Legislature(2011 - 2012)BUTROVICH 205
02/01/2012 03:30 PM Senate RESOURCES
| Audio | Topic |
|---|---|
| Start | |
| State Tax Policy and Oil Production: the Role of Severance Tax and Credits for Drilling Expenses by Dr. Shelby Gerking | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
ALASKA STATE LEGISLATURE
SENATE RESOURCES STANDING COMMITTEE
February 1, 2012
3:32 p.m.
MEMBERS PRESENT
Senator Joe Paskvan, Co-Chair
Senator Thomas Wagoner, Co-Chair
Senator Bill Wielechowski, Vice Chair
Senator Bert Stedman
Senator Lesil McGuire
Senator Hollis French
Senator Gary Stevens
MEMBERS ABSENT
All members present
OTHER LEGISLATORS PRESENT
Senator Cathy Giessel
COMMITTEE CALENDAR
State Tax Policy and Oil Production: The Role of Severance Tax
and Credits for Drilling Expenses by Dr. Shelby Gerking
- HEARD
PREVIOUS COMMITTEE ACTION
No previous action to record
WITNESS REGISTER
SHELBY GERKING, Ph.D.
University of Central Florida
Professor, Tilburg University (The Netherlands)
POSITION STATEMENT: Gave presentation on State Tax Policy and
Oil Production: The Role of Severance Tax and Credits for
Drilling Expenses.
ACTION NARRATIVE
3:32:56 PM
CO-CHAIR JOE PASKVAN called the Senate Resources Standing
Committee meeting to order at 3:35 p.m. Present at the call to
order were Senators Wielechowski, Stevens, French, Stedman, Co-
Chair Wagoner and Co-Chair Paskvan.
^ State tax policy and oil production: The role of severance tax
and credits for drilling expenses by Dr. Shelby Gerking
State tax policy and oil production:
The role of severance tax and credits for drilling expenses
by Dr. Shelby Gerking
3:33:34 PM
CO-CHAIR PASKVAN said today Dr. Shelby Gerking would present
research he had participated in that appears in Chapter 9 of a
book published in 2011 called "U.S. Energy Tax Policy." A number
of chapters in the book deal with the oil industry in Alaska and
aspects of taxation. Chapter 9 is co-authored by Dr. Gerking and
is titled "State Tax Policy and Oil Production, the Role the
Severance Tax and Credits for Drilling Expenses." Two other
research papers have been authored or coauthored by Dr. Gerking
titled "The Effective Tax Rates on Oil and Gas Production, a 10
State Comparison," dated 2005 and "State Taxation Exploration
and Production in the U.S. Oil Industry," dated 2001.
3:34:17 PM
SENATOR MCGUIRE joined the committee.
CO-CHAIR PASKVAN said that Dr. Gerking noted in his research
that "Alaska has increased the severance tax on the value of its
oil production and attempted to stimulate future production by
allowing a credit against this tax for expenditures on capital
items including drilling rigs, infrastructure, exploration and
facility expansion." And while Alaska has not been the sole
focus of Dr. Gerking's research, he had tracked the changes in
Alaska's tax policy over the past decade. His research on state
tax policy and oil production is obviously relevant to the
important issues before the committee and to the State of
Alaska. He welcomed Dr. Gerking and asked him to provide his
educational background and professional work experience and to
briefly get into the types of research and experience regarding
state tax policy and oil production.
3:36:13 PM
At ease from 3:36 to 3:37 p.m.
3:37:55 PM
SHELBY GERKING, Ph.D., University of Central Florida and Tilburg
University (The Netherlands), testifying via teleconference,
said that he was born in Indiana and got a PhD in economics from
Indiana University in 1975. He worked at Arizona State
University, Indiana University and Wyoming. He had been at the
University of Central Florida for the last 11 years and
currently has a professorship at Tilburg University in The
Netherlands.
MR. GERKING said he worked with aspects of energy tax policy for
the past 30 years and his first experience was a study he did
with two co-authors for the State of Kansas in 1982/83. Most of
the time he spent working in this area was in the State of
Wyoming (the 2001 paper). He did a major study for that state in
1999/2000. He did another study in the State of Utah in addition
to the one dated 2005. He has also participated in deliberations
on severance tax policy on a less formal basis in California,
Pennsylvania and Alberta; that culminated in the paper written
for the American Tax Policy Institute that was presented in
Washington in 2009 and published last year.
CO-CHAIR PASKVAN asked him to explain what the American Tax
Policy Institute's function is.
MR. GERKING replied it is mainly to have conferences to vet
issues particularly on energy tax policy as it comes from
primarily the federal government and to an extent the state
government. The institute is funded by private gifts and doesn't
have a legislative agenda.
CO-CHAIR PASKVAN asked if it is a neutral group especially as it
pertains to tax policy.
MR. GERKING replied yes, as far as he knew.
3:43:00 PM
CO-CHAIR PASKVAN asked if he had appeared before other state
legislatures to provide opinions or thoughts regarding tax
policies in America relating to the oil industry.
MR. GERKING answered that he had appeared a number of times in
Wyoming, once in Kansas and another time in Utah.
CO-CHAIR PASKVAN invited him to begin his power point
presentation that would be operated in the committee room by one
of his staff, Kimberly VanWyhe.
3:43:42 PM
MR. GERKING began and said he got into the tax policy area in
Kansas where he was asked to compare severance tax rates between
states. At the time, he wasn't aware of how different the tax
bases were to which severance taxes are applied. Each state has
different exemptions and credits; some levy a severance against
the value of oil production at the well head and others levy the
same tax against the well foot. In Alaska, the severance tax
rate depends on the price of oil; some states levy local
property taxes which work just like severance taxes and Wyoming
is an example of that.
He said there is more to the story of comparing taxes between
states than just taking the nominal (legislated) severance tax
rate that appear in the statutes and comparing the numbers,
because that amounts to a real apples and oranges comparison. If
you are going to make these comparisons it's good to calculate
effective tax rates; in other words put all the tax rates on a
common basis by taking severance tax dollars collected and
dividing that by the value of production. You can get the value
of oil production on a common basis by using the prices by
states over time that are available from the Market Petroleum
Institute and multiplying that by quantity of oil produced
(available from the U.S. Department of Energy (DOE)).
3:46:37 PM
He said when he talks about tax rates he means effective tax
rates such as those in table 9-1 on slide 3.
CO-CHAIR PASKVAN interrupted to announce that Deputy
Commissioner Tangeman was present.
MR. GERKING explained that one of the points table 9-1
illustrates is that the effective tax rate percentages are lower
than the nominal rates; that is because states sometimes grant
credits and exemptions against the severance tax. So, the
effective tax rate [indisc.] goes out while the nominal rate
would not. He also listed the corporate income tax rates for
each state using nominal rates.
3:48:35 PM
He said slide 3 asks the question of the day: What is the effect
of a change in the severance tax rate or a change in incentives
to find new reserves? There are two ways to do a study to answer
those questions; one is a statistical study using observational
data for one state or many states. But data aren't good enough
in most states to use so he used a simulation model.
His simulation model (slide 4) was based on Hotelling (1931)
followed up by some work by Robert Pindyck in 1978. The model
has stood the test of time; it was not based on any particular
ideology or political philosophy. It's just a model to try to
represent how profits can be maximized over time. To talk about
profit maximization you have to talk about revenues: production
from existing reserves and exploration from new reserves. The
model treats revenues and also treats relevant costs: drilling
and lifting (operating) costs.
3:51:56 PM
At ease for technical problems from 3:51 to 3:55 p.m.
3:55:38 PM
MR. GERKING recaptured his previous testimony saying that the
simulation model has stood the test of time and didn't represent
any philosophy. It describes profit maximization in the oil
business in a simple way over time; it is an abstract model
expressing oil profits by looking at the difference between
revenues and costs, a difference one hoped would be positive.
He explained that the model has two key features that are worth
more explanation: one is that it compares both the cost of
drilling and the cost of operating a well to the amount of oil
produced. It's not simply a matter of comparing the cost of
drilling or production between states; those collective costs
need to be compared to the amounts produced. For example, one of
the highest cost areas to operate in in North America is the
Gulf of Mexico, but the payoff is high. On the other hand it is
still probably true that Kansas is an example of a state where
costs are lower and payoffs from oil production are
comparatively smaller than Alaska. It's critical to compare
costs and the amount produced and less important to compare
straight costs between states.
He said the second feature of the model is that it accounts for
the interaction between state and federal tax collections. This
refers to the fact that the severance tax is a deductible item
against federal corporate income tax liabilities. This is an
important point, because if the severance tax is increased on
oil in Alaska, that will create a larger deduction for oil
companies against their federal corporate income tax. So when
you raise taxes it's like you're getting a portion of the
proceeds indirectly from the federal government. On the other
hand, when you reduce the severance tax, that's going to
increase federal corporate income tax payments and that is some
of the revenue the state could have had.
MR. GERKING explained that the model uses data on production
costs, proven reserves, federal in-state corporate tax rates
along with a lot of other data and uses a discount rate of 4
percent (to have a way to get production and the value of
production from a future year back to the present for later
comparisons).
4:00:37 PM
MR. GERKING said in the paper written for the American Tax
Policy Institute the model is set up not to be a model of a
particular state - it is not a model of Alaska - it is of an
average state (but, of course, no state would claim to be
average either) to show how the taxes work in general. He said
he had never made a model of Alaska before, but it could be
done.
One question would be if these results actually pertain to
Alaska and after having made models like this of a number of
other states he thought they did. The differences between them
are not very great; so the general conclusion you can draw from
this paper would hold largely in Alaska.
MR. GERKING said the model looks at four different scenarios:
what would happen in this average state if the severance tax
rate equaled zero (model A); a situation where the severance tax
rate is equal to 12 percent (model B); a severance tax rate
equal to 25 percent (model C); and model D is the same 25
percent severance tax rate with a credit of 22 percent of
drilling costs against severance cost liability.
Since the purpose of the model is to show how taxes affect
production over time, the next graph showed oil production over
60 years for each of the four scenarios. One would think there
should be four different lines, but the point is that you can
change the severance tax rate but it doesn't really affect
production. You may wonder why that is true and the easiest way
to make that point is to go figure 2.
4:03:32 PM
He said figure 2 graphs the relationship between the real price
of oil from 1959 to 2007 against two other variables: U.S.
proven oil reserves and the total U.S. production from the
proved reserves. He noted the two significant spikes in the
price of oil in 1990 and 2007 and that this graph indicates that
oil production just didn't respond to those spikes. It just
continued to decline slowly as reserves within a unit fell. And
this is the same pattern he has observed for all states as well
as the U.S.
MR. GERKING asked why this graph would have any importance for a
study of the severance tax and said usually the severance is
levied as a percentage of total revenue and that is like taking
a little bit away from the price of each barrel of oil that is
produced. So if you change the price of oil, it doesn't change
the production of oil by very much. There is no sharp response
of production to a change in the price; and if there is no sharp
response to a change in price there won't be a sharp response to
change in the severance tax either. What does respond to a
change in the price is drilling he said (graph on page 10).
4:07:47 PM
At ease for technical problems from 4:07 to 4:11 p.m.
4:11:16 PM
CO-CHAIR PASKVAN called the meeting back to order and asked Mr.
Gerking to review his last comments.
MR. GERKING reviewed a little bit about the four different tax
scenarios that range from a no severance tax situation to the
situation in model D that has a 25 percent severance tax and a
credit for drilling expenses against the severance tax. Even the
substantial tax increase from zero to 25 percent doesn't affect
production very much. Why that result? Figure 2, a plot of data
taken from API and the U.S. DOE, showed that U.S. oil production
over the last 50 years had not responded to the spike in oil
prices that occurred in the early 1980s and 2007; it had simply
followed the declining proven reserves down.
MR. GERKING said to make an educated guess as to what production
would be in a particular year, just take 9 or 10 percent of
proven reserves and you're going to come pretty close; you don't
even need the price to make that prediction.
4:14:08 PM
CO-CHAIR PASKVAN asked if the chart about pricing indicates that
there is an inelasticity of production relative to an increase
or a decrease in tax and an increase in production relative to
the price of oil.
MR. GERKING replied yes and explained that it's important to
know that the severance tax just changes the price that
producers see. It doesn't really affect production. It does
affect drilling activity (figure 4 on slide 10), however, and
the production from the drilling activity would be seen over the
next 10 to 20 year period.
4:17:06 PM
SENATOR MCGUIRE asked if he had studied Alberta's tax system at
all.
MR. GERKING replied that he had looked at it but was not an
expert on its system. There are substantial differences between
Alberta and any U.S. city.
SENATOR MCGUIRE said the reason she asked is because Alberta is
Alaska's closest neighbor when looking at investment behavior in
Arctic environments. She wondered if he had researched how his
theories on inelasticity and elasticity apply when Alberta
changed its tax model to capture "windfall profits" and saw a
dramatic decline in investment. In fact, the companies that were
investing simply shifted over to the next province of
Saskatchewan. The data was there and many politicians lost their
seats and another change ensued once a new government took over.
She was curious if his theories hold up after analyzing that
circumstance and if his theories fluctuate in a high priced oil
environment.
She remembered a time about six years ago when other esteemed
intellectuals like him told legislators that never in history
had there been a time where oil and gas did not deviate from one
another by a ratio of 6:1. She didn't have time to research it
herself and thought it true and then in the last four years with
the discovery of shale gas the deviations have gone up to 29:1
on any given day. Now the State of Alaska is considering
decoupling its oil and gas systems. The point is that sometimes
people rely on data based on a certain price environment and
that can change and that tied into her question about him
looking at a high price oil environment.
MR. GERKING replied the short answer is that what he says would
be more applicable when the price of oil is very high. With
respect to Alberta, he wouldn't try to guess what their tax
system is on the oil industry. He offered to find someone in
Alaska who might be able to contact her with that information.
SENATOR MCGUIRE said that would be excellent and added that when
they moved from the PPT to the ACES model it hadn't been seen
before in other jurisdictions. The idea of progressivity came
from Alberta's "windfall profits tax." So, the idea was in this
high priced oil environment, which people are predicting will
last for a while, should Alaska, as the owner of the subsurface
rights, share in more of the profits at the higher end. The idea
was yes, and they applied the progressivity rate making the
model slightly different. The progressivity appears to have a
detrimental impact on production in the state and if she relied
on just his three articles she would say that's wholly
impossible.
MR. GERKING suggested that production could be declining for
reasons other than the tax.
4:24:16 PM
CO-CHAIR PASKVAN asked Mr. Gerking to explain what he meant by
saying a high price would be more support for his theory.
MR. GERKING answered when prices are rising, the oil industry
profits are also rising. So, the severance tax represents a
lower percent of industry profits than if profits were lower.
CO-CHAIR PASKVAN said one of the questions posited at the
beginning of his article is whether state taxes tilt the time
path of energy production to the present or the future. He asked
him to comment on those policy implications.
MR. GERKING replied that a contrasting policy would be the
property tax on reserves that California levies. In California
there is no severance tax; they levy a property tax on reserves
and if you levy such a tax it will speed up production over
time, because the industry will want to get the oil out of the
ground more quickly than they would otherwise, simply to reduce
the base on which they will have to pay the tax. So, in academic
literature a question has developed whether a severance tax
slows down production so there is less now and more later. That
tends to happen in their model, but the effect is very small, so
small you shouldn't worry about it.
CO-CHAIR PASKVAN asked as a policy what he thought about
shifting production to the present as compared to the future.
4:27:47 PM
MR. GERKING replied that it's a question of what the state wants
to do with its oil production. It would require a value
judgment. As a steward of the state's resources, he would want
to make sure they wouldn't end up "eating our seed corn." By
that he meant you want to preserve those resources in the ground
until it's the right time to remove them. He wouldn't want to
see production speeded up at all.
4:28:49 PM
CO-CHAIR PASKVAN asked him to comment on Alaska's credits on oil
taxes in relation to a statement in his article that says, "A
drilling expense credit may cost more than the incremental
severance tax revenue obtained...although such credits may be
worthwhile concessions if a state's objective is to generate
greater support for increasing the severance tax rate."
MR. GERKING answered "in plain English" if anybody thinks the
credit for drilling expenses against severance tax liability
would pay for itself in increased severance tax collections
later, they will be disappointed. The drilling tax credit is
just going to cut the tax revenues in the long run as
illustrated in the model table 9.3 on page 325 of the paper. The
discounted severance tax collections would be lower in model D
than they are in model C by approximately $12 billion.
4:31:37 PM
SENATOR FRENCH explained under the old taxation system (before
going to a profits-based model) Alaska had the economic limit
factor (ELF) that was a declining production tax rate over time
for some fields. Kuparuk, the second largest oil field in North
America, in 1996 had a severance tax rate of 12 percent and that
declined steadily to below 1 percent in 2006 - a 10-year period
of real time reductions in the production tax rate. During that
same time the decline rate for that field ran about 7 percent,
which is consistent with the decline rate at Prudhoe Bay. Does
that data suggest anything to him about the model he has been
describing?
MR. GERKING replied without having a chance to review it, it
sounds like the production is just following its natural decline
down as reserves fall, and the decline in the tax rate doesn't
have anything to do with the production.
SENATOR FRENCH said that is an argument he had been making
independently of Mr. Gerking's analysis and that he would send
him the charts for his review.
MR. GERKING said he would be glad to look at them.
CO-CHAIR PASKVAN asked if that analysis is consistent with the
graph in 9.1.
MR. GERKING replied yes.
CO-CHAIR PASKVAN asked his general thoughts on comparing Alaska
with other states.
4:34:51 PM
MR. GERKING asked with respect to what variables.
CO-CHAIR PASKVAN replied tax rates, primarily.
MR. GERKING replied it's hard to make a comparison of tax rates
and you have to look at the effective tax rates he mentioned
earlier in the presentation rather than looking at nominal tax
rates explained that he has always felt the need to put tax
collections on common footing with other states when making a
comparison. It's a simple calculation; you just take tax
collections in a state - that would take into account the
innumerable credits and exemptions states have granted to the
oil industry to try to stimulate production - and divide it by
total value of production.
4:36:09 PM
CO-CHAIR PASKVAN asked what his concerns would be if the focus
was only on comparing one component of a tax structure with
other states.
MR. GERKING replied that exercise could be highly misleading.
You have to look at the whole tax structure the state imposes on
the oil industry or any other industry to get a clear picture of
the tax burden.
SENATOR WIELECHOWSKI said a number of states in the Lower 48
assess a property tax based on oil reserves in the ground, Texas
for instance, and asked if that causes an increase in production
particularly in times of rising oil and gas prices.
MR. GERKING replied yes. The way that works is if you levy a tax
on reserves in the ground, like Texas and California, that gives
producers an incentive to "buy out" from under the tax, which
means getting rid of the tax base, which means more production
now rather than later.
4:38:47 PM
CO-CHAIR PASKVAN asked if he had anything else he wanted to
present.
MR. GERKING replied no and said that he would entertain
questions.
SENATOR WIELECHOWSKI asked if he had researched the difference
between changing royalty rates versus changing severance tax
rates.
MR. GERKING replied there wouldn't be any difference; increasing
royalties is like an increase in the severance tax.
CO-CHAIR PASKVAN asked if that's a result of combining all the
components of the load on industry together and divide that by
production to get a true picture.
MR. GERKING answered yes.
SENATOR WIELECHOWSKI said he heard that the increase in North
Dakota's production was caused by its tax structure; others have
said it's more due to the advent of hydraulic fracturing. What
was his opinion?
MR. GERKING answered the weight of evidence would be against
those production changes being caused by a change in tax policy.
Difference in production can be brought about by changes in
technology such as fracing or a large discovery of new reserves
such as Prudhoe Bay.
CO-CHAIR PASKVAN asked if he wanted to make a summary statement.
4:41:57 PM
MR. GERKING said he didn't need to make a summary statement; he
had had the opportunity to do his presentation and he would try
to find someone in Alberta to contact them about their
situation. It would also be good to talk to someone who is
knowledgeable about the federal investment tax credits from the
80s or 90s that work very much like the drilling credits Alaska
uses now.
4:43:20 PM
SENATOR WIELECHOWSKI said he was looking at state tax policy and
oil production on page 331 and how credits will result in
somewhat increased drilling but not in additional production.
But it still seemed to him like more drilling would result in
more production and revenue.
MR. GERKING replied that you get some more drilling as can be
seen in table 9.3 on page 325 that compares model C and D. Both
models have a severance tax rate of 25 percent, but model D has
a 22 percent credit for drilling expenses. The credit increases
drilling, but there is a decline in severance tax collections
because they will less-than-make-up for the loss of revenue from
granting the drilling expense credit.
SENATOR STEVENS thanked him for sharing his knowledge and
experience with them and asked him to expand on what he said
about not eating your seed corn.
MR. GERKING said he used to live in Wyoming that doesn't have a
state income tax, but a high property tax on oil production; the
property tax on houses and things that regular people own are
pretty low; and the sales tax is pretty middling.
Basically, Wyoming pays for public services through collections
of severance taxes levied on oil and gas and other substantial
mining activity. So, Wyoming is just paying for current public
services with current revenue from oil production. That oil
production can't be put back in the ground; so there's the seed
corn. Eventually Wyoming will not be an oil producing state;
it'll be tapped out and where will they be then! It would be
better to balance the severance tax collected against some other
types of taxes that would also be levied on people who actually
consume the public services, like fire protection and public
schools. A bumper sticker saying "Real Man Pay Taxes" summarized
his view he said.
In Alaska's case, you want to make sure you're not pulling your
resources out of the ground any faster than you have to to pay
for the services people are getting. "You want those resources
to last if you want them to benefit the current generation of
people who live there, but you also want them to benefit all
future generations...."
4:50:05 PM
CO-CHAIR PASKVAN found no further comments or questions and
adjourned the Senate Resources meeting at 4:50 p.m.
| Document Name | Date/Time | Subjects |
|---|---|---|
| SEN RES_State Tax Policy and Oil Production_02-01-2012.pdf |
SRES 2/1/2012 3:30:00 PM |
|
| SEN RES_Background_State Taxation, Exporation, and Production in the US Oil Industry_02-01-2012.pdf |
SRES 2/1/2012 3:30:00 PM |
|
| SEN RES_Gerking Presentation_02-01-2012_Small File_3.pdf |
SRES 2/1/2012 3:30:00 PM |