HB 328-OIL AND GAS CORPORATE TAXES  1:59:12 PM CO-CHAIR FEIGE announced that the final order of business would be HOUSE BILL NO. 328, "An Act relating to the oil and gas corporate income tax; relating to the credits against the oil and gas corporate income tax; making conforming amendments; and providing for an effective date." [Before the committee was the proposed committee substitute (CS), Version I, labeled 27- LS1142\I, Nauman, 3/27/12, adopted as the working document on 3/28/12.] 1:59:16 PM REPRESENTATIVE MUNOZ moved to adopt the proposed committee substitute (CS) for HB 328(RES), Version 27-LS1142\E, Nauman, 4/7/12, as the working document. There being no objection, Version E was before the committee. 1:59:31 PM CO-CHAIR FEIGE opened public testimony. 2:00:16 PM THOMAS K. WILLIAMS, Senior Tax and Royalty Counsel, BP Exploration (Alaska) Inc., stated that he had worked for the State of Alaska as the Director of Petroleum Revenue from 1975 - 1979, during the years of separate accounting, and he suggested the reinstatement of several guidelines. 2:02:00 PM CO-CHAIR FEIGE asked if Mr. Williams had created the initial separate accounting system. MR. WILLIAMS replied that the legislature had passed the separate accounting, and the commissioner of DOR at the time, had assigned this accounting to the Petroleum Reserve division, instead of the income tax division which handled personal income tax. He pointed out that consideration had been given for the difference between a severance or production tax and an income tax. He explained that the legislature could set any tax rate for production within the state. He noted that income tax was based on income earned within the state. He declared that the fundamental approach within the context of income tax, how much did you make in Alaska, was confronted directly by separate accounting. He allowed that the accounting became more difficult when a business included both in-state and out of state income. He gave an example of a fisherman who lived in Canada, bought fuel and goods in Canada and Alaska, fished in Alaska, Canada and international waters, and sold his fish in the State of Washington. He questioned a clear means for determining the amount of income from each area, as it was not clear, and was removed from "the pure idea of taxing the business straight as if it's standing alone in Alaska." With separate accounting, assumptions were then made for cost and income allocations, even though it was not straightforward. He offered another example for the problem of allocating the costs and income from gold mining and refining in different states, stating that it was difficult to determine the answers. 2:09:42 PM MR. WILLIAMS explained that the apportionment approach had been in response to the desire for uniform systems of laws so that each state did not have a different set of laws. One of these was called the Uniform Division of Income for Tax Purposes Act (UDITPA), the formula for which was later used in the Multi- State Tax Compact (MTC). He explained that this approach attempted to determine the potential to generate income in a state, compared this to the potential everywhere the company did business, and then allocated the actual overall profits back to each of the states in proportion to the state's income generating potential. He opined that Alaska, in 1959, was the first state to adopt this approach. He shared that the current statute divided income on the basis of three different measures of income generating potential: amount of property investment in Alaska should get the same return compared to other areas; sales should bring in the same margin everywhere; and production should have comparable income potential. He declared that each of those in-state percentages was averaged and then multiplied by the overall business to arrive at the present tax. 2:12:58 PM MR. WILLIAMS pointed out that this present tax system was not free of issues as it was only as good as the assumption that the in-state factors were representative of income generating potential out of state. He declared that, for every industry in the extractive business, it became more expensive as the easier product was removed, until, ultimately, the cost of removal and the value were equal, and then the company would start to lose money. 2:14:15 PM MR. WILLIAMS emphasized that for every company producing oil and gas or coal, the time would come when it would want separate accounting, as the profitability would be less in Alaska than elsewhere. He declared separate accounting to be a good tool for use at the end of field life. He suggested that the small fields did not have the same margins to start with and those margins were not at all comparable to the North Slope fields. He pointed out that the state could not be sure whether it would get more or less money from a particular tax system because it depended on where the profit margin was in each individual business. He summarized that this explained the differing responses to the amount of money made by a business in Alaska. 2:16:04 PM MR. WILLIAMS spoke about some of the constitutional issues addressed in 1978. He said that ACES focused on value over price, defining price as what it sold for and value as what it could have sold for. He declared that, oftentimes, the price would fall short of the value, and that it was unconstitutional to tax income that had not been recognized. He said that ACES allowed a tariff to be calculated on fair, just, and reasonable. He went on to explain that, to the extent that the state was disregarding what was actually paid, it would either be allowing over-deduction, which was not a constitutional issue, or under- deduction for actual cost which was an issue as it taxed income that did not exist. He declared that the state could tax less income than existed, but could not tax more income than existed. [Co-Chair Feige returned the gavel to Co-Chair Seaton.] 2:18:55 PM MR. WILLIAMS reported that Alaska followed the Multi-State Tax Compact Formula for ascertaining the size of the family of companies to determine the taxable income. He allowed that Alaska chose a two-pronged test: if there was more than 50 percent ownership, or common control of the group, then it was a consolidated business. This was included in the regulations during the time of separate accounting in Alaska. He pointed out that this was included in proposed HB 328. He relayed a story about unitary business and apportionment, which was also separate accounting, and a determination by the Alaska Supreme Court which rejected the UDIPTA test for 50 percent ownership or control in favor of the unitary business and apportionment concept. He suggested that the legislature consult with their attorneys for advice, as these issues were contained in proposed HB 328. 2:22:22 PM MR. WILLIAMS questioned the reasoning for separate accounting to be implemented to increase revenue. He offered his belief that the taxation in proposed HB 328 would be counterproductive in the long term as an investment for Alaska. He reported that "the market is betting that we have a temporary situation" of higher oil prices. He allowed that some companies, as oil prices decreased, could request separate accounting. He pointed out that the Department of Revenue (DOR) already had the discretion to offer separate accounting under the MTC. 2:24:53 PM REPRESENTATIVE GARDNER referenced the increasing cost per barrel that was being experienced from some of the older oil fields, and that there was a "tipping point" where it would be more advantageous for the industry to have separate accounting because Alaska was so expensive. She asked if the current opposition to separate accounting meant that the profitability in Alaska ranked "well compared to the profitability in other places." MR. WILLIAMS, in response, said that although the assumption could be made he was unsure if it was a correct assumption. He questioned that the purpose for the assumption was to gain more revenue, and, if so, the long term effect could be to deter investments which would increase the rate of production from its current decline. REPRESENTATIVE GARDNER asked why, if the oil industry currently opposed separate accounting, was it a fair assumption that apportionment benefited the oil industry. She expressed her agreement that each oil company should pursue its own best interests. 2:26:47 PM MR. WILLIAMS referred to earlier testimony by Alaska Oil and Gas Association (AOGAA) which reflected unanimous opposition by its members against separate accounting, which could offer more opportunities for business in Alaska. 2:27:35 PM CO-CHAIR SEATON pointed out that, although the Alaska corporate income tax rate was 9.4 percent, under apportionment the tax rate was only 5.2 percent. He asked what the benefit to Alaska was to be perceived as "less conducive to a competitive fiscal system," when, in fact, the actual corporate tax rate was lower than recognized. MR. WILLIAMS offered his belief that the strongest attribute for investing in Alaska was its track record of stability, as there had been very few re-writes of oil and gas taxes since 1981. He pointed out that there could be adjustments to forecasting and optimized investment if the platform was stable. He opined that the level of taxation had "overshot the mark." CO-CHAIR SEATON pointed to the competitive calculations presented during the PowerPoint presentations, which stated that the corporate income tax in Alaska was 9.4 percent. He asked how Alaska could be competitive when the actual corporate income tax based on apportionment was lower than the tax presented. MR. WILLIAMS stated that he disagreed, declaring that Alaska always received 9.4 percent of any income attributed to Alaska, under both separate accounting and apportionment. 2:31:02 PM CO-CHAIR SEATON asked how a formula for a worldwide apportionment, which arrived at a significantly different result than what was presented, would portray Alaska in its true competitive nature. MR. WILLIAMS replied that people would perceive Alaska as accurately as they could, which combined the opportunities, operating costs and logistics, and fiscal regime. This would allow for estimation as to the profitability of an investment, and he opined that any competitive investment would be made, regardless of the perception to Alaska. He offered his belief that the current system, since ACES, did not entice investment. He pointed out that oil companies had testified to the Senate Finance Committee with suggestions for meaningful fiscal changes to spur additional investment. CO-CHAIR SEATON referred to Mr. Williams' earlier reference that the basis of worldwide apportionment was that the margin of profit should be the same worldwide. He then directed attention to the Legislative Legal and Research Services report dated March 2012, which detailed that the prior 10 years of per barrel income data from ConocoPhillips Alaska, Inc. reflected that Alaska had a higher margin than other states. He asked why Alaska would not correct this fiscal system. MR. WILLIAMS declared that he was not in the position to respond to the underlying principle to apportionment as it applied to ConocoPhillips Alaska, Inc. However, he said that this fiscal principle was developed by UDITPA in order to standardize taxes and codes. He said that he had also chaired the Multi-State Tax Commission, which offered this as an article of good faith. He referenced that the Alaska Supreme Court had also accepted this as an article of good faith, expressing its reasoning in earlier cases that "the object of this formula approach, slice the pie, is not to get to perfection in terms of measuring, but rather to have it represent fairly the potential to generate income over time." He declared that there was sound underlying economic evidence and analysis for UDITPA with which the courts had expressed agreement. CO-CHAIR SEATON expressed his appreciation for the declaration that this was an article of good faith, but then he stated that his data reflected that the good faith was not justified. He offered to provide Mr. Williams' with the aforementioned Legislative Legal and Research Services report. 2:38:09 PM REPRESENTATIVE MUNOZ directed attention to the earlier reference that the department had the ability to implement separate accounting, and asked what level would determine when separate accounting was an option. She asked how close Alaska was to this level. MR. WILLIAMS relayed that separate accounting depended on the specific facts and circumstances for a particular company. He stated that the test in the statute was whether the formula fairly represented the extent of the business activity and income. He said that "fairly representative" was a subjective term designed to deal with many types of conditions and not to be prescriptive. He offered his belief that the challenge would need to be material and impugn, which would lead to a full scale investigation to determine whether it was a temporary or ongoing circumstance. 2:40:52 PM MICHAEL HURLEY, Lobbyist, ConocoPhillips Alaska, Inc., addressed the issues and concerns that had come up since he testified earlier on the proposed bill. He distributed the 2010 Index to Financial Statement from ConocoPhillips Alaska, Inc. that listed the jurisdiction breakdown of income, expenses, and revenues. He pointed out that the aforementioned legislative analysis was incomplete, as numbers were missing that were important for understanding relative margins between different segments of the company business. CO-CHAIR SEATON expressed his desire to get a better understanding of the intricacies. 2:43:17 PM MR. HURLEY directed attention to the upcoming repositioning of ConocoPhillips into two separate publicly traded companies, which was anticipated to occur on May 1, 2012. He reported that these two companies would be taxed differently, noting that although the company currently paid state income tax in 45 states, it was still unclear what would be the impact for each state. He offered to answer the earlier question regarding the perception of different corporate tax rates. 2:45:12 PM MR. HURLEY explained that evaluating a business, for example a ConocoPhillips business in Alaska, did not necessarily mean that the 9.4 percent corporate income tax was all paid to the State of Alaska. He pointed out that, as other states do apportionment, if ConocoPhillips earned an incremental dollar of income in Alaska, that dollar would be included in the ConocoPhillips revenue for apportionment by all the other states. He observed that $1 invested on the North Slope would generate income which would be taxed in 45 different states, so that the ConocoPhillips Alaska, Inc. state income tax calculation must "have a blended rate that reflects all of those different taxes that are going to be levied on that $1 of incremental income." 2:47:30 PM REPRESENTATIVE P. WILSON asked to clarify that the tax paid in other states was subtracted from the Alaska corporate tax rate of 9.4 percent. MR. HURLEY replied that when evaluating Alaska investments or its competitiveness, it was necessary to take into account the taxes paid on incremental Alaska income, which, he opined, was paid in 42 of the 45 jurisdictions in which ConocoPhillips did business. He stated that it was complex, and he offered an example of the sales tax generated by a gas pipeline. 2:50:06 PM MR. HURLEY referred back to the ConocoPhillips Index to Financial Statements and, recalling the aforementioned Legislative Legal and Research Services report, directed attention to the consolidated operations. He stated that the research report only referred to the consolidated operations, but did not include the equity affiliates. He explained that, although ConocoPhillips did not have equity affiliates in Alaska or the Lower 48, for legal reasons in many jurisdictions there were separately owned equity companies and affiliates. He declared that these companies, under Securities and Exchange Commission (SEC) rules, had to be accounted for separately. He stated that the research report ignored these companies although their margins per barrel of oil equivalent (BOE) were higher in Asia Pacific/Middle East and Europe, than in Alaska. CO-CHAIR SEATON asked to clarify that either those should be factored in, or ignored with the focus on Alaska and the Lower 48. MR. HURLEY expressed his belief that the equity affiliates were appropriate to include, as the issue was with the structure of the ConocoPhillips business. CO-CHAIR SEATON explained that, as there were not any affiliates in Alaska or the Lower 48, it would be appropriate to compare them with each other for net income BOE, but not with the international companies as their net income BOE contained an additional factor. MR. HURLEY expressed his agreement. 2:53:28 PM MR. HURLEY said that ConocoPhillips Alaska, Inc. supported the earlier Department of Revenue (DOR) testimony to adopt as much of the Internal Revenue Code as possible, as the further the state strayed from the Internal Revenue code for defining expenses, revenue, and intercompany transactions, the more difficult it would be for DOR. CO-CHAIR SEATON replied that the DOR suggestions had been incorporated into Version E of the proposed bill, and asked Mr. Hurley to address any further concerns as he studied this version. 2:56:30 PM MARIE EVANS, Lobbyist, ConocoPhillips Alaska, Inc., suggested that page 13, lines 7-8 did not implement the intent that the co-chair had just stated. CO-CHAIR SEATON replied that there was no intent to avoid the issues, and he requested an e-mail or public testimony. 2:57:27 PM MR. HURLEY concluded by saying that ConocoPhillips Alaska, Inc. did not believe that proposed HB 328 would make Alaska more competitive and attract the capital which Alaska needed to stem the decline of oil production. He opined that this policy change would "make the state actually more hostage to oil prices than they are today." He declared that the proposed bill would exacerbate the situation and make things more difficult when oil prices went down. 2:58:34 PM CO-CHAIR SEATON, offering his belief that ConocoPhillips Alaska, Inc. would remain in Alaska as an upstream company after the "corporate split," asked if Phillips 66 would be a participant in Alaska. MR. HURLEY opined that there would not be any Phillips 66 assets in Alaska, and that all the assets would be owned by ConocoPhillips Alaska, Inc. CO-CHAIR SEATON asked to clarify the reason that, as Phillips 66 and its downstream assets were no longer to pay corporate taxes in Alaska, the price of oil in one mechanism was more than another if the only activity in Alaska was upstream. MR. HURLEY allowed that this would be true from the standpoint of ConocoPhillips Alaska, Inc., noting, however, that his company was only one of the major companies operating in Alaska. He pointed out that some of the aforementioned small oil companies did not pay any state corporate income tax at the corporate level, as they were LLCs (Limited Liability Company). CO-CHAIR SEATON offered his belief that this was also addressed in Version E, and he stated that there was not an attempt to provide a loophole for not paying corporate taxes to oil and gas producing companies. 3:02:25 PM CO-CHAIR SEATON announced that public testimony would be held open. [HB 328 was held over.]