Walker bills would shift tax credits to development loans
After more than six months of speculation, Alaska got its first look at Gov. Bill Walker’s solution for what he calls an “unsustainable” oil and gas industry incentive program Jan. 19 when Senate bills 129 and 130 were read for the first time on the Senate floor.
Walker jumpstarted the oil and gas tax credit debate last June when he nixed $200 million in credit payments from state operating budget before signing it.
What started as a $10 million per year tax credit program in 2003 has grown to a $700 million obligation this year and that payment could eventually hit $1.2 billion if left untouched, the governor contends.
SB 130, if enacted, would significantly trim the current credit program and nearly immediately save the state an estimated $500 million at a time when oil prices below $30 per barrel have edged the state’s budget deficit ever closer to $4 billion.
The bill would cut spending by eliminating the Qualified Capital Expenditure and Well Lease Expenditure refundable credits applicable to Cook Inlet basin work. When combined with closing a loophole that currently allows some North Slope companies producing “new oil” to claim a 20 percent Gross Value Reduction Credit on top of a net operating loss, repealing the credits would save about $200 million per year.
The Qualified Capital Credit reimburses up to 20 percent of all capital development costs and the Well Lease Credit covers up to 40 percent of drilling expenses. Both of the Cook Inlet credits are transferrable.
Another $200 million in savings would come by way of adding stipulations companies must meet before the state will directly repurchase tax credits from small producers, according to a fiscal analysis of the bill.
Walker’s proposal would cap annual repurchases at $25 million per company and directly tie the refundable percentage of a credit certificate to a company’s — and its contractors’ — Alaska resident hire rate. The remaining credit amount not eligible for a refund based on Alaska hire limits could still be applied to a tax liability.
Small producer credits would still be transferrable; however, companies not meeting the stricter guidelines would have to hold the credits until they accrue a tax liability with the state. Credits held for too long would expire after 10 years.
Finally, SB 130 would “harden” and raise the minimum gross production tax for oil from North Slope fields not eligible for the Gross Value Reduction Credit. It would prevent several credits, including the Net Operating Loss, or NOL, Credit from being applied to take a production tax obligation below the minimum, often referred to as the tax “floor,” which is currently at 4 percent.
That 4 percent minimum production tax would go up to 5 percent in the governor’s bill, a move that would generate about $100 million per year to the state in additional revenue. The increased floor would be applied to all North Slope fields, even new fields eligible for the 20 percent Gross Value Reduction.
In its final report, the Senate Oil and Gas Tax Credit Working Group assembled over the summer by Resources chair Sen. Cathy Giessel also recommended hardening the tax floor to prevent large producers from paying no production tax, but the group did not weigh in on raising the minimum tax.
Everything the working group proposed was with the future in mind, Giessel said in an interview Jan. 26, and Walker’s bill, as currently constructed, would make the tax floor change retroactive to Jan. 1, 2016. She also called raising the minimum tax to 5 percent a “blatant change” to the More Alaska Production Act, better known as Senate Bill 21, something Walker said he would not do after it was upheld by the voters in an August 2014 referendum.
Senate Bill 129 would form an Oil and Gas Infrastructure Development Program within the Alaska Industrial Development and Export Authority. A $200 million appropriation would be needed to jumpstart the fund, which would finance oil and gas infrastructure development projects on proven reserves for small and medium-sized companies in lieu of some credits.
AIDEA, as the state’s financier, manages revolving loan funds aimed at economic development and holds business interests around the state. The authority typically invests with market returns in mind, but its goals can change with legislative direction.
Revenue Commissioner Randy Hoffbeck said during a Jan. 22 press briefing that there is flexibility within the loan program, but AIDEA should be able to recover a competitive rate of return and still offer more attractive financing than private lenders.
“What we’re trying to do is build a loan program that steps in where some of these companies are paying venture capital rates or private equity rates that run in the neighborhood of 18 to 20 percent on some of these projects,” Hoffbeck said. “We feel that we can step in and give (companies) a rate that’s a little more reflective of a project that’s a little further down the road because we see a little more certainty in what they’re doing than what they’re finding in the marketplace.”
Smaller companies often use the cashable credits as collateral for loans to fully cover exploration costs.
AIDEA board member and former Fairbanks-area state senator Gary Wilken said he is excited about the prospect about helping support Alaska’s premier industry and has no qualms about the authority’s ability to meet the challenge.
“I think the seven people on the board, including myself, will have the talent to figure out how to execute this if we’re given the responsibility,” Wilken said in an interview. “I think we see the vision; I think we see the benefit and I just have to believe that we’ll reach out and get whatever it takes. If it’s beyond our resources we’ll go get the proper resources to do this right.”
While under the auspice of the Commerce Department, AIDEA is a self-funded, for-profit entity that is not bound by the state’s current budget challenges and therefore could expand to manage an additional program.
Giessel said the idea of running a loan program through AIDEA would put the state in competition with private lenders, a move that “makes no sense.”
The authority on its own has partnered with small producers to finance development projects on the Slope and in Cook Inlet in recent years.
It would also mean money already in Alaska would be recycled through the program, while the tax credits, as loan collateral, are bringing in new money from Outside lenders, she said.
Impact of changes
Walker’s remodel of the oil and gas tax credits is without question a substantial shift from the status quo, something the Oil and Gas Tax Credit working group report urged against — at least right away.
His $200 million deferment from the 2016 fiscal year still left the state paying $500 million of what was a $700 million General Fund line item. The remaining $200 million from 2016 is included in a transition fund of nearly $1 billion to pay off credits expected to be earned before the legislation could be enacted. From there, the state’s obligation would shrink to about $200 million per year through 2022, a projection based on the remaining tax credits.
Under the current system, the State of Alaska pays upwards of 65 percent of development costs on many projects and up to 85 percent of the cost of exploration because of the ability to “stack” credits, according to the Department of Revenue.
A sea change is exactly what representatives from the industry and their supporters in the Legislature have said they don’t want.
Walker said in an interview with the Journal that his administration met with each independent exploration and production company that has used the tax credit system to make sure none “fall through the cracks” during a shift away from the current credit structure.
“We’re unique with the credit program across the country and (the companies) realize that,” Walker said.
His critics on the issue largely agree with the governor that Alaska is unique; they contend the state has a uniquely high cost of doing business, and therefore the credits are essential to spurring development.
Alaska Oil and Gas Association President Kara Moriarty said in an interview that she understands the fiscal pickle the state is in, but changing the tax credit system at a time when the companies are also cash-strapped brings about the ever-dreaded political uncertainty.
“Policymakers cannot control the price of oil, so you want to have policies that attract investment even when the price of oil is low,” Moriarty said.
A member of Giessel’s working group, she also questioned the equity of hardening the production tax floor and not allowing producers to claim a loss against future tax burdens that would take them below the minimum tax threshold.
Moriarty said allowing oil and gas producers to claim NOLs, regardless of the minimum tax, is no different than companies in other industries deducting losses on future corporate tax liabilities.
On raising the minimum tax, Moriarty was clear: “That will impact production, it just will.”
A Revenue Department analysis of SB 130 states that — based on the department’s Fall 2015 Revenue Sources Book — Alaska North Slope crude prices should rebound by 2019 to a point where hardening and raising the production tax floor to 5 percent will no longer factor into tax payments for producers. Revenue is predicting an average ANS price of $68.95 per barrel in fiscal 2019.
Now, early in 2016, the state has 12 credits available to explorers and producers across the state. Most are specific to the Slope and Cook Inlet basins, while two are for “Middle Earth” exploration and development credits for work outside of the developed areas, such as Doyon Ltd’s drilling in the Nenana basin near Fairbanks.
Four of those credits will sunset by Jan. 1, 2017, if the program continues unchanged.
The governor’s proposal to eliminate two of the Cook Inlet capital credits would leave six on the table at the start of next year: three nontransferable and one refundable Slope credit; a refundable Middle Earth exploration credit; and a lone 25 percent Carry Forward Annual Loss Credit for Cook Inlet.
Sen. Bill Wielechowski, D-Anchorage, another working group member, has said the state has employed a “scattershot approach” to the credits without thoroughly vetting their benefit.
A brief Department of Revenue report examining the fiscal pros and cons of the North Slope credits made public over the summer determined that the credits don’t represent a sound financial investment for the state.
Hoffbeck said the seven-page report was incomplete and should not have been released because it limited the benefits to historical production and did not include assumed future production aided by the credits in its analysis.
Definitively concluding whether the credits are a good investment for the state is “almost an unanswerable question,” Hoffbeck said in an interview. It’s unknowable whether certain projects would have moved forward or not without the state’s help.
The department is more focused on figuring out what’s affordable for the future rather than analyzing historical credits, he said.
Those wary of major changes to the credits at a time when North Slope producers are faced with production and transportation costs — in the $48 per barrel range, according to the Revenue Department — far exceeding oil prices that have slid to less than $30 per barrel, say the benefits of the subsidies go well beyond the state’s bottom line.
Pat Galvin, chief operating officer for Great Bear Petroleum LLC and a former Alaska Revenue commissioner, recalled during a Jan. 8 discussion panel on the issue a conversation he had with a member of the Walker administration, who said the state will go from paying two-thirds of most exploration costs to about 30 percent under the governor’s plan, with the anticipation the companies themselves will be willing and able to cover the gap.
Great Bear Petroleum, founded in 2010, conducted a $50 million exploration drilling last winter on its Slope prospects south of Prudhoe Bay.
Galvin said just the exploration credits already set to expire July 1 with the start of the 2017 fiscal year would directly impact activity.
“By taking on that exploration risk, the state is allowing for more exploration activity,” Galvin said. “Exploration leads to discoveries; those lead to development, which leads to production. If you don’t get enough projects in the hopper you don’t get enough exploration activity taking place you’re going to get less discovery, less development and less production at the end of the day.”
Increasing exploration is the best way for the state to assure future production, he said.
He added that if AIDEA is too risk averse and won’t lend to explorers, the loan program won’t accomplish much.
Kenai Peninsula Borough oil and gas expert Larry Persily said during the Jan. 8 panel that the credits should be examined not only by their contribution to the state treasury, but what they do for local economies.
A study commissioned by the Alaska Oil and Gas Association calculates each direct Alaska exploration and production job supports another nine private sector positions.
While Cook Inlet oil carries no production tax and gas from the basin has a minimal tax, the production still contributes royalties, property and corporate income taxes to the state, Persily said. He also noted that incentivizing Cook Inlet gas production helped stave off the natural gas shortages that were feared in Southcentral just three years ago.
“There’s no question that tax credits have been good for Cook Inlet, good for utilities, good for customers, good for production — certainly good for the local economy and jobs. Whether they’ve been a net plus, a net gain to the state General Fund is a separate question,” Persily said.
Lease expenditures in Cook Inlet have increased fourfold since the state focused in incentivizing activity in the basin in 2010, according to Persily.
Giessel concurred with him, saying even small producers not paying production tax bring back three to four times to state coffers what they receive in credits.
“This oil tax credit program is a rebate. Folks do not get this money unless they spend money,” Giessel said. “It’s not a giveaway.”
The Senate Resources Committee will take up the bills in a couple weeks and get plenty of illumination from the administration on the legislation’s finer points, she said.
“I need more clarity as to how it increases production,” Giessel said.
She added that she certainly has ideas on how to adjust the tax credit system and a separate bill could be on the way in several weeks as well.
Giessel’s working group also encouraged opening the books, at least a little, so the public can see what the state’s oil and gas tax credit investments are returning.
“Though it is not advocated for the names of the operators to be disclosed at this time, the public disclosure of investment amounts can better inform both the public and policymakers, on any other changes to make to the credit system,” the working group report concluded. “Alaskans deserve to know what the other side of the table is spending on a project if their money is investing in its success.”
Walker would support more disclosure of the tax credit program, he said, but current statutes tightly restrict what data the state can release and his bills do not address the issue of transparency.
He said if the state goes to a broad-based tax on residents while continuing to fund the credits it would definitely be more appropriate for Alaskans to understand what the state is investing in.
Moriarty said she believes her member companies are forthright in explaining what the credits have done for them, but contended narrowing disclosures to specific projects “would really allow policymakers and the public to pick winners and losers” amongst the companies, a situation she is not comfortable with.
“We’re open to ideas to be more transparent as long as that information is not used against us by other policymakers,” she said.
In most years the governor’s 38 pages of oil and gas tax credit and loan program legislation would be enough to dominate the Legislature’s time, as oil industry policy has in the past.
This year, however, even bigger budget issues, the Alaska LNG Project and criminal justice and Medicaid reform make oil and gas tax credits just another item on the Legislature’s daunting to-do list.
Elwood Brehmer can be reached at [email protected].