HOUSE BILL NO. 4005 "An Act relating to the mining license tax; relating to the exploration incentive credit; relating to mining license application, renewal, and fees; and providing for an effective date." 3:46:21 PM Mr. Burnett explained HB 4005 was an increase in the mining license tax rate. The bill would increase the top tax rate on net profits greater than $100,000 per year from 7 percent to 9 percent. Additionally, the bill would reduce the tax holiday for new mines from 3.5 years to 2 years, prevent the mining exploration incentive credits from being used to reduce royalties (limiting them to the tax), and added a $50 annual license fee. He noted the license fee was reasonable because miners were exempted from the business license fee. He read the sectional analysis (copy on file): · Section 1: Eliminates the ability to take the mining exploration tax credit against royalty payments · Section 2: Removes references to royalties in the mining exploration tax credit provisions in AS 27.30.030(a) · Section 3: Removes references to royalties in the mining exploration tax credit provisions in AS 27.30.040 · Section 4: Removes references to royalties in the mining exploration tax credit provisions in AS 27.30.050. · Section 5: Changes the existing tax holiday for new mining operations from three and one-half years to 2 years. · Section 6: Changes the tax rate on mining income in excess of $100,000 from 7 percent to 9 percent. · Section 7: Provides for a $50 annual mining license fee. · Section 8: Provides that changes to the exploration tax credit are applicable to royalty payments after the effective date of section 1. Provides that the two year tax holiday applies to mining operations that begin production after the effective date of section 6. Provides that the new tax rate begins the first tax year after the effective date of section 6. · Section 9: Provides the exploration tax credit accounting in current law applies to a mining operation which began mining production prior to the effective date of this act. · Section 10: Allows for the Department of Revenue to adopt regulations to administer this act. · Section 11: Provides for an immediate effective date for section 10. · Section 12: Provides that the rest of the bill is effective July 1, 2016. Mr. Burnett elaborated that the new tax would go into effect in January 1, 2017. Representative Gara noted the bill had briefly been in front of the committee several weeks earlier. He had been surprised to learn that a company would continue to receive a tax holiday if they were making profits (for 3.5 years under current law and 2 years under the legislation). He understood the justification of not having a profits based tax if a company was not making profits; however, he wondered about the justification for giving a company a tax holiday when it was making profits. Mr. Burnett responded that mining operations tended to have very large capital costs prior to the start of operations and the tax holiday allowed a company to recover some of those capital costs at the very beginning of production. He detailed there was no cash out to the companies as a result of the tax holiday. He furthered that companies tended to not be as profitable in the first two years of production as they became once production reached full swing. Co-Chair Thompson referred to the International Tower Hill Mines Livengood project that had 300 people working on it two years back. He detailed the mine was still in the permitting process and it had tremendous upfront costs already. He reasoned the tax holiday would allow the mine to recover some of the startup costs - it would take several years before the company would actually begin mining. 3:50:55 PM Representative Gara conjectured that two-year holiday made more sense under some circumstances. He provided a hypothetical scenario where a company invested $10 million to prepare a mine for operation and became profitable in year one. He asked if the company would deduct part of the $10 million from year one so they were truly profitable. Alternatively, he wondered if a company was not allowed to deduct the prior costs from the first year of profits. Mr. Burnett responded that a company was not allowed to directly deduct prior cost. There was an exploration tax credit a company may be able to take part of. Additionally, there was a depletion allowance, which allowed a company to take a certain percentage of a prior cost. He explained a company did not take a deduction for prior cost in one lump like with a cash flow tax (oil and gas was a cash flow tax rather than a profits tax) where capital costs were taken when they were spent and credits were taken. Co-Chair Thompson informed the committee that Brandon Spanos the deputy director of the DOR Tax Division was on the line for additional questions. Representative Gara had heard companies were allowed to deduct a certain percentage of pre-operations costs. He referred to the carried forward tax credit and a portion of costs a company could deduct in the first year. He asked what portion could be deducted once a company became profitable. 3:53:21 PM BRANDON S. SPANOS, DEPUTY DIRECTOR, TAX DIVISION, DEPARTMENT OF REVENUE (via teleconference), asked for clarification. Representative Gara referred to a company's development costs and asked for an estimate of what portion the company was allowed to deduct once they became profitable. He referenced the concept that once a company became profitable they would still not pay a tax for a few years. Mr. Spanos replied [note: audio cut out during the response]. Representative Gara referred to the depletion allowance and asked for verification a company was allowed to deduct development costs on a depreciation schedule (similar to federal law pertaining to federal taxes). He asked for verification that a company received the money back (the deductions) over a period of time. Mr. Spanos replied in the affirmative. He detailed there was a cost or percentage depletion allowance similar to federal depreciation or depletion. 3:55:39 PM Representative Gara asked if the allowance pertained to all of a company's development costs. Mr. Spanos responded it pertained to a company's own capitalized development costs. Representative Gara asked for verification the allowance pertained to capital costs but not operations costs. Mr. Spanos replied no, if there had been an expense in a given year that would be capitalized. He detailed if a company had a loss in the year a corporation may be able to use it against other income. However, in general development costs were capitalized. Representative Gara relayed he was getting tripped up on capitalized versus capital costs. He explained he was used to oil production taxes and the terms capital costs versus operations costs. He asked for a definition of capitalized costs. Mr. Spanos replied a capitalized cost was an expense that was not expensed in the current year. He furthered that it became part of the capital and was expensed through a schedule over the life of the mine. Representative Gara asked for verification that a capitalized development cost could include operations and capital costs. Mr. Spanos asked Representative Gara to repeat the question. Representative Gara complied. He surmised capitalized development costs could include operations costs (e.g. labor) and capital costs (e.g. equipment). Mr. Spanos agreed. He expounded that the labor would be capitalized if it was part of the development of a mine. Representative Wilson asked how the mining and fuel tax bills would economically impact the mining industry. 3:58:15 PM FRED PARADY, DEPUTY COMMISSIONER, DEPARTMENT OF COMMERCE, COMMUNITY, AND ECONOMIC DEVELOPMENT (DCCED), responded that the mining tax itself was a net income tax, which was somewhat unusual in his experience related to mining. He shared he had spent 30 years in mining in Wyoming. The taxes he was most familiar with in Wyoming were severance- based, not net income-based. The net income tax would not occur unless a property had a net income. He stated "you can debate the amount of the haircut, but at the end of the day you're still growing hair, you weren't bald." He noted he would leave the specifics of the fuel tax to DOR, but he believed there was an off-road tax credit against that because it's a fuel tax. Representative Wilson indicated that she had spoken with Fort Knox and she believed even with a credit the fuel tax would be a huge amount of money (excluding the mining portion). She thought it was DCCED's responsibility to consider how taxes would impact business in Alaska. She added if it was not the department's responsibility, she wanted to know why. Mr. Parady that the task had not been given to DCCED in the current timeframe. He suggested that as everyone looked at the holistic picture of the situation Alaska found itself in, of course there were economic consequences to a $400,000 per hour deficit. Representative Wilson stressed that HB 4005 was not her legislation; however, if it was her bill she would come up with the information [she was currently asking for from DCCED]. She did not understand why anyone would have to ask the administration to bring certain things up. She reasoned there were departments for specific reasons. She redirected her question to the Department of Natural Resources (DNR). She asked DNR if it had done any analysis on how the mining and fuel taxes would impact the mining industry. She wondered how much money they were talking about, especially related to mines making over $100,000. BRENT GOODRUM, DIRECTOR, DIVISION OF MINING, LAND AND WATER, DEPARTMENT OF NATURAL RESOURCES (via teleconference), replied that the department had not been able to conduct an economic analysis at the present time regarding the bill proposals. Co-Chair Thompson asked how many mines in Alaska made over $100,000 per year in taxable profits. Mr. Goodrum responded that about six mines fell into the category [note: due to poor audio quality some testimony indecipherable]. Representative Wilson stated she was not asking trick questions. She reasoned the administration was asking the legislature to increase taxes on industry as well as on individuals without the information she believed should be required. She wanted to know the overall impact of the proposed taxes on each industry. She noted the bills would add an incredible cost to Fort Knox (the estimate did not include property taxes, which Pogo Mine did not have). She stated each mine was different and although there were not a significant number, certain boroughs had different responsibilities and costs. She thought the information should have been available either from DOR or DCCED. 4:03:05 PM Co-Chair Neuman asked if there was a methodology that could predict the economic impacts of an increased tax. Mr. Parady replied that in a mine management scenario with an investment property such as Fort Knox (i.e. an operating mine) at the time of determining the capital investment a company would have run best, worst, and probable scenarios; the internal rate of return; and hurdle rate related to the range of risk for the investment. He stated the factors came from all directions including permitting timeline, scale of investment, rate of return, commodity price volatility, and other. Across the range of factors a company was reaching an investment decision. He acknowledged that uncertainty was the enemy of investment, which was the reason the tax holiday (at the time the investment was made) was a fairly significant benefit because it occurred right at the point where cash was flowing out the door, but not in. The bill would shorten, but not eliminate the window. He continued that once a company began operation, its cost structure was predicated on all of the variable costs (i.e. labor contracts, fuel, and other) and commodity price variability. He explained that mines were driven by economies of scale. He detailed a company could respond to market volatility by running its equipment around the clock, year round to spread out fixed cost and lower per unit cost. Mr. Parady addressed the particular tax and its impact on an operating environment. He agreed the change from 7 to 9 percent was not a 2 percent change, it was a two-sevenths change or 28 percent, which constituted a substantive tax change. However, it was a tax change occurring on net income; at that point, it may lessen a mine's ability to reinvest or hire additional workforce, but it was not shifting from a profitable to a non-profitable enterprise on the basis of the tax. He did not have the ability to model Fort Knox's cost structure; each of the existing mines knew exactly where their cost structure was against the current price of gold. He agreed the tax increase would have an impact, but because it was a net income, it would tighten their operating margins, but would not position the mines for failure. 4:06:30 PM Co-Chair Neuman knew that different mines had internal information that he surmised the department did not have access to. He thought the state would have a $3 billion deficit for some time; he did not anticipate the price of oil to increase any time soon. He wondered how to measure that against trying to cover the state's debt. He questioned whether the money should be taken from the state's dividend. He was trying to think of some way the department could model the economic impacts of all the various information. Mr. Burnett responded that it was not a simple model. He specified that each of the mines were different. He clarified that DOR did receive the mines' cost information. The largest taxpayers in the group had about $451 million in profits in 2014 and the tax would take an additional $7 million in taxes per year out of that type of profit structure. He corrected that prices would be lower based on commodity prices - the profit was in the hundreds of millions and the state would take a few million. He elaborated that the state's tax would reduce the federal tax. He continued it was not a deduction from the state income tax, but it was a deduction from the federal income tax, which was a 35 percent tax. The impact on the companies was not as great as the dollar amount in the fiscal note. The 4 cents in additional fuel tax the mines would pay (he clarified the number was determined by subtracting 12 cents from 16 cents) was lost in the volatility of fuel prices. He acknowledged the dollar amount was significant, but commodity prices also tended to move together in many cases. He continued that oil prices and gold prices could move in the opposite directions, but it was only possible to make predictions or guesses. He underscored the increase would mean a small dollar impact relative to the total investment. The bill would not mean the state would take money before it became profit; the bill would only take profits with the mining tax. Co-Chair Neuman requested a comparison of the mining, gas, motor fuel, and fisheries taxes compared to the taxes in other states. Mr. Burnett replied that the department had previously provided the information to the committee. He noted the department could locate the information. Vice-Chair Saddler echoed the comments by Representative Wilson. He expressed embarrassment on behalf of the administration that the taxes had been considered for five or six months, but he did not see any analysis or consideration of the potential impact of the taxes. He understood the tax would only be on the profit, but he wondered if the profit margin could be reduced to a point where it was not sufficiently profitable. He wondered about the potential impact on employment, exploration, and future investments. He assumed there must be a general model that applied. He believed the administration had been given sufficient time to come up with some specifics. He was concerned the administration appeared not to have considered the impact of the bills. Mr. Parady assured the committee the administration had not approached the tax bills with a cavalier attitude. He explained that mining was a cyclical business. In the past several years the price of gold had varied between $950 or $1,000 to $1,400 or $1,500. He detailed the specific commodity price spread far exceeded any impact in the suggested tax rate. He agreed that taxes had an effect on the bottom line of a business and a company would deal with the bottom line the same way the state was approaching the current deficit - a business could freeze travel, overtime, and hiring, and could layoff contractors. He acknowledged there was an impact when money was pulled out of a business. However, he spoke to the perspective of the scale of a change from 7 to 9 percent, which was only on a net income basis. He underscored the increase was not on a cost basis. He explained the effect was difficult to quantify and was less than the effect of the cost variability in the commodities cycle. Mr. Parady continued that in his knowledge of taxes in general, Alaska's mining tax structure, which dated to the 1950s and was based on net income was different than in other major mining states; the most direct comparison to Alaska was probably Nevada because it was a hard rock gold mining state, whereas Wyoming was primarily a coal, uranium, and trona mining state (albeit trona mining occurred underground and there were some similarities). He elucidated that most tax structures were typically based on a percentage of cost, in Wyoming it was a severance tax basis. The fact that Alaska's tax structure was on a net income basis moderated some of the effect. He believed DCCED had a state-by-state comparison and he would provide it to the committee. Co-Chair Thompson noted the committee had received the comparison in the past. 4:14:00 PM Representative Gattis discussed that she could not compare her farms to those in the Lower 48. She detailed that the cost of fuel and fertilizer was significantly higher. Additionally, she had to haul in all of her equipment from the Lower 48. She reminded committee members and others that Alaska was unlike other states as it related to logistics. She did not believe it was possible to compare apples-to-apples. Representative Gara thought additional discussion was necessary. He recalled oil tax debates in the past when there had been a gross tax. He asked whether in low profits years a mining company would prefer a profits based tax or a gross tax (like in Wyoming). Mr. Parady clarified the Wyoming tax was severance tax based. He detailed the tax was based on the value of the mineral at the time it was severed from the ground. He explained it was not a gross on the cost as the value of the cycle was completed when fed to a refinery or power plant. He believed a mining company would want the lowest tax possible at any given point in time. Representative Gara thought there had to be an answer to his question. He wondered if a company would prefer a severance based tax or a tax based on profits during a time when profits were low or a company was losing money. Mr. Parady commented on the complexity of the question. He explained when Russia imploded and Russian yellowcake flooded the world market and depressed uranium pricing, "we went to a graduated severance tax." He detailed the tax was zero percent at $12 per pound of yellowcake and down (1 percent to $14, 2 percent to $16, and back to the original rate of 4 percent at $18). The point was an effort to salvage the industry through the low spot caused by the spike. There had been zero taxes at the low end and an increase back to the normal taxing rate as the market returned. He concluded "there's a lot of ways to skin this cat." 4:17:16 PM Mr. Burnett responded to Representative Gara's question and explained that a net income based tax at a zero profit would be a zero tax; therefore, anytime a company was losing money or profits were low, the tax would be lower - unless it was structured as Mr. Parady had discussed. 4:17:43 PM Representative Gara had been surprised to learn that the state's royalty was profits based as opposed to based on the value of the commodity. He asked what the royalty was on mining. Mr. Burnett deferred the question to Mr. Goodrum. He agreed it was a net tax based on the same calculations as the net mining license tax. He did not have the rate on hand. Mr. Goodrum answered the rate was 3 percent net profit. Representative Gara was not interested in raising the tax on struggling mines (companies that were not making money or were making very little money). He pointed out that the bill applied to mining companies making over $100,000 in profit. He was curious what the fiscal impact would be if there were a slightly higher tax for companies making $250,000 per year in profits. He asked about the fiscal impact of an 11 percent tax on those companies. Mr. Burnett replied he had answered the question in a previous committee. Generally speaking, nearly all of the income above $100,000 was income above $250,000. He clarified it was nearly all above $1 million. The impact of 2 additional percent on mines earning over $250,000 would mean a doubling of the fiscal note at about $14 million per year as opposed to the $7 million. 4:20:08 PM Representative Kawasaki asked for verification that gas prices and motor fuel would be rolled into the net income tax. He surmised companies would have the ability to write the increase off. Mr. Burnett responded that any expenditure for operating the mine could be taken as a tax deduction against profits. Representative Kawasaki recalled a previous discussion related to when mining taxes had last been changed (in 1955). He asked if the brackets in Section 6 had been set at the time. He outlined the brackets as $40,000 to $50,000 at 3 percent, $50,000 to $100,000 was 5 percent, plus $1,500. Mr. Burnett replied that the brackets had been set in 1955. He reminded the committee that there had been no large mines operating in Alaska at the time. There were numerous large operating mines in Alaska prior to WWII and nearly all of the current operating mines had been started in the 1980s, 1990s, and 2000s. Representative Kawasaki requested additional information on why the discussions about the brackets had not been changed. He referred to a Fairbanks resident working in the summer as a placer miner who made $40,000 to $50,000 per year and paid 3 percent of net. He continued that the largest scale mines paid 7 percent (or 9 percent under the proposed legislation). He thought the "mom and pop" mines were getting hit disproportionately compared to the larger mines. Co-Chair Thompson relayed that in a prior presentation for HB 4001, a statement had been made that the tax increase would not impact mom and pop miners at all other than the $50 annual license fee. He asked if the same applied to the current legislation. Mr. Burnett replied in the affirmative; the increase in the legislation only applied to mines making over $100,000; therefore, mom and pop organizations would not be impacted. He addressed Representative Kawasaki's question and relayed it had been discussed in the House Resources Committee. He elaborated there had been discussions about expanding the brackets, which would have very little impact in terms of how much money the state received. He continued it would be a policy decision to opt not to tax people at lower levels. The primary income to the state from the miners was from the 14 to 20 taxpayers making more than $100,000 in profits on an annual basis (primarily from the 6 large mines). He referred to a spreadsheet the department had created for Representative Kawasaki, which had been shared with the committee in 2014. He detailed the net profits of the taxpayers making under $100,000 totaled approximately $1 million. 4:23:57 PM Representative Kawasaki referred to the discussion about whether it was possible to make an apples-to-apples comparison of the mining industry in Alaska and other states. He believed it was fair to ask the questions. He wondered if any analysis had been done on what other countries did. He reasoned Alaska was an international mining destination and was ranked number 6 worldwide for investment attractiveness (just behind Western Australia, Saskatchewan, Nevada, Ireland, and Finland) in a Frasier report. He noted the committee was familiar with Frasier pertaining to oil and gas. He continued that Frasier listed Alaska as number 2 worldwide for best practices, number 11 worldwide for best mineral extraction potential, and other. He asked if the administration had considered the report when analyzing the mining license tax. Mr. Burnett replied that the issues were considered by DOR, DNR, and probably by DCCED. He affirmed the administration had looked at taxes in other jurisdictions besides the United States. Vice-Chair Saddler commented that the most recent large mine to open in Alaska had taken a significant amount of time and had required a Supreme Court decision. He questioned how many new mines were opening in Alaska. He referred to page 3 of the bill and asked for verification the mining tax was on net income, not net profits. Mr. Burnett replied that net income and profit were generally considered the same thing. Vice-Chair Saddler asked for verification the current mining royalty was 3 percent of net profit. Mr. Burnett answered in the affirmative. Vice-Chair Saddler had heard in previous presentations that the $50 mining tax was in lieu of a royalty. He referred to the 3 percent net profit royalty and a mining tax royalty. Mr. Burnett responded that the $50 mining license fee was a recognition that all other businesses in Alaska paid for a business license. He continued that companies with a mining license were exempt from regular business licensing requirements. HB 4005 was HEARD and HELD in committee for further consideration. 4:26:48 PM