House Finance Committee Co-chair Paul Seaton (R-Homer) said Tuesday that if the Senate doesn’t consider an income tax, the legislature will have to turn to the oil industry for more revenue.
Senate leaders reiterated Monday that they prefer to only restructure the Permanent Fund this year, leaving a FY 2018 deficit of $500 million to $800 million, depending on the level of cuts they can achieve.
“The Senate’s plan is an incomplete plan,” Seaton said.
“That’s not really where we want to see the economy go,” he said.
House Finance Co-chair Neal Foster (D-Nome) said, “Further cuts will be cuts to the bone.”
“You get to a point where you just can’t make cuts anymore,” he said. “We’ve done the job of making cuts, and we have to look to revenue-generating measures now.”
If the Senate does not consider a broad-based tax to close the deficit, Seaton said the legislature will have to raise taxes on the oil and gas industry.
Minority Members Say Cash Credit Language is “Blackmail,” “Extortion”
House Finance took its second look Tuesday at HB 111, a bill that would raise oil taxes and eliminate nearly all cashable oil tax credits on the North Slope.
Last year, the legislature phased out cashable credits in Cook Inlet via HB 247, but Seaton said the “Senate didn’t step up to the plate” on the North Slope.
“The system we have right now is unsustainable. Even the industry knows it’s unsustainable,” said Seaton.
Section 1 of the committee substitute approved by the House Resources Committee declares the legislature’s intent to “purchase a substantial portion” of the $500 million in outstanding cashable credits if the legislature passes a fiscal plan.
Companies are expected to add another $400 million to the balance next year.
“We don’t have any money, but we know that we owe this,” Foster acknowledged to reporters. “Those are liabilities that have to be paid.”
In a hearing, Rep. Tammie Wilson (R-North Pole) said the Section 1 language “sounds almost like blackmail,” while Rep. Lance Pruitt (R-Anchorage) said it “almost seems like — for lack of a better term — extortion.”
House Resources Co-chair Geran Tarr (D-Anchorage) said she would like to pay the outstanding credits sooner, but in the absence of a long-term fiscal plan, the State will not be able to afford them. The alternatives are to drag out the payments over years by paying the statutory minimum, as Gov. Bill Walker has proposed, or not paying them at all.
House Finance Vice-chair Les Gara (D-Anchorage) told Pruitt that the non-binding intent language “is not extortion; it’s logic.”
“I’m just really uncomfortable with this language,” Pruitt said.
If the State takes no action and continues to pay the minimum in cash credits, it will build a $1.6 billion liability by FY 2026.
That number and the bill language underscore the urgency House majority members feel to close the structural deficit, to which Seaton said cash credits are contributing.
“We all agree that we need to go forward now,” Seaton said of HB 111.
“House Bill 111, in some variation, is a must-have for the House,” declared House Speaker Bryce Edgmon (D-Dillingham).
While the overall trend of the bill is the elimination of tax credits, HB 111 creates a new “dry hole” credit that gives companies 15 percent in cash when exploration is unsuccessful. To be eligible, the company must have no production in the state and must return its lease to the government after drilling.
“I’m really trying to figure out the need for this particular one,” Pruitt said of the dry hole credit. “Who asked for this?”
Tarr explained that HB 111 eliminates net operating loss (NOL) credits that smaller companies can cash, making NOLs exclusively applicable to future tax liability. Yet some small companies do not have production and need some incentive to mitigate the risk of drilling.
Major oil companies tend to be uninterested in exploring fields that have already peaked, Tarr said. The dry hole credit could encourage smaller companies to explore those fields and maximize their value.
If the State does not maintain all the phases of industry, from exploration to development to production, the forecast production decline will continue, she said.
“We want to change that,” Tarr told House Finance.
Tax Division Director: HB 111 Could Ultimately Resolve Oil Tax Credits
HB 111 raises the minimum tax from four percent to five percent at prices above $50 and prevents tax credits from dropping below that minimum.
The Tax Division anticipates this will bring in about $60 million per year. Other bill provisions will save the State between $120 million and $140 million per year.
Alper showed that under the current tax regime, the State is receiving less of the Gross Value at the Point of Production (GVPP) — price less transportation costs — than it has historically received.
Under questioning from Pruitt, Alper said he was simply explaining the bill.
“I’m not really here to take a position, pro or con,” Alper told him.
“When did you first get copies of this?” Pruitt asked about the CS for HB 111.
Alper responded that while he provided guidance to the House Resources staff upon request, he saw the CS at the same time it was released to the public.
“I can’t say that I was terribly involved in the creation of this thing, if that’s where you’re going with this line of questioning,” Alper told Pruitt.
Alper said the three big changes in HB 111 are the minimum tax, ending cashable NOLs, and reducing NOLs that can be carried forward from 35 percent to 15 percent.
The last change reduces the State’s liability that builds as companies incur losses prior to production. When companies go into production, they apply the NOLs to their tax liability, costing the State revenue.
“The largest issue — what makes me the most nervous going forward — is the multi-billion dollar liability; that if someone invests $10 billion under the current system, however much money we might get in the future from that investment, in the present — in the short-term — we would have a $3.5 billion liability,” Alper explained Tuesday afternoon. “We need to understand and get our heads around how we’re going to handle that liability or else we might never get to the place where we reap the benefits of all that production. That’s why we’re looking at tax credit reform.”
One of the credits that HB 111 would prevent from “piercing the floor” of the minimum tax is the Gross Value Reduction (GVR) per-barrel credit for oil that’s come online since 2003.
The current tax regime, established in 2013 via SB 21, is designed as a 35-percent production tax. Credits serve as deductions from this base tax rate.
In a letter to Gara, Alper showed that, because it pierces the floor, the GVR credit allows companies to pay zero production tax until oil prices are over $70 per barrel.
A per-barrel credit for non-GVR eligible oil keeps companies from paying an effective tax rate of 35 percent until oil hits $160.
Oil is currently trading around $51.
Former Gov. Sean Parnell originally proposed a 25-percent flat production tax, but the legislature worried that would be too regressive. They added the per-barrel credit as a balanced way to capture more at higher oil prices, prices the State hasn’t seen since shortly after the bill passed.
“If we rolled the dice on this one, we lost,” Alper told House Finance.
HB 111 ends the per-barrel credit — and thus hits the 35-percent effective tax rate — at $120.
Industry representatives are scheduled to testify Wednesday afternoon.
“Obviously, no one’s going to sit in front of you and volunteer to give up a benefit,” Alper said, anticipating negative reaction from industry.
But, he added, “The current structure is obviously unstable… I think the credit issue needs to get resolved so that it is stable.”
Alper said that while the legislature will almost certainly examine oil taxes again in the future, HB 111 could ultimately resolve the issue of oil tax credits, bringing comfort to industry through certainty.
He also suggested that restructuring the Permanent Fund will signal to industry that they will not continue to be the first target when the State needs revenue in the future.