HB 331-TAX CREDIT CERT. BOND CORP; ROYALTIES  1:03:28 PM CO-CHAIR JOSEPHSON announced that the first order of business would be HOUSE BILL NO. 331, "An Act establishing the Alaska Tax Credit Certificate Bond Corporation; relating to purchases of tax credit certificates; relating to overriding royalty interest agreements; and providing for an effective date." 1:04:25 PM KEN ALPER, Director, Tax Division, Department of Revenue (DOR), continued his presentation from the previous House Resources Standing Committee hearing of HB 331 on 3/30/18, and explained the language of HB 331 incorporates the following: • a structure creating the bond corporation and authorization to sell bonds • a structure containing conforming changes to existing language to ensure the existing process to purchase tax credits is not overwritten, but is supplemented through the bonding method • a structure containing a series of new sections describing the mechanisms by which DOR values the tax credits and other factors • a Department of Natural Resources (DNR) statute related to how DNR would negotiate and authorize overriding royalty interests offered by companies MR. ALPER directed attention to a sectional analysis of HB 331, provided in the committee packet, which read [original punctuation provided]: Section 1: Exempts the bond corporation created in Sec. 2, and any overriding royalty interests negotiated under Sec. 11, from the procurement code. Section 2: Establishes the Alaska Tax Credit Certificate Bond Corporation within DOR. [Largely patterned after Alaska Pension Obligation Bond Corporation, AS 37.16] 37.18.010 Creates the corporation. 37.18.020 Establishes the board of directors, all of whom are state department commissioners. 37.18.030 Authorizes the corporation to issue bonds up to $1 billion and contract for associated services. 37.18.040 Authorizes the corporation to have a reserve fund which will hold funds to be used for repurchase, as well as funds appropriated for the purpose of interest and principal payments to bond holders. 37.18.050 Authorizes the corporation to set the terms of bonds to be issued. 37.18.060 Corporation must adopt a resolution to approve the issuance of bonds. 37.18.070 Gives certain enforcement rights to certain bond holders. 37.18.080 Bonds may not be issued unless the discount rate by which tax credits are purchased is at least 1.5% greater than the total interest cost of the bonds. 37.18.090 Corporation may refund bonds prior to the maturity date. 37.18.100 Bonds are legal instruments. 37.18.800 This chapter shall be liberally construed to carry out its purposes. 37.18.810 Corporation may adopt regulations necessary to implement this chapter. 37.18.900 Definitions. Section 3: Amends the Gas Storage Credit to enable repurchase of any credits via the bond program. Section 4: Amends the LNG Storage Credit to enable repurchase of any credits via the bond program. Section 5: Amends the Refinery Infrastructure Credit to enable repurchase of any credits via the bond program. Section 6: Amends various provisions of AS 43.55.028, the tax credit repurchase fund. .028(e) The department may either use the tax credit fund money, or money disbursed from the bond program, to purchase tax credits. Written to maximize flexibility and retain the existing program and procedures. Section 7: .028(g) Clarifies that the current $70 million per company per year cap, with the associated "haircut", does not apply to repurchases via the bond program. Section 8: .028(i) Adds definitions for "money disbursed to the commissioner," and "total interest cost." Section 9: .028(j) Clarifies that if a company has an outstanding liability to the state, this can be offset against a payment via the bond program as well as via traditional repurchase. Section 10: .028(k) New section authorizing the department to negotiate a repurchase of all credits held by a company, and describing how the holder of credits indicates their desire to participate in the program. This section contemplates that if a holder of credits existing at the time of a bond issuance declines to participate in the program, such holder is precluded from submitting such existing credits for purchase in connection with future bond issuances. This provision does not preclude such holder from submitting credits claimed after a bond issuance for purchase in connection with a future bond issuance. .028(l) New section describes the mechanism by which the department estimates the expected cash flow to a company via the current repurchase process and expected schedule. From this estimate, a purchase offer can be calculated based on the discount rate determined in (m). .028(m) New section establishing a base discount rate of 10%, with four methods to reduce this to a number equal to total interest cost + 1.5%. 1. For a seismic credit, the company has waived the 10-year confidentiality period for the data and allowed it to become public; 2. The company has agreed to an overriding royalty interest (ORRI) accepted by the Department of Natural Resources; 3. The company has committed reinvest the entire amount received within an Alaska oil and gas project within 24 months; or 4. The credit is against the corporate income tax, primarily impacting refinery infrastructure credits. .028(n) New section clarifying that the amount of a credit in excess of the discounted amount purchased retains no value and cannot be used against taxes or sold. Section 11: Authorizes the Department of Natural Resources to negotiate Overriding Royalty Interests (ORRI). These are then valued, and a determination is made whether the incremental value received by the state warrants the approval of the lower discount rate for purposes of credit repurchase. Section 12: Authorizes DNR and DOR to adopt regulations to implement this act Section 13: Authorizes retroactive application of regulations. Section 14: Immediate effective date. 1:06:02 PM MR. ALPER further explained Section 1 contains conforming language exempting the bond corporation and royalty interest from the Alaska Procurement Code. Section 2 is similar to other Alaska state statutes creating special purpose bonding mechanisms such as the pension obligation bond authority, and other authorities that are delegated to the commissioner of DOR. Also included in Section 2 is the provision that the structure of the bond is left to the discretion of the commissioner of DOR. REPRESENTATIVE PARISH expressed his understanding that the Alaska Pension Obligation Bond Corporation has never issued bonds. MR. ALPER said correct. REPRESENTATIVE PARISH asked whether any other state corporations - that would acquire debt in a similar manner to the proposed bond corporation - have been created "without revenue streams internal to them." 1:08:38 PM MIKE BARNHILL, Deputy Commissioner, Office of the Commissioner, DOR, before responding to Representative Parish, made the point of correction: the commissioner of DOR does not set the structure of the bond debt service under the statute but the board of directors of the Alaska Tax Credit Bond Corporation would perform that function. The board of directors would include the commissioners of DOR, the Department of Commerce, Community & Economic Development (DCCED), and the Department of Administration (DOA). REPRESENTATIVE PARISH restated his question. MR. BARNHILL advised there are many state entities that issue bonds and deferred to Devin Mitchell. 1:10:19 PM DEVEN MITCHELL, Executive Director, Alaska Municipal Bond Bank Authority, DOR, explained a similar entity would be the Alaska Housing Finance Corporation (AHFC) which entered into an agreement with the state to purchase what is now known as the [Robert B. Atwood Building]; there were no revenues in the agreement except for the state's pledge to pay on a "subject to appropriation" basis, as allowed by standalone law, and which is exactly as proposed in HB 331. Further, the proposal is a familiar structure to the state as well as to municipal market participants. REPRESENTATIVE PARISH commented the aforementioned example was a lease purchase agreement; however, HB 331 proposes a debt of up to $1 billion for the state with no lease directly involved. He asked how HB 331 resembles a lease purchase agreement. MR. MITCHELL answered a lease purchase agreement is based on a lease which is subject to appropriation; HB 331 [bond] debt would be based on a contract, also subject to appropriation. He remarked: In the case of the lease, [should the state choose not to appropriate], the negative ramification would be you would not only get downgraded, you would lose access to the building for a period of time. Not the entire life of the building, but just a period of time as established in the lease. And, that could be negotiated down to as short as a year, and then the state would again have right to occupy the facility even though there'd been a failure. So, again, it's a familiar structure to the state and it's a familiar structure to the capital markets. REPRESENTATIVE PARISH referred to the Constitution of the State of Alaska, Article IX, Section 8. State Debt., which read [in part, original punctuation provided]: No state debt shall be contracted unless authorized by law for capital improvements or unless authorized by law for housing loans for veterans, and ratified by a majority of the qualified voters of the State who vote on the question. REPRESENTATIVE PARISH continued to Section 11. Exceptions., which read [in part]: The restrictions on contracting debt do not apply to debt incurred through the issuance of revenue bonds .... REPRESENTATIVE PARISH asked whether the proposed bonds are revenue bonds. 1:12:57 PM MR. MITCHELL said they are not. He clarified the bonds would be revenue bonds of the corporation; the corporation would issue either revenue bonds or general obligation bonds of the corporation, however, the final structure has not been determined. Mr. Mitchell continued: I work with another public corporation, the Alaska Municipal Bond Bank [Authority (AMBBA)], [and] we, we borrow money based on underlying communities' need of borrowing money. So, when we borrow money in the capital markets, we issue general obligation bonds of the Alaska Municipal Bond Bank, which [are] secured by that cross-collateralized underlying borrowing pool as well as the State of Alaska's moral obligation pledge. And, in the instance of the ... bond bank, we sell general obligation bonds for both revenue bonds of underlying communities as well as general obligation bonds of underlying communities. And so, the corporation, ... the separately legally existing corporation we're talking about, would be able to potentially sell general obligation bonds, but the only thing that would be securing those would be the revenues that it would derive from this contract it would enter into with the state. And so, it could also be structured ... potentially as a revenue bond. REPRESENTATIVE PARISH questioned whether the proposed bond corporation's issuance of a general obligation bond would be subject to a majority vote of the qualified voters. MR. MITCHELL restated such a bond would be a general obligation bond of the corporation and not of the state. Public corporations, such as the Alaska Student Loan Corporation [Postsecondary Education Commission], Department of Education and Early Development, the Alaska Industrial Development and Export Authority (AIDEA), Department of Commerce, Community & Economic Development, AMBBA, and AHFC, can issue general obligation bonds of the corporation. He characterized general obligation bonds as "a more limited pledge, obviously, than the State of Alaska's general obligation pledge, but could be a full faith and credit pledge of that legal existence, of that entity." 1:15:11 PM WILLIAM MILKS, Senior Assistant Attorney General, Labor and State Affairs Section, Civil Division(Juneau), Department of Law (DOL), directed attention to a letter addressed to Senator Giessel, dated 3/2/18, from Mr. Mitchell, representing DOR, and himself, representing DOL, that was included in the committee packet. Mr. Milks informed the committee the letter addresses the constitutionality issue, opining the proposed bonds are constitutional because they are "subject to appropriation" bonds. He returned attention to Article IX, Section 8, [text previously provided, in part], commonly known as the debt provision, and further advised Section 8 applies specifically to a general obligation bond, backed by the full faith and credit of the State of Alaska, and thereby not a subject to appropriate bond. General obligation bonds must be paid regardless of the state's financial circumstances, are issued for capital improvements, and are usually subject to voter approval. As noted in the letter, a key case was reviewed by the Alaska Supreme Court, Carr-Gottstein Properties v. State, 899 P.2d 136, 142-44 (Alaska 1995), and the court decided the issue is whether a bond is subject to appropriation, and the special meaning of debt under the constitution. Mr. Milks concluded if a bond does not hold the full faith and credit of the State of Alaska for repayment, it is subject to appropriation, which is a procedure the courts have permitted in Alaska and elsewhere. REPRESENTATIVE PARISH recalled previous testimony that if [the legislature] failed to appropriate [funds for repayment], the state's bond rating could be downgraded two or three times, and surmised the state's faith and credit is "on the line," although creating a shell corporation would "dodge" the narrowest reading of the law. He asked, "How is this really substantively and significantly not state debt if our credit rating could take an enormous hit for failure to pay?" 1:17:52 PM MR. MILKS pointed out the bill on page 2, [lines 19-22], specifically states the bonds do not constitute general obligations to the State of Alaska. He reiterated the Alaska Supreme Court has interpreted this provision to be a moral authority bonding, which is subject to appropriation. He deferred to Mr. Mitchell for a further response. MR. MITCHELL acknowledged the state could choose not to pay, have its credit rating downgraded, and lose access to the capital markets with the subject to appropriation commitment; with a general obligation commitment, the state would be forced and compelled to pay. In fact, the Alaska Statute provides a standing appropriation that does not require annual legislative action to pay general obligation bond debt service; however, there is no similar provision for any subject to appropriation obligation. CO-CHAIR JOSEPHSON, in response to Representative Parish, advised testimony by the department representatives would be ending; however, the representatives may be available to answer additional questions [following the hearing]. 1:19:54 PM REPRESENTATIVE PARISH stressed HB 331 provides for a debt of possibly $1 billion; therefore, he would like all his questions exhausted on the record at this hearing. The fundamental question is whether the state can create a corporation to take on debt which is neither revenue debt, revenue bonds, nor general obligation bonds, but is "a sort of nebulous additional ... category," and if so, whether there is any limit to the amount of debt. He questioned whether a state corporation could accrue $5 billion in loans so [the legislature] could follow the statutory dividend formula to pay the Permanent Fund Dividend, and observed the Alaska Supreme Court decision [Bill Wielechowski, Rick Halford, and Clem Tillion v. State of Alaska and Alaska Permanent Fund Corporation] found that the power of appropriation rests with the legislature and thus, the statute cited earlier becomes murky. 1:21:32 PM MR. MITCHELL disagreed that the aforementioned legal opinion relates to general obligation bonds and the state's commitments, which are embedded in the state constitution. He deferred to Mr. Milks for further discussion in this regard. He said Representative Parish's questions have been asked "many times before"; however, [the proposal within HB 331] is legal under Alaska law and is accepted as a common form of financing utilized by Alaska and other states. REPRESENTATIVE JOSEPHSON, in response to Representative Birch's suggestion to end testimony on HB 331, advised further review of constitutional questions may be necessary prior to hearing amendments to the bill, which is scheduled for 4/9/18. REPRESENTATIVE PARISH remarked: On this specific question, the difference has been, been clearly established as to whether or not a, the state should be allowed to contract state debt without a general vote of the people, without a revenue bond, and without any of the other specific exceptions listed in the constitution. And on the counterpoint, there's, there's the assertion that because lease purchase agreements in the past have gone forward because the Pension Obligation Bond Corporation was established, and because, the bill says, " ... it is constitutional," I guess, I guess that's, that's just a disagreement which may have to get resolved in the courts. 1:25:03 PM CO-CHAIR TARR stated under current Alaska statute there is already a formula - subject to appropriation - for paying the [tax] credits; HB 331 is an alternative proposal to pay the tax credits which would also be subject to appropriation. She cautioned the reason for the current debate is because "no one read the statute" before making business decisions to spend money and obtain bank financing based on the state's repayment of tax credit certificates. Co-Chair Tarr suggested if the statute had been read, beneficiaries would have acted more cautiously and would not be defaulting on loans while waiting for the state to repay tax certificates. Although the funding provision within HB 331 is subject to appropriation, there would be every expectation that the money would be appropriated. She concluded HB 331 does not resolve the current fundamental problem, which is having sufficient funds to pay the credits that are due. MR. MITCHELL did not respond to the policy aspects of the question. From a debt perspective, he said HB 331 differs from the sort of subject to appropriation commitment that currently exists in financing markets. He expressed his concern about maintaining the state's credit rating, its access to capital markets, and its ability to accomplish needed capital projects through the use of financing tools. Within all capital markets, an entity's ability to borrow is only as good as how its word is perceived. In the event an entity fails to pay its bills, that entity will experience higher interest rates or diminished access. Also related to financing in capital markets, the current diminished payments that have been made on the credits currently due have a lesser impact on the state's credit rating than if the state defaults - a non-payment - on a subject to appropriation bond issue of a public corporation. There followed a short discussion regarding the deadline for amendments to HB 331. 1:29:36 PM The committee took an at-ease from 1:29 p.m. to 1:32 p.m. 1:31:25 PM CO-CHAIR JOSEPHSON posed a scenario in which credit holders, who may or may not have transferred their credits, would be able to decline to have provisions of the bill applied and would instead proceed under the normal payment schedule. He asked whether, under the aforementioned circumstances, the state would need to pay [tax credit certificates] under two different payment streams. MR. ALPER returned to the sectional analysis of HB 331 and said Sections 3, 4, and 5 are similar in structure and relate to the existing tax credits that are in the corporate income tax statute, AS 43.20. Existing corporate income tax provisions include a gas storage credit for the Kenai Gas Storage Facility, a liquefied natural gas (LNG) storage credit for the main storage tanks in Fairbanks, a credit for the Interior Gas Utility, and a refinery infrastructure credit. As currently written, the aforementioned credits can be purchased with money from the tax credit [repurchase] fund. However, the existing language would be amended by HB 331, so the credits could also be purchased with proceeds of the [tax credit] bonds. MR. ALPER explained Sections 6-9 amend portions of AS 43.55.028, the tax credit [repurchase] fund, as follows: Section 6 relates to the use of tax credit fund money or money disbursed from the bond program to purchase tax credits; Section 7 clarifies that there is no $70 million [per company per year] cap on repurchases via the bond program; Section 8 adds definitions, notably, "money disbursed to the commissioner" means the proceeds of the bond; Section 9 clarifies that a right to offset a credit payment held by a company would be extended to a bond purchase. Section 10 is a new section adding four new subsections to AS 43.55.028. Subsection (k) requires companies to offer their credits to the program, and all credits must be offered. Further, companies that choose not to participate cannot offer credits in a subsequent bond offering. Mr. Alper characterized the provisions in subsection (k) as language that is intended to prevent parties from "gaming the system." 1:37:07 PM MR. ALPER said subsection (l) provides the mechanism to determine a company's expected cash flow under the traditional credit repurchase structure using new definitions affected by a company's pro rata share of the annual appropriation per the formula within [AS 43.55.028(c)]. The existing language would be clarified by subsection (l), and he remarked: We're going to presume we are appropriating for the next five, six years at "x" dollars per year based on the fact that you have this much credit in 2016, they're going to get paid first pro rata for however many years it takes, and then all the 2017 credits will be paid pro rata for however many years it takes. So, every company will be given a unique expected cash flow under the traditional system, which is then discounted at a discount rate. The discount rate is covered in subsection (m), and what subsection (m) says is that the base discount rate is 10 percent per year, and then there are four different ways by which a company could buy that down to the lower rate, which is written in as, as the true interest cost plus 1.5 percent, which we currently forecast to be about 5.1 percent interest. But that would be determined closer to the date of final issuing of the bonds. We've talked about what those four methods are, they're clearly written out in (m). Either you have the overriding royalty interest; the commitment to reinvest all of the proceeds. If you have seismic credits, ... you have to waive your 10 years of confidentiality on the seismic data. Or, if you have one of those corporate income tax credits - primarily the refinery credit - outstanding, you're automatically bought in at the lower interest rate. MR. ALPER continued to subsection (n) which clarifies if a credit is sold at less than face value, the remaining value cannot be cashed, sold, or used to offset taxes. Section 11 authorizes the Overriding Royalty Interests (ORRI) and provides the mechanisms and rules for negotiations between DNR and credit holders related to the value of fields offered for credit and factors affecting said value. For example, calculations would include cash flow, royalty interest, and present value. In fact, the mandate is: the present value of the overriding royalty interest must be at least equal or greater than the incremental value the company would receive from the lower discount rate versus the higher discount rate. Sections 12-14 are: authority to write regulations; the ability for those regulations to take effect retroactively if they are not finalized before the effective date; the effective date. Mr. Alper concluded, noting HB 331 has an immediate effective date, thus after its expected passage in May, [2018], the process of underwriting and preparing bonds would be completed and bonds would be issued in August or September [2018]. 1:41:10 PM [HB 331 was held over.]