposed  30  to  5  ratio  [30  percent  tax  rate  and  $5                                                                    
production allowance  per barrel and  raising the $5  to $9.                                                                    
Mr. Pulliam  answered, "Yes." He explained  that eliminating                                                                    
the GRE for  new production and adding an  additional $4 per                                                                    
barrel for  a total  of $9  per barrel  production allowance                                                                    
coupled  with the  30 percent  tax rate  for new  production                                                                    
eliminated the need for a  GRE. The additional $4 per barrel                                                                    
took the place of the GRE.                                                                                                      
Vice-Chair  Fairclough asked  whether the  change eliminated                                                                    
the need for additional accounting  and acted as a bonus for                                                                    
new   oil  production.   Mr.   Pulliam   responded  in   the                                                                    
affirmative. He  offered that the  method was  an additional                                                                    
way to reduce the tax rate without a GRE.                                                                                       
Mr. Pulliam turned  to Slide 7, "Example  of Tax Calculation                                                                    
With and Without  GRE." He explained that the  GRE was based                                                                    
on  the wellhead  value. He  pointed  out that  at $100  per                                                                    
barrel  the GRE  translated to  a $15  reduction in  taxable                                                                    
value. He furthered that if  the wellhead value was $120 per                                                                    
barrel the  value of  GRE would be  greater than  $15; worth                                                                    
more at a  higher price. Conversely, the GRE  was worth less                                                                    
at a  lower price; a well  head value of $80  per barrel was                                                                    
worth $12.  He concluded  that the  GRE fluctuated  with oil                                                                    
price fluctuations.  The fixed per barrel  allowance did not                                                                    
change  as  prices  changes.  He  summarized  that  the  GRE                                                                    
equivalent of a fixed price  allowance meant that with lower                                                                    
prices  the allowance  as  a percentage  was  higher and  at                                                                    
higher prices the percentage was lower.                                                                                         
Mr.  Pulliam  discussed  Slide  3,  "Summary  of  Investment                                                                    
Measures  Incumbent Investment  in  50  MMBO Field  $20/Bbl.                                                                    
Development   Capex,   12.5%   Royalty  Rate."   The   slide                                                                    
demonstrated that a $5 allowance  was the equivalent of a 20                                                                    
percent GRE  percentage at  $80 per barrel  and at  $150 per                                                                    
barrel the allowance  was equivalent to a GRE  of 10 percent                                                                    
and  at  $60 per  barrel  the  percentage  equated to  a  30                                                                    
percent GRE.  With a  fixed barrel  allowance the  value was                                                                    
greater at  lower prices  and lower  at higher  prices where                                                                    
the incentive  wasn't as necessary. He  recommended a higher                                                                    
fixed per barrel allowance for new oil instead of a GRE.                                                                        
Vice-Chair  Fairclough  wondered   what  the  administration                                                                    
thought of  eliminating the GRE  and adopting a  fixed price                                                                    
2:07:29 PM                                                                                                                    
MICHAEL  PAWLOWSKI,   ADVISOR,  PETROLEUM   FISCAL  SYSTEMS,                                                                    
DEPARTMENT  OF  REVENUE,   shared  that  the  administration                                                                    
considered striking  a balance with utilization  of the GRE.                                                                    
The fixed  price allowance created  a higher value  at lower                                                                    
prices  and the  GRE offered  higher benefit  at higher  oil                                                                    
prices. The administration wanted  to balance protection for                                                                    
the state  at lower oil  prices and  how much was  offset at                                                                    
increased  per barrel  allowance.  Both  methods produced  a                                                                    
curve. The  administration decided that "smaller  per barrel                                                                    
allowances  and   more  comparable   GRE's  was   a  healthy                                                                    
Senator Dunleavy  asked how confident  Mr. Pulliam  was that                                                                    
increased production would occur  if the production tax rate                                                                    
was reduced.  He asked what  his direct experience  with the                                                                    
situation was.  He thought that  the tax reduction  could be                                                                    
viewed as  either an investment  or a giveaway.  Mr. Pulliam                                                                    
shared that  he had  25 years'  experience in  the petroleum                                                                    
industry as  an economist. He exemplified  a situation where                                                                    
only two  gas stations existed in  a small town and  the gas                                                                    
station  with lower  prices did  more  business. The  higher                                                                    
priced gas station will lower  its price of gas. He believed                                                                    
that in  markets with "rational  economic actors"  price and                                                                    
volume were "inversely related."  He expected that the state                                                                    
would  attract more  investment  but  was uncertain  whether                                                                    
production would  compensate the state sufficiently  for the                                                                    
revenue  lost due  to the  reduction in  taxes. The  results                                                                    
were difficult to predict with a "high degree of accuracy."                                                                     
Mr. Pulliam shared that an  academic research study examined                                                                    
a change in Wyoming's tax rate  by 5 percent (to 10 percent)                                                                    
and  concluded that  the  change resulted  in  a 20  percent                                                                    
impact on drilling and a  6 percent impact on production. He                                                                    
noted  that  5  percentage   points  equaled  3  percent  in                                                                    
government take. The Alaskan proposal  supported a change of                                                                    
government  take  by  10 percent,  which  "would  suggest  a                                                                    
pretty   large  response   in   drilling  and   production."                                                                    
Predictions from the various  methods of analysis determined                                                                    
that the  state should expect  a "pretty good  response." He                                                                    
judged that  the state had  a reputation for  instability in                                                                    
tax systems. He  pointed to the ELF  (Economic Limit Factor)                                                                    
system at one "extreme" and ACES  at the other. He thought a                                                                    
stable tax system, if not  perfect, was more beneficial than                                                                    
continued adjustments to the tax structure.                                                                                     
2:15:33 PM                                                                                                                    
Senator Dunleavy  wondered what other model  worldwide comes                                                                    
the closest  to mirroring Alaska's situation  of high taxes,                                                                    
declining  production,  and  other  related  variables.  Mr.                                                                    
Pulliam remembered that a similar  situation occurred in the                                                                    
United Kingdom. The government  increased government take as                                                                    
oil fields matured. The  government subsequently embarked on                                                                    
a  program  of  field  allowances in  2012.  The  production                                                                    
response  was  too early  to  determine  but the  amount  of                                                                    
applications   for   development    was   substantial.   The                                                                    
government   held   a   high   expectation   for   increased                                                                    
Senator   Dunleavy  reiterated   his   question  about   how                                                                    
confident  Mr.  Pulliam was  that  the  tax reduction  would                                                                    
increase production  in Alaska. Mr. Pulliam  stated that the                                                                    
current tax  structure was in  need of  "meaningful change."                                                                    
The  state had  the ability  to analyze  and change  the tax                                                                    
system if the  proposed changes did not work.  The state was                                                                    
currently  engaged  in  the  same   process  with  ACES.  As                                                                    
production  in  the  state declined,  the  state  needed  to                                                                    
create a competitive environment  to attract new investment.                                                                    
He determined  that the  first successful  sign would  be in                                                                    
increased  investment.  He   stated  that  "production  will                                                                    
follow investment."  He discerned that the  various versions                                                                    
of SB  21 all contained  significant enough changes  to spur                                                                    
significant responses.                                                                                                          
Co-Chair  Kelly announced  that the  state wanted  to choose                                                                    
the accurate tax  structure now and avoid  changing it again                                                                    
in the future. He furthered that  the state had a history of                                                                    
incentivizing exploration  and spending  and it  worked. The                                                                    
state  currently   wanted  to  incentivize   production.  He                                                                    
believed that production would increase  with the passage of                                                                    
the legislation. Mr. Pulliam agreed  that "getting it right"                                                                    
was important  and furthered that  "stability" was  the main                                                                    
element. He commented  that if the system  wasn't working it                                                                    
would be appropriate to re-examine it for further changes.                                                                      
Co-Chair  Kelly  stated  that from  personal  experience  in                                                                    
retail that  if reducing prices  didn't work the  first time                                                                    
more reduction was necessary.                                                                                                   
2:23:42 PM                                                                                                                    
Senator  Bishop referred  to Mr.  Pulliman's experience  and                                                                    
queried what a reasonable amount  of time that Alaska should                                                                    
expect  increased activity  was.  Mr.  Pulliam replied  that                                                                    
increased investment should begin within a "couple years."                                                                      
Senator  Bishop stated  that from  personal experience  with                                                                    
collective bargaining  that once  something was given  up it                                                                    
was difficult to  get it back. He believed  it was important                                                                    
to  get  the  right  tax   system  for  future  natural  gas                                                                    
investment  opportunities   on  the  North  Slope.   He  was                                                                    
encouraged  by industries  pledge  to create  more jobs  for                                                                    
Alaskans and grow the state's economy.                                                                                          
Vice-Chair  Fairclough referred  to prior  testimony related                                                                    
to incomplete  audits. She  asked whether  incomplete audits                                                                    
under  ACES  should  be finished  before  changing  the  tax                                                                    
system  and if  the  information from  the completed  audits                                                                    
could effectuate "more informed"  decisions regarding SB 21.                                                                    
Mr. Pawlowski answered in the negative.                                                                                         
BRUCE   TANGEMAN,   DEPUTY   COMMISSIONER,   TAX   DIVISION,                                                                    
DEPARTMENT OF REVENUE, replied  that the department received                                                                    
monthly  information from  tax payers.  He detailed  that an                                                                    
audit was a compilation of  information from the past twelve                                                                    
months.  The department  was currently  auditing taxes  from                                                                    
2007  on  ACES  and  PPT  (Petroleum  Production  Tax).  The                                                                    
department  did   possess  accurate  tax   information  from                                                                    
subsequent years  from the monthly  tax filings paid  by the                                                                    
taxpayers. He  recapped that an  audit was  a reconciliation                                                                    
of  large quantities  of  information  already received.  He                                                                    
added that DOR was  operating within the statutory timeframe                                                                    
for completing audits.                                                                                                          
Vice-Chair  Fairclough surmised  that DOR  had not  received                                                                    
information from  audits that  would affect  the information                                                                    
the department was  utilizing as the basis  for changing the                                                                    
tax regime. Mr. Tangeman concurred.                                                                                             
Vice-Chair  Fairclough   shared  that  she   heard  previous                                                                    
testimony in a DOR  subcommittee that audit completions were                                                                    
slowed down  due to various  changes in  federal regulation.                                                                    
She confirmed  that DOR was within  the regulatory timeframe                                                                    
for  completing the  audits. Mr.  Tangeman  added that  each                                                                    
time  an  audit  was  re-opened  the  six  year  period  for                                                                    
completion began again.                                                                                                         
Vice-Chair Fairclough asked whether  a legislator could sign                                                                    
a  confidentiality agreement  and examine  tax records.  Mr.                                                                    
Tangeman answered, "Yes."                                                                                                       
Vice-Chair  Fairclough  shared  that   in  the  interest  of                                                                    
transparency,  individual  legislators  had  access  to  the                                                                    
unaudited oil tax records.                                                                                                      
SB  21  was   HEARD  and  HELD  in   committee  for  further                                                                    
2:33:19 PM                                                                                                                    
The meeting was adjourned at 2:33 p.m.                                                                                          

Document Name Date/Time Subjects
SB 21 031313 marks - long-run revenue.pdf SFIN 3/13/2013 1:30:00 PM
SB 21