Legislature(2003 - 2004)
05/17/2003 10:15 AM Senate JUD
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* first hearing in first committee of referral
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SJR 19-CONST. AM: PERMANENT FUND INCOME
SENATOR GEORGIANA LINCOLN, sponsor of SJR 19, and Representative
Eric Croft, sponsor of HJR 3 (House companion legislation),
introduced themselves.
SENATOR LINCOLN told members that members' bill packets contain
a copy of SJR 19, its fiscal note, a sectional analysis, and a
letter from former Governor Jay Hammond. She described each
section of SJR 19 as follows.
· Section 1 requires that the income of the permanent fund be
deposited into the earnings reserve account and distributed
according to specific statutes as they read on July 1,
2002, which contains a statutory formula for the
distribution.
· Section 2 requires that the statutes referred to in Section
1 remain in effect as they were on July 1, 2002,
essentially freezing those statutes. That will allow future
Legislatures to appropriate funds from the earnings reserve
account only as authorized under the frozen statutes unless
the voters ratify a different appropriation.
· Section 3 suspends and repeals the [constitutional]
amendment if the IRS makes any adverse ruling on the
earnings reserve account regarding taxation of the fund.
SENATOR LINCOLN said the crux of the legislation is to protect
the permanent fund dividend. She noted that members of a House
committee met that morning and discussed implementing various
taxes to close the fiscal gap and using the permanent fund
earnings, which is frightening for constituents.
REPRESENTATIVE CROFT informed members that he introduced HJR 3
because he believes the public should weigh in on this very
important public policy decision. The public is very concerned
about the Legislature's ability to take away the dividend. The
Legislature has been a responsible steward of the dividend
throughout the permanent fund's history, but the public should
be involved in the decision of whether the Legislature is able
to use any portion of the earnings. He said this constitutional
amendment assures the public it will be involved in that
decision.
REPRESENTATIVE CROFT said, regarding the taxation issue, the
courts apply a number of tests to determine whether a public
fund should be taxable. The two tests of primary concern are
whether the fund is an integral part of the state and whether
its proceeds accrue to a private benefit. He does not believe
establishing the dividend in the Alaska Constitution, by
statute, or by regulation will change whether the fund is an
integral part of the state or whether it is a public or private
benefit. He maintained that the Michigan Educational Trust
ruling should provide the Legislature with solace regarding the
tax issue and said he does not believe this constitutional
change will create any new risk.
REPRESENTATIVE CROFT concluded:
We put on those provisions that Senator Lincoln talked
about at the end that give protection if my reading of
those cases is wrong. So, we've tried to protect it
two or three different ways to make sure that this is
not taxed, and if we can solve that problem, then the
fundamental policy question becomes is it appropriate
that we ask the people before we change the dividend
or use their earnings. We believe it is and that is
why we introduced this constitutional amendment.
SENATOR LINCOLN referred members to a 1998 letter from Morrison
& Foerster, a legal firm in Washington, D.C., that addresses the
tax issue. In the executive summary the author says that three
primary arguments support the position that the income of the
fund and the APFC are not subject to federal taxation. The first
argument is that the constitutional doctrine of implied immunity
of state instrumentality of federal taxation applies. The second
argument is that, according to the history of the IRS rulings,
income earned by a state or an integral part of a state is not
specifically subjected to taxation. The third argument, an
alternative, is that the income is excluded from Section 115 of
the IRS Code, which excludes gross income from any income that
is derived from the conduct of an essential government function
and accrues to the state or political subdivision.
SENATOR FRENCH thanked Senator Lincoln and Representative Croft
for introducing the resolutions and said, in his mind, this is
the central public policy question before the state for the next
several years. The issue is whether to let the people have a say
before the Legislature takes part of their dividends and spends
that money on government. He stated:
That is a train that's on the tracks and I think the
history of the permanent fund and the history of our
grappling with the fiscal issues in the state says
that the people expect to vote. The people expect a
say and the only way they're going to get a say is if
this or a very similar amendment gets in front of them
on the ballot soon so that this is subject to a public
vote.
He said he is not very concerned about the tax issue. He has
read the Morrison & Foerster letter twice and his reading is the
permanent fund is nothing but an integral part of the state. It
is made of Alaskan oil that has been transferred from
underground to a bank above ground. He thanked both sponsors for
the work they have done and stated full support for the
resolutions.
CHAIR SEEKINS said the Senate Judiciary Committee plans to hold
hearings during the interim to get public input on the POMV
issue. He intends to work in conjunction with APFC Board of
Trustees and to discuss SJR 19 and HJR 3 simultaneously. He said
his concern is that the legal opinion cited today was written in
1998 and he wants to make sure the Legislature is updated. He
feels it would be valid to ask for a legal opinion from the IRS.
He emphasized his intent is to make sure the public trust is
protected.
SENATOR THERRIAULT indicated he did not have a copy of the
letter from former Governor Hammond.
MR. BRIAN HOVE, committee aide, said he would be sure to
distribute copies of that letter to members.
SENATOR THERRIAULT then stated:
I really would like to take a look at that. Of course,
we saw a letter from a former Governor the other day
that suggested that to save the longevity bonus, we
just go back and ignore the Zobel case. I don't know
exactly how many times we have to lose that case
before it's clear that we can't do what the Governor
suggested. The other thing, Senator, I'm not sure this
letter from Mr. Martin - is this something that you
had included in the packet and had distributed?
SENATOR LINCOLN was not aware of the letter Senator Therriault
was referring to.
REPRESENTATIVE CROFT pointed out that Mr. Martin was available
to testify at the meeting scheduled the prior day, but because
that meeting was postponed until today, Mr. Martin sent in his
written testimony.
CHAIR SEEKINS repeated his intent is to include SJR 19 as part
of the committee's discussions on the permanent fund during the
interim.
SENATOR ELLIS said his personal preference is that the committee
take action on SJR 19 today and move it to the full body for
consideration.
CHAIR SEEKINS said he is concerned about the legal ramifications
and does not believe the committee can address those before the
end of session.
10:32 a.m.
SENATOR THERRIAULT indicated the Board of Trustees, at its next
meeting, plans to discuss the issue of who would have standing
to request an IRS ruling and the mechanics of that procedure.
CHAIR SEEKINS maintained that answers to those questions are
essential.
SENATOR FRENCH said his view differs. He stated the IRS is a
subsidiary of the U.S. Congress, which is where this battle will
be fought if it is to be fought decisively. If the IRS issues an
adverse ruling, the state will take the ruling to court. The
court will not look to previous IRS rulings; it will look to
Congress to determine whether Congress has written a law that
affects this fund. He noted that Congress has been enormously
reluctant to tax the state. He believes that in the absence of
clear direction from Congress, the court is highly unlikely to
say that the United States government can tax an integral part
of the state.
CHAIR SEEKINS responded that Senator French has much more faith
in the court system than he does.
10:35 a.m.
SENATOR THERRIAULT indicated that he is not concerned that the
permanent fund, in its current structure, will be deemed to be
taxable. He believes Congress would have to take action to
change that status. However, he is concerned that establishing
the payout mechanism in the Alaska Constitution instead of
keeping it completely within legislative control could trigger
the question of whether the fund is being used for a public
purpose; that is the question he would like the IRS to address.
He then said he does not understand the need to push this
legislation through now since the public could not vote on it
until next year. He believes it is important to take the time to
find out who has standing to make a request for a ruling from
the IRS.
SENATOR FRENCH maintained the particular genius of SJR 19 is
Section 3, which would revert the permanent fund to its pre-tax
status should Congress take action.
CHAIR SEEKINS maintained it is better to have a clear picture
ahead of time and reduce any risk.
REPRESENTATIVE CROFT asked if the committee would be taking
public testimony on SJR 19.
CHAIR SEEKINS said the committee would have ample opportunity to
take public testimony on SJR 19 at this time and during the
interim.
SENATOR LINCOLN said legal counsel from Legislative Legal and
Research Services does not believe the Morrison and Foerster
opinion needs to be updated. Director Tam Cook reiterated that
assets and income of the permanent fund are those of the state
and therefore are not subject to federal taxation. She
questioned opening Pandora's box when the resolution contains a
repeal clause.
CHAIR SEEKINS argued the committee should address the question
of who has standing to request an IRS opinion and how the POMV
proposal would work. He said he is not ready to determine
whether constitutional amendments for both SJR 19 and the POMV
proposal should be on the ballot simultaneously without giving
full consideration to both proposals first.
REPRESENTATIVE CROFT stated it is his understanding that the IRS
is reluctant to issue prospective rulings. He then informed
members:
The integral part of the state test, which the
Michigan Educational Trust, the Sixth Circuit in that
case determined, where private money went into
government hands and then was paid back out for
tuition, they ruled that was an integral part of the
state - that educational trust. This is government
money that started as government money and stays. And
the distinction between putting it in regulation,
statute or the Constitution, for example, Mr.
Chairman, the CBR is no less governmental by the fact
that we have a three-quarter vote on it. The fact that
you have made it through a different governmental
process - accessing it through a different
governmental process, sometimes with higher hurdles,
doesn't change its essential governmental character.
But to make doubly, triply sure, we put that Section 3
on.
I hope we don't let this taxation issue, which will
never conclusively be solved I believe, delay the
public right to have a constructive say in the
dividend and the future of the fund. I'm glad that
we're going to take it out to public hearing but as
long as the ultimate, complete power rests solely in
the legislature, I don't think you're going to get
broad public authority to use some of those funds. I
don't think you're going to get that public buy-in.
So, I understand what you're going to do. Obviously
I'm disappointed about it. I'll let you hear other
testimony or not as you will, but I appreciate you
hearing it here today.
CHAIR SEEKINS replied that every legislator should advocate for
his or her position. He believes, as a former permanent fund
trustee, that the Legislature should not hurry into a position.
He then took public testimony.
MS. VICTORIA PATE, a resident of Nikiski testifying on her own
behalf, stated strong support for SJR 19. She believes it will
guarantee for the permanent fund what 83 percent of the voters
supported in 1999. She said almost every candidate she heard in
November of 2002 promised not to touch the permanent fund
without a vote of the people. She believes SJR 19 will fulfill
that promise. She asked members to pass SJR 19 out of committee
so that all members of the Senate could vote on it. She believes
Section 3 provides a back door if the IRS does not rule
favorably.
10:46 a.m.
MR. JAMES PRICE, a resident of Nikiski testifying on his own
behalf, echoed Ms. Pate's testimony. He believes SJR 19 is
supported by an overwhelming majority of the citizens of Alaska.
He believes the threat of IRS taxation is real, however SJR 19
recognizes and addresses that threat. He strongly encouraged
legislators to give Alaskans the opportunity to vote on a
constitutional amendment.
MR. BILL ARNOLD, a resident of Sterling testifying on his own
behalf, thanked Representative Croft and Senator Lincoln for
introducing the resolutions. He said the Morrison & Foerster
1998 report boils down to two issues. First, the report says it
might be argued that the implied immunity of state
instrumentalities from federal taxation applies. Second, federal
taxation cannot reach income earned by an integral part of a
state. He said he has researched germane U.S. Supreme Court
cases and believes the argument boils down to states' rights.
The IRS promulgates regulations and interprets the code, but the
court would decide any conflict. However, it all begins in
Congress. [A portion of Mr. Arnold's testimony was inaudible.]
He said his desire is to protect future generations of Alaskans.
MR. BOB BARTHOLOMEW, Chief Operating Officer of the Alaska
Permanent Fund Corporation, told members the current board of
trustees has not deliberated SJR 19 and taken an official
position. He said many people have commented that the Morrison &
Foerster report supports the tax-exempt status of the permanent
fund as it is today. The executive summary and the final
paragraphs of the opinion focus on the proposed change. He said
the Board of Trustees has been concerned about understanding the
effects of that change and plans to focus on them, particularly
on the creation of a private benefit. He informed members the
Board of Trustees will consider its role in this issue, if any,
at its June meeting. The board needs to determine its role
versus the role of the executive branch versus the role of the
legislative branch.
MR. BARTHOLOMEW told members if the policy decision is to move
forward, he hopes two issues are considered. The first issue is
the Board of Trustees has proposed constitutional changes to the
permanent fund because the board deals with how much money comes
out of the permanent fund each year and desires to make the
rules that govern the permanent fund consistent with its current
investment strategy. The board believes that issue is critical,
regardless of the outcome of SJR 19. The second issue is that if
the Board of Trustees' percent of market value (POMV) proposal
is adopted, the mechanics of it would be inconsistent with SJR
19. Under SJR 19, the calculation of the dividend amount would
be based on existing statute, but the board believes that
calculation was designed for a fund that was created 26 years
ago and it no longer works in the same way. He said if the
dividend were enshrined in the Alaska Constitution, the board
would recommend that the Legislature look at using a dividend
calculation method that is compatible with the POMV. Mr.
Bartholomew noted that legal counsel to the APFC was available
to answer questions about the tax status.
10:55 a.m.
SENATOR THERRIAULT noted Mr. Storer said last week the trustees
are primarily interested in the POMV because they view their
highest goal as preserving the purchasing power of the fund over
time. He asked if the legislature takes what he considers to be
an overly simplistic step to ensure a dividend [SJR 19], it
would be inconsistent with the POMV proposal, which is designed
to preserve purchasing power. He stated the philosophy [of the
resolution] is not inconsistent but the methodology is.
MR. BARTHOLOMEW said if the citizens adopt the POMV payout, and
SJR 19 is also adopted, the mechanics would be incompatible.
Although the mechanics of SJR 19 are in use today, they are
problematic, and one motive behind the POMV proposal is to make
the payout strategy work with the investment strategy.
SENATOR THERRIAULT asked if the question of ensuring that a
percentage of the payout would be used for dividends and the
question of adopting the POMV methodology are compatible and
could be linked or whether the two issues would have to be posed
as separate questions.
MR. BARTHOLOMEW said they could be separate questions. The
trustees' POMV proposal allows [up to] 5 percent of the value of
the permanent fund to be made available annually for
distribution. He pointed out that a House bill attempts to
determine how that money would be distributed and provides a
mechanical set up that would work with the POMV. He said the
House bill would delineate the distribution in statute; SJR 19
sets a distribution method in the Constitution.
SENATOR THERRIAULT said he noted a previous testifier said if
the POMV methodology is adopted, and a percentage payout is
enacted to guarantee a dividend, that would smooth out the
swings in the dividend amount. He said that would benefit people
who build the dividend into their budget.
11:00 a.m.
MR. BARTHOLOMEW responded:
... To reiterate, the highest dividend that's been
paid was $1,950. We're projecting two years from now,
all things staying equal in the financial markets,
we'll have a dividend of $600. If you roll that up to
a statewide perspective, the total amount paid out for
a dividend at its largest was $1.1 billion. In two
years, we project the payout to be $400 million. Just
when you look at it in that scale, that is a huge
difference - $1.1 billion to $400 million - what comes
into the economy. What's available changes
significantly and it varies drastically. If you had a
percentage of market value and decided whatever amount
of that you wanted to go to the dividend, you would
not see those yearly swings. You'd have a much tighter
range. You would not have had a $1,950 dividend; it
would have been smaller. You would not have a $600
dividend; it would be larger. Again, everything
depending on what you pick, but if you tried to keep
the percentage that goes to the dividend the same, you
would have had a much narrower range.
But the more important issue that the percent of
market value proposal has is under the current
constitutional structure, you can go to zero, you can
have no distribution. So you can have a dividend
formula as we have today that says come this June 30,
our 5-year formula says pay to the citizens of Alaska
an $1100 dividend. If the stock market takes a dip or
there's an international event that drives the stock
market down before June 30, there could be zero
available. I think the second most significant change
that the percent of market value offers is it would
remove the floor that there would ever be zero
available. And that has as large an effect on future
payouts from the fund for dividends or any other
purpose.
So there's a formula issue. You could improve the
formula to make it smoother, more predictable, but you
could also have a policy decision of whether you want
to risk going to zero or whether there should be a
distribution every year. That's the second issue that
can really affect payouts in the future and we
believe, by making the change, you could achieve both.
A stable consistent payout is one policy issue. The
second one is how do you want to approach the
determination of the dividend.
SENATOR FRENCH said he is concerned about the effect of a
deflationary period on the POMV method. He asked that the
trustees analyze that scenario at great length because a 10-year
period of deflation could result in a loss of half of the fund's
value. He asked Mr. Bartholomew to take back to the trustees an
interesting example of a parallel to the permanent fund and
dividend in its current form. He referred to page 21 of the
Morrison & Foerster letter, and explained that another state
created a lifeline fund to subsidize utility bills of the poor.
The IRS concluded that use of the fund was an integral part of
the state. The funds came from a state ordered surcharge on
utility bills and were invested until paid out to needy
individuals.
TAPE 03-51, SIDE B
He asked that the trustees, as they examine the proposals, make
the point that the IRS has looked at state created funds that
pay dividends directly to individuals and found that use to be
an integral part of the state and the fund was thus shielded
from taxation.
MR. ROGER SHANNON, testifying from Kenai on his own behalf,
said, in regard to SJR 19, "The hens have been disturbed, the
fox is on the loose, the [indisc.] are aware."
CHAIR SEEKINS closed public testimony.
SENATOR ELLIS asked that the entire committee decide whether to
take action on SJR 19 at this time. He then moved SJR 19 to the
Senate Finance Committee with its accompanying fiscal note.
SENATOR THERRIAULT objected to the motion. He asked Senator
Lincoln if it was her intent when she introduced SJR 19 to
preclude public and legislative consideration of the POMV
methodology.
SENATOR LINCOLN replied the POMV issue is separate from SJR 19.
SENATOR THERRIAULT noted that the committee was just told that
the mechanics of SJR 19 are not compatible with the POMV. He
asked if it is her intention to cut off consideration of the
POMV proposal.
SENATOR LINCOLN said she is aware that folding SJR 19 and the
POMV together would create some complications, but she did not
explore those complications because she feels very strongly
about SJR 19.
SENATOR THERRIAULT maintained that guaranteeing a dividend via
SJR 19 would prevent passage of the POMV proposal. He pointed
out that Mr. Storer said if the Legislature wants to guarantee a
dividend, SJR 19 is a clumsy way of doing that. He asked Senator
Lincoln why she is not interested in looking at a methodology
that would mesh with the POMV proposal.
SENATOR LINCOLN said she has not concluded that SJR 19 is a
clumsy way of guaranteeing a dividend. She said she is not
prepared at this point to say whether the two are compatible.
She said right now, SJR 19 and the POMV are very separate issues
and she believes SJR 19 is very workable. She then thanked the
Chair for hearing SJR 19 at this time. She acknowledged that she
would be disappointed if the committee does not take action on
SJR 19 at this time. However, if that is the case, she hopes
that she and Representative Croft can be involved in the
discussion during the interim.
CHAIR SEEKINS said he hopes so too.
CHAIR SEEKINS announced the following result of a roll call
vote: Senators French and Ellis were in favor; Senators
Therriault and Seekins were opposed. Chair Seekins noted the
motion to move SJR 19 to the Senate Finance Committee failed.
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