Legislature(2005 - 2006)BUTROVICH 205
02/23/2006 03:30 PM Senate RESOURCES
| Audio | Topic |
|---|---|
| Start | |
| SB305 | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| += | SB 305 | TELECONFERENCED | |
ALASKA STATE LEGISLATURE
SENATE RESOURCES STANDING COMMITTEE
February 23, 2006
3:38 p.m.
MEMBERS PRESENT
Senator Thomas Wagoner, Chair
Senator Ralph Seekins, Vice Chair
Senator Ben Stevens
Senator Bert Stedman
Senator Kim Elton
Senator Albert Kookesh
MEMBERS ABSENT
Senator Fred Dyson
OTHER MEMBERS PRESENT
Senator Gretchen Guess
Senator Gene Therriault
Senator Hollis French
COMMITTEE CALENDAR
SENATE BILL NO. 305
"An Act repealing the oil production tax and gas production tax
and providing for a production tax on the net value of oil and
gas; relating to the relationship of the production tax to other
taxes; relating to the dates tax payments and surcharges are due
under AS 43.55; relating to interest on overpayments under AS
43.55; relating to the treatment of oil and gas production tax
in a producer's settlement with the royalty owner; relating to
flared gas, and to oil and gas used in the operation of a lease
or property, under AS 43.55; relating to the prevailing value of
oil or gas under AS 43.55; providing for tax credits against the
tax due under AS 43.55 for certain expenditures, losses, and
surcharges; relating to statements or other information required
to be filed with or furnished to the Department of Revenue, and
relating to the penalty for failure to file certain reports,
under AS 43.55; relating to the powers of the Department of
Revenue, and to the disclosure of certain information required
to be furnished to the Department of Revenue, under AS 43.55;
relating to criminal penalties for violating conditions
governing access to and use of confidential information relating
to the oil and gas production tax; relating to the deposit of
money collected by the Department of Revenue under AS 43.55;
relating to the calculation of the gross value at the point of
production of oil or gas; relating to the determination of the
net value of taxable oil and gas for purposes of a production
tax on the net value of oil and gas; relating to the definitions
of 'gas,' 'oil,' and certain other terms for purposes of AS
43.55; making conforming amendments; and providing for an
effective date."
HEARD AND HELD
PREVIOUS COMMITTEE ACTION
BILL: SB 305
SHORT TITLE: OIL AND GAS PRODUCTION TAX
SPONSOR(s): RULES BY REQUEST OF THE GOVERNOR
02/21/06 (S) READ THE FIRST TIME - REFERRALS
02/21/06 (S) RES, FIN
02/22/06 (S) RES AT 3:30 PM BUTROVICH 205
02/22/06 (S) Heard & Held
02/22/06 (S) MINUTE(RES)
02/23/06 (S) RES AT 3:30 PM BUTROVICH 205
WITNESS REGISTER
DR. PEDRO VAN MEURS, Oil and Gas Consultant to the Governor
Van Meurs and Associates Ltd.
Calgary, Alberta, Canada
POSITION STATEMENT: Delivered PowerPoint slide show on the
Petroleum Profits Tax (PPT"
ROGER MARKS, Petroleum Economist
Department of Revenue
PO Box 110400
Juneau, AK 99811-0400
POSITION STATEMENT: Delivered the "PPT Revenue Studies"
PowerPoint presentation for the Department of Revenue
ROBYNN WILSON, Director
Anchorage Office
Tax Division
Department of Revenue
PO Box 110400
Juneau, AK 99811-0400
POSITION STATEMENT: Commented on SB 305
ACTION NARRATIVE
CHAIR THOMAS WAGONER called the Senate Resources Standing
Committee meeting to order at 3:38:57 PM. Present were Senators
Ben Stevens, Bert Stedman, Ralph Seekins, Al Kookesh, Kim Elton
and Chair Thomas Wagoner. Senators Gretchen Guess, Hollis French
and Gene Therriault also attended the meeting.
SB 305-OIL AND GAS PRODUCTION TAX
CHAIR Thomas WAGONER announced SB 305 to be up for
consideration. He asked Dr. Van Meurs to proceed.
DR. PEDRO VAN MEURS, Oil and Gas Consultant to the Governor,
introduced the February 23, 2006 PowerPoint presentation titled
"Petroleum Production Tax".
Slide 2 demonstrates that the Alaska fiscal system applied to
oil and gas consists of four primary components: royalties,
production tax (severance tax, "ELF"), property tax, and state
corporate income tax. In addition, there is a federal corporate
income tax.
The presentation relates to the international competitive
aspects of the proposed petroleum production tax. Obviously, he
said, when international fiscal system comparisons are done, the
entire state and federal package is compared together.
Slide 3 provides an explanation of the PPT. The proposal
outlined in SB 305 calls for a 20 percent tax rate and a 20
percent tax credit rate, a $73 million tax-free allowance, and a
capital expenditure (capex) clawback over the last five years.
Capex includes all expenditures related to wells, facilities and
such.
Slide 4 outlines the history of the project, which was finalized
on February 14, 2006. Until early January 2006 his
recommendation was for a 20 percent tax and a 15 percent tax
credit based on the international competitiveness analysis, but
as the results became known, he decided to amend that to a 25
percent tax rate and a 20 percent tax credit rate (25/20). Due
to that change, the report contains reference to both 20/15 and
25/20.
The 20/20 concept and the capex clawback were suggested after
the report was finalized so reference to that system, as the
main feature in the report won't be found. However, Dr. Van
Meurs said, from the perspective of international
competitiveness, the options are similar so the general
conclusions of the report remain valid for the 20/20 concept.
Slide 5 is the table of contents.
Executive Summary
1. Introduction
2. New international trends in government take
3. Economic analysis
4. Analysis of the 20/15 PPT
5. Analysis of alternative PPTs
6. International competitiveness of the 20/15 PPT
7. International rating of the 20/15 PPT
8. Competitiveness and PPT rate
9. International rating of the 25/20 PPT
10. Heavy Oil Incentives
11. Review of 25/20 PPT
The table in Slide 6 considers the range of cost scenarios for
different field sizes. For this kind of fiscal analysis it's
important to consider a wide range of cost and field sizes
because you don't know what size the next find will be. If the
Artic National Wildlife Refuge (ANWR) is ever opened it's
important to have an adequate fiscal analysis in place so the
state can receive maximum benefit. That being said, Dr. Van
Meurs explained that the main focus of the economic work was on
high cost fields of 50 million and 150 million barrels, since
those field types represent North Slope conditions.
Slide 7 analyzes the 20/20 PPT when oil is $40. The chart shows
the royalties, PPT, property taxes, and state and federal
corporate income taxes for "DRY HOLE," 50 MM, 150 MM and 500 MM
barrel fields.
When you examine a DRY HOLE you see the numbers are negative
meaning the amounts are deductible for PPT purposes because the
PPT is now on a corporate basis. Looking at how much is returned
from the government as a result of lower PPT or lower corporate
income tax, you can see that, for $40 oil, 64.7 percent of the
well cost is returned to the investor. The DRY HOLE data clearly
shows that the PPT is an enormously strong instrument for
exploring or drilling other wells.
The next three columns show 50 MM, 150 MM and 500 MM. For the 50
MM field the PPT is -110.1. That means that for new investors
the $73 million tax-free allowance applies so for all practical
purposes the investor won't pay the tax, but will receive the
tax credits. For the larger fields the tax rapidly overcomes the
tax credits and a lot of PPT is payable. If you look at the
overall "Alaska government take," you see that for a small 50 MM
field it is 22.6 percent and that goes up to 35.4 percent for a
500 MM field. The "Federal government take ranges from 27.2
percent for the 50 MM field to 22.7 percent for the 500 MM
field.
3:51:35 PM
Slide 8 illustrates that tax credits are important for small
fields and that they have considerable impact on the break-even
point. The chart is a sensitivity analysis for PPTs of 20
percent with no tax credit, a 15 percent tax credit, and a 25
percent tax credit. The break-even point is about $22 per
barrel, but with a 25 percent tax credit it rises to as much $34
per barrel. The higher the tax credit, the higher the break-even
price, he said.
He made the point that the tax credits make for a riskier system
for the state. The more tax credits, the greater the chance
there are negative values for fields. That emphasizes the
importance of striking the right balance between tax rates and
tax credits. He reminded members that he had previously
recommended the 20/15 combination and then the 25/20
combination. He favors combinations in which the tax rates are
combined with a somewhat lower tax credit rate.
Overall, the 20/20 combination is a riskier system than either
20/15 or 25/20. The graph clearly demonstrates that tax credits
have an enormous impact on the crossover point.
Slide 9 shows the internal rate of return (IRR) for 150 million
barrel fields under low well productivity and high costs. The
higher the tax credits the higher the rate of return. The chart
shows that with a 25 percent tax credit rate the IRR can be
increased by as much as 5 percentage points for this size field.
Clearly, the tax credits are the main instrument for improving
the IRR, which is an important factor in making these tax
payments so attractive for new investors.
3:55:16 PM
Slide 10 makes the following statement: The competitive position
of the Alaska system was analyzed using the same field sizes.
Eight fiscal systems were analyzed and they all reflect areas in
the world where considerable investment is currently taking
place. Those systems include: Norway, UK, US Gulf Coast, Alberta
Oil Sands, Nigeria, Angola, Russia-Sakhalin, and Azerbaijan.
3:56:20 PM
Slide 11 establishes the principle that relative to other
jurisdictions, Alaska has the disadvantage of a relatively low
wellhead value due to high transportation costs and a lower
quality than other crude in the world. As a result of those two
factors, there is a $7 differential between a barrel of oil
produced in the Gulf of Mexico and a barrel of oil produced on
the North Slope. The study takes that $7 differential into
consideration so if the rate of return for Alaska and other
jurisdictions is the same, it means that it's already taken into
account that the Alaska wellhead price is $7 less than the Gulf
of Mexico or $5 less than Alberta.
The slide indicates that many nations have a lower wellhead
price than the Gulf of Mexico. For instance, Azerbaijan has a $6
differential. Dr. Van Meurs advised that he included Azerbaijan
to make a comparative analysis between jurisdictions with low
net back values or low wellhead prices.
DR. VAN MEURS explained that the next few slides show the actual
international comparison of different fiscal systems that were
studied.
The graph in slide 12 shows the rate of return for a 500 million
barrel field in Norway and the United Kingdom. The British terms
are very profitable and the Norwegian terms are somewhat less
profitable. All the PPTs fall between the British and Norwegian
terms.
4:00:19 PM
Slide 13 illustrates the IRR for a 50 MM barrel field for a
first investment. The new investor would benefit from the $73
million tax-free allowance. They wouldn't pay any PPT tax on the
first discovery, but they would still receive the tax credit.
The graph clearly demonstrates that by international standards,
the first field would be very profitable. Once the price rises
to $30 or $40 per barrel it doesn't matter much whether a PPT of
20/20 or 25/20 or 20/15 is selected, all have a high rate of
return. That's because the tax isn't paid, but the tax credit is
received so there's actually a negative PPT.
Slide 14 shows the average government take for a first
investment in a large 500 MM barrel field. The worldwide
spectrum of government take is represented here with the United
Kingdom government take at 50 percent and the Norway government
take at 78 percent. The government take for Alaska is about 60
percent for each of the various fiscal options. The government
take includes the federal corporate income tax in addition to
royalties, property tax, and the state corporate income tax so
the PPT is just a small component. The options all have about
the same take, but when you move from 20/20 to 25/20 there is a
one or two percentage point increase in government take
depending on price and cost levels.
Slide 15 illustrates the average government take for a first
investment in a 50 MM barrel field. In this scenario the
government take averages about 50 percent, but at very low
prices it feathers off to the point of being uneconomic. That is
in contrast to the last slide showing that a large field has a
60 percent government take.
Slide 16 deals with the competitive index covered in chapters 7,
8, and 9 of the report, which shows how competitive a system is.
Dr. Van Meurs explained that the methodology is relatively
simple. Collect a number of economic variables including rate of
return, net present value, and government take for a number of
different field sizes and cost conditions. In the study, 48
elements were evaluated for 10 different fiscal systems. If a
fiscal system was the best in all 48 elements, then a rating of
48 was given. The fiscal system that was the worst of 10 was
given a rating of 480.
4:05:39 PM
Slide 17 shows new investor ratings for a 20/15 and a 25/20
system. The US Gulf of Mexico with a score of 52 is best under
the 20/15 rating while the Russia-Sakhalin score of 444 is the
worst. The score for the Alaska Current system is 364 and the
Alaska PPT score is 272. That means that a new investor would
perceive the PPT as significantly more competitive than the
Alaska Current system. He noted that even though he hadn't
evaluated the 20/20 system the same would hold for that
combination and certainly it would be more attractive to the new
investor than the Alaska Current system.
Slide 18 relates to PPT and heavy oil. Heavy oil represents a
new generation of oil in Alaska and it's important because
there's an estimated 3 to 5 billion barrels of it on the North
Slope. At this point not much is in production, but the idea is
that PPT would also stimulate production of heavy oil.
The slide illustrates the importance of the tax credits for
heavy oil because it is a very capital-intensive operation. The
25/20 system and the higher tax credit rates show little
difference, which is an important element in the conclusion that
a 20 percent tax credit seems to be adequate to boost the rate
of return for heavy oil by approximately 5 percentage points.
That means a 25 percent tax credit isn't necessary.
4:08:30 PM
Slide 19 concludes that the 20/20 proposal results in very
competitive terms for new investors and existing petroleum
companies when analyzed from an international perspective.
It continues with the following statement: "The system will
therefore result in more investment in Alaska, while at the same
time creating much higher revenues, primarily from existing
production and under average and high prices also from new
production."
4:10:14 PM
SENATOR STEDMAN asked how old the data is on slide 17 that
compares various international regimes. He related his
impression that what is currently taking place in Alaska today
has been taking place in other countries for the last two or
three years.
DR. VAN MEURS replied the fiscal terms on slide 17 are based on
the situation today and take into consideration the fact that
some nations have already increased the fiscal terms. For
example, the United Kingdom is rated based on the change made in
December 2005 when it raised the overall tax rate from 40
percent to 50 percent. Similarly, the information for Norway is
based on the latest version of the Norwegian fiscal system,
which was revised last year.
DR. VAN MEURS related that Chapter 2 of his report questions
whether or not the world is under upward pressure for government
take. The answer, he said, is absolutely. That trend is very
strong in this "new world." Until a few years ago the government
take was sliding down, now the process has reversed.
4:13:39 PM
SENATOR ELTON referenced the 25/20 rating on slide 17 and asked
if the scoring system reflects just the government take.
DR. VAN MEURS said no, scoring is based on four economic
indicators: rate of return, net present value, expected monetary
value, and government take. Those variables are applied to 12
different field/cost/revenue configurations to create the 48
element system. Investors like a high rate of return with a low
government take so if a system scores 1 it means it has the
lowest government take with the highest rate of return on the
present value.
SENATOR ELTON offered the view that investors would also look
for stability. Given current events and what's happening in
regimes around the world he surmised that Nigeria might be rated
artificially high.
DR. VAN MEURS agreed then reiterated the point that this is just
a fiscal rating for giving a general impression of improved
competitiveness. He observed that, in general, the quality of a
resource base is inversely proportional to the rating. The
countries with the best ratings are places that have no oil and
gas at all while the worst ratings are in the Middle East where
large low-cost oil reserves are found. He acknowledged that
apart from the fiscal elements on the chart, many other factors
figure into an investor's decision.
SENATOR ELTON suggested that because political stability and
fiscal stability are such major issues, a tax premium for
factors that aren't reflected in the chart on slide 17 might be
in order.
DR. VAN MEURS responded there are firms whose core business is
doing different kinds of risk evaluations. His rating relates to
the fiscal terms and doesn't address overall attractiveness.
4:19:54 PM
SENATOR BERT STEDMAN noted that on page 126 the report discusses
the 25/20 system and in the overall rating section it talks
about 25/20 being more attractive to new and small investors
than the 20/15 system.
DR. VAN MEURS explained that the reason is that within a certain
range the tax credit rate is actually more important than the
tax rate itself. He added he's confident the 20/20 system will
rate very well.
SENATOR STEDMAN noted that the chapter conclusion says "If it
can be concluded that the 20 percent tax rate and the 20 percent
credit would be competitive from the international point of
view, and the overall government take would be similar to other
countries that have equal or lesser resource quality, therefore
it is a fair and reasonable system." He asked why one tax rate
would be better than the other.
DR. VAN MEURS replied his recommendation for the 25/20 system as
well as the work done by Mr. Marks and the Department of Revenue
clearly indicated that the 25/20 system results in more
revenues. The Governor has to take other factors into
consideration and he settled on the 20/20 system. However, when
you look at all the various systems, the government take isn't
that different because the tax component is just one of a number
of other components. He reminded members that he told the joint
body that a 20 percent or higher tax and 15 or 20 percent tax
credit are all competitive systems. Basically, all the systems
in the range could be recommended, but when the tax rises to 30
percent then you start to lose competitiveness. His report also
indicated that a tax rate of 10 or 15 percent is too low and not
in the best interest of the state.
4:25:05 PM
CHAIR WAGONER asked by what percentage the government take
differs between the 20/20 system and the 20/25 system.
DR. VAN MEURS replied the overall difference is about 2
percentage points, but in terms of money the difference is
relatively large. According to Mr. Mark's graph for $40 oil,
there's about $300 million difference per year between 25/20 and
20/20.
4:26:17 PM
SENATOR HOLLIS FRENCH asked Dr. Van Meurs to articulate and
quantify the increased risk in the 20/20 system compared to the
25/20 system.
DR. VAN MEURS responded it's always a good idea to look at the
risk in addition to the revenues. He clarified that he defines
risk from a fiscal standpoint so the evaluation relates to what
happens at low oil prices. The PPT is a profit-based system so
if prices are low, you're worse off than with the current tax
system. The higher the tax credits relative to the tax rate, the
greater the risk because with down-side prices you have large
tax credits that could be transferred to other companies. That
would result in a significant reduction of the PPT. If prices
are up and the tax rate is lower, you wouldn't collect much more
than if the tax rate were higher. That's why, from a risk point
of view, 20/15 and 25/20 are the two best combinations; the tax
rates are higher than the tax credit rate. When prices are high
the gains are greater than the credits that may be lost on the
down side.
4:28:51 PM
CHAIR WAGONER asked Dr. Van Meurs to provide figures for
government take for the proposed system as well as 5 and 10
percent peer group discounts.
DR. VAN MEURS agreed to do so and continued to explain that the
competitiveness position changes depending on discount rates.
With discount rates the Alaska Current system tends to drop in
competitiveness, the PPT stays the same relative to others, and
back-end loaded systems improve.
4:31:50 PM
SENATOR GENE THERRIAULT referenced data from Alberta Canada
relating to government take. The information indicates that on
the down side government take is up to 80 percent due to a
royalty system that is somewhat regressive at low prices. For
mid range the government take is about 70 percent and on the up
side the government take is 65 percent. He noted that page 15 of
the report says that on a $50 MM barrel field as price goes up
the government take rises to about 50 percent and for larger
fields overall government take rises to about 60 percent. He
asked why it's still lower than what Alberta receives and what a
fair overall government take might be
MR. VAN MEURS replied Alberta doesn't have a low wellhead value
like Alaska does so, on average, it is $5 better off than
Alaska. In other words, depending on cost conditions, if the
government take were the same, the rate of return or net present
value in Alberta would still be higher than in Alaska. The
difference is due to transportation costs.
SENATOR STEDMAN referenced table 9.19 of the report showing
percentage of government take and asked if he should be
concerned that government take drops as price rises.
DR. VAN MEURS replied not necessarily. The purpose of the
tidewater analysis was to illustrate what Alaska resources would
look like if they were in Texas. The $5 transportation fee was
changed to a 12.5 percent royalty, which is a regressive system.
Other consultants were comfortable using the figures for
comparative purposes. They show that overall government take for
20/15 or 25/20 is within the range of reason.
4:38:42 PM
SENATOR THERRIAULT asked how many international jurisdictions
are modifying their tax systems.
DR. VAN MEURS explained that progressive nations are changing to
a system in which the government take goes up automatically. His
perception is that there is clear upward pressure on government
take for oil so Alaska is well within the international
framework. He added that isn't necessarily the case for gas
because there is still a lot of stranded gas available.
4:41:51 PM
SENATOR THERRIAULT asked if the 20/20 system would be
destabilizing if the price of oil were to rise to $200 per
barrel in the next five years because the state's share would
drop at very high prices.
DR. VAN MEURS replied the typical government take with the lower
netback has slight progressivity, but there isn't strong
progressivity in the overall system as proposed. The reason is
that the highly regressive royalty and the highly regressive
property tax are canceled by the progressive PPT thereby
creating a neutral system.
He noted that there are more progressive systems, but investors
look at the entire range of prices and perceive more up side if
there isn't as much progressivity. If you have progressive
systems you typically pay the price on the down side. The focus
of the Alaska proposal is to make sure that Alaska significantly
improves its income on average.
4:46:11 PM
SENATOR THERRIAULT asked if any country has a system that's the
same as the current proposal.
DR. VAN MEURS said no, but the Norwegian system is most similar
to the PPT. The primary difference between the two is that
Alaska has tax credits and the Norwegian system uses uplifts,
which are extra cost allowances. Tax credits are more attractive
to small investors because they can be sold the following year.
4:48:06 PM
SENATOR BEN STEVENS read the last sentence from slide 10 and
asked Dr. Van Meurs if he considers Alaska to be a place in
which "considerable investment is taking place.
DR. VAN MEURS replied he wouldn't say it's considerable, but he
wouldn't qualify it as small either. The large oil companies are
certainly doing interesting things on the North Slope, but not
on the level that Alaska needs to avoid the decline of oil
production. Alaska would like a higher level of investment,
which is why the PPT is designed the way it is.
SENATOR BEN STEVENS asked if the comparison relates to the
fiscal terms on oil alone or oil and gas.
DR. VAN MEURS clarified the comparison is only for oil. The
stranded gas contract is based on the concept that the state
would take royalty and tax gas in kind, which involves a
completely different set of circumstances. However, if the
stranded gas contract does not come through, then the PPT would
apply to gas, which would raise the question of whether or not
the PPT is a competitive framework for gas as well.
4:53:46 PM
SENATOR BEN STEVENS referred to the comparisons between the
Alaska production mechanisms and those in other countries and
asked how many of those countries re-inject their gas, how many
flare their gas and how many take their gas to market.
DR. VAN MEURS replied it's different from country to country.
Norway has large gas fields that are already developed and it
has very large export lines. The United Kingdom actively
develops and uses its gas. In Nigeria significant flaring of gas
is occurring so few projects are being done. The government
recognizes that the flaring must stop for obvious environmental
reasons and companies are in the process of putting in re-
injection schemes. Angola already has significant re-injection
of gas, but the market is small. Russia-Sakhalin has always been
a joint oil and gas development scheme. Azerbaijan is not gas
prone, but it is in the process of twinning its oil line with a
gas line to supply gas to Georgia and Turkey. That export scheme
is modest.
SENATOR BEN STEVENS said his point is that each country that
Alaska is analyzed with has different economics in its petroleum
industry, which is why he is suspect of blanket comparisons
between Alaska and other international jurisdictions.
DR. VAN MEURS agreed and reiterated the fiscal comparison is
just one of the components. Just because a system compares
favorably from a fiscal point doesn't mean that investors should
invest. Investors must also factor the resource base and the
economic and political risks. Under no circumstance would he say
that the fiscal comparison would stand alone in determining
whether or not a company should invest.
4:59:41 PM
SENATOR STEDMAN asked how the $73 million tax-free allowance was
determined.
DR. VAN MEURS explained that he ran cases for $50 million and
$100 million and the fiscal terms wouldn't change much. The $73
million figure comes from allocating $200,000 per day for 365
days. That calculation is convenient if tax is figured on a
monthly basis.
SENATOR STEDMAN remarked it could amount to a substantial amount
of revenue if a large number of small companies became
investors. He said he'd think about that over the next several
days.
DR. VAN MEURS responded it's true smaller companies will come to
Alaska, but that isn't cause for concern. He suggested it would
be a good idea if more small companies invested in the Fairbanks
region or Cook Inlet. Those fields are marginal so the state
shouldn't be concerned about the tax because economic activity
and employment is created. In contrast, the North Slope will
attract more large companies. Furthermore, the bill has specific
anti-splitting provisions to discourage companies from splitting
up solely for the purpose of paying less tax.
Alberta has worked with a similar system for decades and found
it to be quite successful. Small companies receive fiscal
incentives and create niches for themselves going after the
marginal conventional oil wells while the large companies
develop the oil sands and heavy oils. He suggested that
something similar would probably evolve in Alaska.
5:06:24 PM
CHAIR WAGONER asked if a company operating under the 20/20
system could sell its credit.
DR. VAN MEURS replied definitely; that's what makes this fiscal
system so attractive. For example if a new company came to
Alaska to drill near Fairbanks, it would have little or no
income. Because it has the $73 million tax-free allowance it
wouldn't pay the PPT. However, the investment would create the
tax credits so the company's position has improved
significantly. It has the tax credits, but it doesn't pay the
tax. That, he said, it about the strongest stimulus you could
give to encourage new investors to come to Alaska. The incentive
is the same for small and large investors, but once a company
makes a significant discovery, the next investment wouldn't
benefit. The goal is to attract new companies.
5:08:46 PM
SENATOR ELTON questioned the "shotgun" approach and asked why
the state wouldn't target companies coming in and investing in
frontier areas or in heavy oil. He questioned why the state
should give a $73 million credit to Exxon.
DR. VAN MEURS agreed that the $73 million credit is applicable
to all companies regardless of size, but targeting makes for a
more complicated system, which is a disincentive from an
investment standpoint. The goal is to balance simplicity with
effectiveness.
5:12:02 PM
CHAIR WAGONER acknowledged the explanation, but if every oil
company in Alaska receives a $73 million discount every year for
20 years that would amount to $4,380,000,000 for just the three
major companies.
DR.VAN MEURS clarified the $73 million is only the tax-free
income.
CHAIR WAGONER said he didn't see the correlation between trying
to attract new exploration and granting this to existing
companies. Furthermore he didn't believe the three major
companies are the only ones that top out over the $73 million
per year.
DR.VAN MEURS responded he'd defer to Mr. Marks, but that's why
the assumption is for more.
5:14:03 PM
SENATOR THERRIAULT asked if there are many jurisdictions that
offer the certainty that modifications are out of the
government's reach.
DR. VAN MEURS replied about eight nations provide absolute
fiscal stability and about ten nations provide a high degree of
fiscal stability. Still others have modest fiscal stability
provisions related to certain taxes. Few nations provide fiscal
stability of the quality that is being contemplated in the
stranded gas act. A number of nations have progressive fiscal
systems without having fiscal stability.
It's possible to pre-design a strongly progressive fiscal system
but you don't necessarily have to attach fiscal stability to
progressivity.
SENATOR STEDMAN noted that the bill has a look-back provision
for recapturing historical costs by means of a credit. He asked
Dr. Van Meurs to comment on how that relates to the report.
DR. VAN MEURS explained that the capital expenditure clawback or
look-back provision is a recent innovation that was added to the
package after he delivered his report. Mr. Dickenson did most of
the work on that provision and he would explain it in detail.
His understanding is that the idea is to allow major oil
companies to pay less tax and deduct some costs from the
previous five-year period. Apparently that applies only when oil
is above $40 per barrel. He further understands that in the
entire scheme of things this feature is relatively modest, but
that doesn't mean that it's unimportant.
5:21:32 PM
SENATOR SEEKINS asked if he still believes that the 25/20 system
is fair.
DR. VAN MEURS replied from a fiscal point of view yes, but he's
aware that the Governor must make decisions on a broader basis.
SENATOR SEEKINS commented he hadn't seen Dr. Van Meurs back down
from his original report.
CHAIR WAGONER thanked Dr. Van Meurs and asked Mr. Marks to
proceed.
5:23:06 PM
ROGER MARKS, Petroleum Economist, Department of Revenue, said he
would compare the PPT revenues with the status quo. He informed
the committee that he would describe: the department's model,
long-term cumulative revenues, annual revenues, and corporate
take. Tomorrow he would present how SB 305 affects small and new
investors so the issue of the $73 million tax free allowance,
the marketability of credits and the conversion of losses to
credits would be covered at that time.
To model how much money the state will get from the tax an
important element is how much oil will be produced. That's
difficult to forecast, but two scenarios were examined. The
first relates to enhanced exploration and success in production.
That could be NPR-A, ANWAR, the Foothills, or the development of
heavy oil. He also looked at whether or not there's a gas line
because it affects oil production in three ways. First it
suppresses oil production in Prudhoe Bay, but that would extend
its life because many expenses could be shared with the gas. In
terms of net, the estimate is that production would drop about
150 million barrels over about 30 years.
The second way a gas line affects production is the Point
Thompson field. Those unit owners have represented that it's not
economic to produce oil and reinject the gas to pressurize the
reservoir because it's under such high pressure it's too
expensive. The state has assumed that with a gas line Point
Thompson is possible and without a gas line it isn't.
Finally, between Prudhoe and Point Thompson there's about 35
trillion cubic feet (tcf) of gas. A gas line would carry at
least 50 tcf and the belief is that the additional 15 tcf of gas
can be found and if the gas is found additional oil will be with
the gas. The model shows about 600 million barrels of oil with
yet to find gas.
MR. MARKS advised that the department looked at the high and low
volume scenarios. The low volume scenario with no enhanced
volumes and no gas line would have 5.5 billion barrels through
2030 including 0.8 billion barrels of heavy oil. No additional
investment for heavy oil is modeled at prices below $30. The
volumes indicated come from the DOR Fall Revenue Sources Book,
which include resources in development, resources under
development and resources under evaluation. It assumes no new
discoveries.
The high volume scenario with a gas line and enhanced volumes
shows 10.5 billion barrels through 2050. That includes an
additional 3.2 billion barrels of conventional oil with 700
million barrels net stemming from the gas line. Also included is
an additional 1.8 billion barrels of heavy oil and no additional
heavy oil at prices under $30. Reports from state geologists and
the USGS indicate that between ANWR, NPR-A and state lands an
estimated 23 billion barrels for the mean case of commercial
reserves could be discovered. Therefore, the volume scenarios
range from 5.5 billion barrels to 10.5 billion barrels.
5:29:02 PM
Slide 6 shows a graph of the low and high scenarios. The
fluctuation in the high volume line indicates that a series of
fields are coming into production every five years. Interactive
effects were not modeled, but the department knows the
following: with more investment there is more production; with
incentives there is more investment; the PPT credits provide
incentives. It also knows that when taxes are higher there is
less investment and when prices are higher there is more
investment. Furthermore, investment is driven by competitive
international opportunities. What isn't known is how to quantify
such future events, which is why the model took the volumes as
"a given" and attributed all revenue effects to the tax
mechanics.
Mr. Marks explained that slide 7 shows costs and prices. The
department assumed the following costs: $100 million per year in
exploration costs through 2040; $1 per barrel in on-going
capital costs on all barrels; $3.50 per barrel in development
capital on two-thirds of the existing conventional oil; $8 per
barrel for development capital on two-thirds of the existing
heavy oil; $3.50 per barrel in developmental capital on new
conventional oil; $8.00 per barrel in developmental capital on
new heavy oil; $3.00 per barrel in operating costs on
conventional oil; and $5.00 per barrel in operating costs on
heavy oil.
5:31:57 PM
Mr. Marks explained that the state has already been exposed to
price and volume volatility in the taxes and it will also be
subject to cost volatility. A sensitivity analysis indicates
that if the per barrel estimates for on-going capital,
development capital on conventional oil, and the operating costs
are all off by $1 that results in a $200 million increase or
decrease for the year. It could go either way depending on
whether the costs are higher or lower, but the point is that
there is exposure to volatility in the PPT.
In the model presented to the House and Senate Finance
Committees, the department inflated costs at 2 percent annually
to show nominal dollars. Subsequently the department realized
that many of the results it was seeing are attributable to
inflation alone. To correct for that, all costs and prices are
now shown real 2005 dollars. To show sensitivities for different
prices, heavy oil is discounted 8 percent for quality and
viscous oil is discounted 4 percent.
Slide 8 relates to cumulative revenues for low and high volume
scenarios. The low volume is through 2030 and the high volume is
through 2050. Showing the revenue over such a long term
accentuates the difference in the volume scenarios as well as
long-term trends. That's particularly so in the current system.
He explained that in the high volume scenario, which includes
the gas line, the numbers shown include the upstream costs of
developing the gas because that would be subject to the PPT. It
doesn't include the severance tax revenues from gas because they
will be included in the gas contract. Showing the gas line
severance taxes with the PPT and with the status quo fiscal
system would be a wash so they are not included.
He reiterated the PPT would include as deductions the upstream
costs for developing gas at Point Thompson as well as the
capital costs for new fields that are discovered. He explained
that the borderline where the PPT stops is upstream of the point
of production or the lease boundary. There would not be credits
for the gas treatment plants or the main gas line.
Under the status quo severance tax at a $5 Chicago price, the
gas line revenue would amount to about $1 billion per year. He
cautioned that "if you want to include those in your mind you
have to add them for both the status quo and the PPT as well so
the thing we're seeing here is just the real difference between
them."
5:35:59 PM
SENATOR THERRIAULT questioned why he included costs, but not the
revenues and asked for a graph showing both.
MR. MARKS said he hadn't done that because he wanted to focus on
the impact of the PPT. He agreed to provide that graph and
advised that the difference between PPT and the status quo is
exactly what would be shown.
SENATOR THERRIAULT responded it would ultimately be status quo
and the gas contract.
5:37:17 PM
MR. MARKS said if PPT doesn't pass and there is a gas contract
there would be the severance taxes from the gas line and the
current severance tax for oil. If the PPT does pass and there's
the same gas contract there would be the PPT oil revenues and
the severance tax from the gas contract. Either way, he said,
the severance tax from the gas contract is the same.
SENATOR THERRIAULT asked whether the flat 10 percent severance
tax for gas would ratchet up.
MR. MARKS clarified there's the status quo severance tax for
gas, which is 10 percent subject to ELF.
SENATOR THERRIAULT interjected saying Point Thompson is
amazingly productive and more than likely the ELF on that would
not change.
MR. MARKS responded it would have a very high ELF.
SENATOR THERRIAULT added the ELF isn't the same problem as for
the gas that's anticipated.
MR. MARKS agreed.
SENATOR THERRIAULT continued to say that the dynamic for PPT is
interesting. Dr. Van Meurs has indicated that there is more
competition and more stranded gas on natural gas and under PPT
the proposal is to move from 10 percent up to 20 percent. It's a
strange dynamic if there's more competition but the tax isn't
increased to potentially make it less competitive. Ultimately,
he said, the comparison must be made with what's in the gas
contract. Having that information now would be illustrative, he
said.
5:40:32 PM
MR. MARKS reminded members that the numbers show the cost for
the gas reducing the taxes, but not the revenues. He turned to
Figure 2A on slide 9, which compares status quo and the 20/20
PPT under the low volume scenario. Remember though, he said, the
current status quo [ELF] is a modest standard of comparison. The
graph shows the crossover point is $26.50 ANS West Coast price.
Figure 2B illustrates that slope is as important as crossover
point. The graph compares hypothetical Plans A and B against the
status quo. Plan A would be a low tax rate and low credit
scenario. That crossover point is $15. Plan B would be a higher
credit and higher tax rate scenario. The slope is steeper and
the $20 crossover point is higher. When the ANS price is above
$25, Plan B with the higher crossover point starts making more
money than Plan A. Clearly, he said, focusing on the crossover
isn't enough; the slope is of equal importance.
SENATOR BEN STEVENS asked what the crossover point is a function
of.
MR. MARKS said it's mainly the tax rate.
SENATOR BEN STEVENS asked if it's correct that the slope has
higher sensitivity to the tax rate and less to the credit rate.
MR. MARKS responded the credit controls "how up down it is" and
the tax rate how steep the slope is.
Slide 11, Figure 3A shows the status quo and 20/20 cumulative
oil severance taxes between the years 2007 and 2050 for the high
volume scenario. The scale is larger than Figure 2A because
there's more oil over more years. The graph indicates a higher,
$33.80, crossover point. It includes the more expensive heavy
oil and the gas line effects of costs, but not revenues.
Depending on price the total revenues would range from $3
billion less at low prices, to $42 billion more at high prices.
Figure 3B shows status quo and 20/20 for the same high volume
scenario as Figure 3A, but with 2.5 percent annual inflation.
The severance tax values on the vertical axis are much larger
and the crossover point drops because a large quantity of oil is
sold at inflated prices at the tail end.
Slide 13 lists annual revenues for high and low volumes at $20,
$40, and $60 barrel oil.
5:45:18 PM
Mr. Marks suggested that Figure 4 demonstrates that at low
prices there are larger problems than having chosen the wrong
tax system. Under the low volume scenario and $20 barrel oil,
the average annual revenue is $100 less than the status quo.
CHAIR WAGONER asked Mr. Marks to clarify that this is only 25
percent of the overall income from oil because corporate income
tax, property tax and royalty wouldn't be affected.
5:46:08 PM
MR. MARKS responded the property tax wouldn't be affected but at
$20 oil the royalties and corporate income taxes would "be in
the tank." He reiterated the point that at low prices, it's hard
to make money regardless of the tax system.
Figure 5 shows $40 oil under the low volume scenario. Under
these conditions the average annual revenues are $330 million
more than the status quo.
He explained that the transition rules [Capex clawback] say that
companies may take a 20 percent deduction for capital costs from
the last five years and moving forward over the next six years
if oil prices are over $40 per barrel. The graphs were made for
$40 barrel oil so if the price moves up just one cent the
clawback deduction would apply and the PPT graph would be about
$170 million less per year for six years.
5:48:06 PM
SENATOR BEN STEVENS asked about $39 barrel oil.
MR. MARKS responded the clawback doesn't kick in until oil rises
above $40 so the deduction isn't reflected in the graph.
5:49:04 PM
Mr. Marks pointed to Figure 6, which illustrates a low volume
scenario at $60 barrel oil. Under these conditions the average
annual revenue for the 20/20 PPT is about $900 million more than
under the status quo and is equivalent to what the total state
gas line revenues would be at $4.70/mmbtu in Chicago.
5:49:51 PM
SENATOR THERRIAULT asked if the clawback had been added to the
graphs showing costs.
MR. MARKS said yes; the department estimates that about $1
billion has been spent in capital investment each year for the
past five years. A 20 percent deduction on $5 billion spread
over six years is $166 million per year. That represents the tax
reduction to the state.
The rational for the clawback provision is that if companies had
known that PPT was coming they could have deferred some of the
capital expenditures that were made over the past five years. He
likened it to buying an item from a store one day and finding
that it went on sale the next.
5:51:20 PM
CHAIR WAGONER disagreed with the statement.
5:51:54 PM
SENATOR BEN STEVENS added the business decision was made on the
fact that it was possible to amortize the life of the
investment, but with the change of system the amortization of
the life of the investment isn't there any longer.
ROBYNN WILSON, Director, Tax Division, Department of Revenue,
clarified that for state and federal income tax purposes there
is still a depreciation deduction. What is currently
contemplated is moving to a production tax based on profit.
Normally you'd expect depreciation deductions to be in there but
the current plan proposes a write off in year one of all assets
purchased. From an accounting standpoint it's important to match
income and expenses; what you have is recently purchased assets
that produce income that will be taxed as income with no
representation for the write off of those recently purchased
assets. She reiterated depreciation isn't allowed as a deduction
for here on out, but what's contemplated is a transition
provision to transition taxpayers and assets for a specific
period of time.
Anytime a new tax system is put in place there is consideration
of transition rules. This is an important rule here because the
proposal is to move from a tax on gross to a tax on net.
5:54:40 PM
SENATOR BEN STEVENS clarified his previous statement saying that
when the investment decision was made, there was a provision for
depreciation on the schedule and this takes it away meaning the
depreciation schedule is collapsed.
SENATOR STEDMAN said it's the impact of the severance tax today
versus the PPT tomorrow.
MS. WILSON agreed with Senator Stedman and added there would
still be federal and state deductions for depreciation and there
would continue to be a deduction on the company's financial
statements. The production tax is a move to a system of tax on
net profit so this is effectively a depreciation. New assets
will be written off in year one so there will be no depreciation
deduction for them under PPT. Those assets will continue to have
state and federal depreciation for income tax purposes.
SENATOR BEN STEVENS asked how an investor could take the
deduction plus the credit on an investment in year one and then
use the same investment and invest it over the normal
amortization life on the state and federal side. He then asked
whether the state tax isn't deducted from the federal and
corporate obligation.
MS. WILSON acknowledged there are several ways to look at this,
but in this instance there are two taxing authorities that will
decide how much of the pie to take after having made separate
calculations to determine how large the pie is in the first
place.
5:58:06 PM
SENATOR BEN STEVENS said he's not concerned about the federal
side he's concerned because it sounds as though there are two
pies in the state system.
MS. WILSON responded the state currently has a corporate income
tax based on profit and a severance tax that's currently based
on gross. What is contemplated is leaving the corporate income
tax as is and calculating the severance tax differently.
There are two taxing "buckets" and each "pie" is reviewed
differently. To calculate the corporate income taxes, start with
the federal taxable income and work from there. For the
severance tax the same numbers are looked at a little
differently and for a different purpose.
SENATOR BEN STEVENS interpreted that as a dual accounting system
on the credit side.
MS. WILSON said she was speaking of deductions for depreciation
instead of credits, but it's not unexpected for a company to
make three or four different depreciation runs.
6:01:06 PM
SENATOR THERRIAULT stated that there is no change in
depreciation in the state or federal system, but the companies
are frustrated because they couldn't take advantage of a
deduction to a system that didn't exist five years ago. The
investments were made, but what wasn't known is what the price
would be going forward five years. Now we know what the price
was over those five years and I would portray, he said, that
those companies have been well rewarded for the investments they
made. It's certainly understandable why the companies would ask
for the clawback, but he couldn't understand why it would be
granted.
6:02:20 PM
SENATOR ELTON posed a hypothetical scenario. Company X made a
$100,000 capital investment in 2001 and on July 1, 2006 the
depreciated value is $50,000. He asked if the clawback provision
would provide 20 percent of $100,000 rather than 20 percent of
$50,000. If that's the case he questioned why the state would
agree to that.
MS. WILSON replied the interpretation is correct. It could have
been done on depreciated value and although that was considered
the bill isn't written that way.
6:04:03 PM
SENATOR STEDMAN said if the bill is enacted and a company buys a
piece of equipment and depreciates it over five years there
would be a depreciation schedule on the state corporate income
tax and there would also be a credit in the purchase year.
MS. WILSON answered yes.
SENATOR STEDMAN continued to say that in year two there would be
no credit, but there would still be a depreciation schedule of
four years.
MS. WILSON said for federal purposes yes, but as far as
production tax is concerned they got a deduction for 100 percent
of the equipment in year one and assuming that the credit wasn't
carried over, they took the credit in year one as well. In year
two they have nothing.
6:05:25 PM
SENATOR THERRIAULT asked if there was any data available on the
investments made over the five year period with regard to the
fields the investments were make in or the wells that were
drilled.
MR. MARKS responded if SB 305 passes, the department would audit
those costs. There's already general knowledge that money was
spent in Prudhoe Bay, Kuparuk, Alpine, and North Star, but it's
confidential taxpayer data so he wasn't sure about the
provisions for providing that.
SENATOR THERRIAULT expressed frustration that those who delayed
investment would now be rewarded for going forward.
6:06:43 PM
SENATOR ELTON said this creates a distortion to the system
because the credits don't need to be taken in the year the
investment was made. They could be used in an out year for a
larger tax advantage or the credits could be sold to another
party.
MR. MARKS clarified it isn't a credit; it's a deduction against
net income subject to the 20 percent tax rate for the next six
years unless prices are very low. As long as oil is above $40
there isn't an option for when the benefit is realized.
MS. WILSON suggested the committee hold the question for
Assistant Attorney General Mintz and Dan Dickenson.
6:09:02 PM
MR. MARKS turned Figures 7, 8 and 9, which show the high volume
scenarios for $20-$60 oil prices. For $20 oil the average annual
revenues for 20/20 PPT are $110 less than the status quo. When
the price is $40, the average annual revenues are $190 more than
the status quo and for $60 oil the average annual revenues are
$800 million more than the status quo.
Figures 10 and 11 show graphs of the effective tax rate for low
and high volume scenarios based on the wellhead value. He
reminded members that the tax rate is currently based on the
wellhead value, which is the market price less transportation
costs with no consideration of the lease costs. With the PPT the
tax rate is a flat 20 percent of net income.
Under the current system the effective tax rate is ELF
multiplied by the nominal 15 percent rate. Figure 10 shows the
effective tax rate on the same low volume basis with the PPT.
The effective tax is defined as severance tax over the 25-year
period divided by the wellhead value less the royalties. With
the ELF and unaffected by price it's about a 5 percent tax rate
under the status quo regardless of price. With the 20/20 PPT the
system is progressive with regard to wellhead value. When the
ELF was passed in 1977 it was intended to give a number of
barrels tax-free to cover operating costs. As prices go up,
fewer barrels would be needed so the tax rate would go up with
price.
SENATOR ELTON questioned whether it's taken into account that
the wellhead price would be different for company Y that isn't
an owner of the transportation system than it would be for
company X that is a partial owner of the transportation system.
MR. MARKS replied the statutes accept public tariffs as a
suitable transportation deduction.
SENATOR ELTON observed that company Y, as a part owner, would
receive a profit from the transportation system.
MR. MARKS agreed then turned to the high volume scenario in
Figure 11 and noted that it is much the same.
6:12:51 PM
MR. MARKS concluded his comments with a review of corporate
take. Figure 12 compares corporate take at the Department of
Energy (EIA) forecast price of $58 barrel gas under the status
quo and the 20/20 PPT for a high volume scenario. The graph
shows the breakdown of the projected $600 billion in gross
revenue over the next 45 years [2007-2050]. The breakdown
includes: Capex, Opex [operating expenses], transportation
costs, property tax, royalty, state CIT, severance tax, federal
tax and finally the corporate take.
Focusing on severance tax, federal tax and corporate take
illustrates that the severance tax increases under PPT and the
federal income tax is noticeably less under PPT. Because the
severance tax is deductible for federal corporate income taxes,
the feds are picking up 35 percent of the tab from the companies
for the PPT. The corporate take difference under the status quo
is about 33 percent and under PPT it's about 30 percent. That
means the corporation is left with about 30 percent of the $600
billion, which is $180 billion.
MR. MARKS informed members that he would be happy to run
additional models if the committee so desired.
6:14:48 PM
SENATOR BEN STEVENS asked him to reiterate the modeling
assumptions.
MR. MARKS recapped the following: The high volume scenario is
for the years between 2007 and 2050. Multiplying 10.5 billion
barrels of oil by the Los Angeles price of $58 yields an
estimated $600 billion in gross revenues in real 2005 dollars.
CHAIR WAGONER asked Ms. Wilson to review the fiscal note.
6:16:09 PM
MS. WILSON pointed out that in terms of expenses the division
assumes expanded auditing duties and because the bill
contemplates expanding the credit program so credit auditing
would increase. The division proposes to handle the added
responsibility with three additional auditor positions. She
advised that she also provided for a tax technician to handle
the additional filings. Producers currently file monthly and a
yearly filing will be added to "true up" the payments. The tax
technician would handle the increased filings and the additional
auditors would handle the increased audits.
6:18:09 PM
She drew attention to contractual positions and stated that is
need for immediate temporary audit help. As Mr. Dickenson
indicated yesterday about $5 billion in assets need to be
audited right away, because the transition deduction, which
affects the depreciation, will be taken immediately.
The second critical issue relates to writing regulations and the
overhead allocations because they need to be written
immediately. She stated that she envisions using contractual
money to hire outside auditors and help with the regulations.
The last piece relates to increased costs for the additional
programming that will be required.
On the revenue side the assumptions that have been made are
listed and should mirror Mr. Marks' presentation. It also gives
the revenue projections under three price scenarios. The first
is the Department of Revenue (DOR) forecast prices from the fall
Revenue Sources Book. She reminded members that those numbers
were on a chart she presented on 2/23/06. The second price
scenario is for $40 barrel oil and the third is for $60 barrel
oil.
CHAIR WAGONER questioned how easy it would be to find three
auditors.
6:21:14 PM
MS. WILSON acknowledged that is a challenge.
There were no further questions or comments and Chair Wagoner
held SB 305 in committee.
There being no further business to come before the committee,
Chair Wagoner adjourned the meeting at 6:21:47 PM.
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