State losses on oil production tax credits spark debate on how and why

FAIRBANKS — The state expects to post a loss of about $100 million on oil production taxes this year, a situation that has created consternation and confusion in Alaska, where oil taxes are supposed to fill the state treasury, not drain it.

The loss is expected to climb to $400 million in the fiscal year that begins next summer, as the state predicts it will continue to pay more in production tax credits than it collects in oil production taxes.

The consternation comes in part from legislators trying to defend their support of the SB 21 tax change, and critics who say the loss exposes a deep flaw in the new tax rules.

In an opinion column published in early January across the state, Gov. Bill Walker detailed the mounting losses and said "an oil production tax that nets negative returns to the state does not meet Alaska's constitutional mandate to develop our resources for the maximum benefit of the people." He said the system in the More Alaska Production Act, or SB 21, ratified by voters in an August ballot measure, was created when oil prices were more than double the current level, with little consideration for what would happen at low prices.

While Walker has said he won't propose changes to the oil tax system this year, he has also said that it is irresponsible and unsustainable to give away more in tax breaks than the state collects in production taxes.

In a Senate Finance Committee meeting Monday, co-chairman Pete Kelly, R-Fairbanks, said he was glad to hear that Walker isn't proposing oil tax law changes right now. Revenue Commissioner Randy Hoffbeck said the approach is to "let it play out for a while to see if it does what it's supposed to do."

Kelly said the state needs to communicate a message of stability to the oil industry. And he said Walker's column on tax credits was "somewhat wrong." It "was consistent with some of the non-truths that have been put out there about credits and other things dealing with oil tax," Kelly charged.

"In our view, the governor kind of fell into that with that opinion piece that we have since found maybe wasn't the best portrayal and it was probably the best he could do with the information at hand, but they probably jumped the gun on that," Kelly said.

But the state has not changed its prediction that it is paying out more in production tax credits than it is collecting in production taxes or that anything Walker said was in error. He was looking exclusively at the production tax; the state also collects money from royalties because it owns the land, and from corporate income taxes.

Walker's error, according to Kelly, is that the state is paying hundreds of millions in production tax credits to companies that are not yet paying taxes -- with the hope that the incentives to explorers and developers will lead to future oil production and tax revenue. If you subtract the credits for companies that are just exploring or starting to develop projects, the state would not be losing money on production taxes, he argues.

The confusion over the tally comes because the credit system is structured in a way that provides hundreds of millions in tax breaks both for the big North Slope companies that pay taxes -- led by BP, ConocoPhillips and ExxonMobil -- as well as for the significant number of exploration and development companies that don't pay taxes.

Excluding either group can distort the picture. If the large tax credits given to the large North Slope producers did not exist on the balance sheet, the production tax would not be losing money either.

One of the other arguments raised in connection with Walker's column is that while the state may be losing production tax money under MAPA, it would have lost even more under Alaska's Clear and Equitable Share with the price collapse. That appears to be the case, because the minimum tax under ACES, the prior tax scheme, allowed the companies to take additional credits that could have knocked it down close to zero. MAPA has a 4 percent tax floor.

In a hearing last week, Kelly, the co-chairman of the Senate Finance Committee, said people have "tried to associate the tax credits with the big producers, so that we can all be very mad at the oil companies and say, look, SB 21 was a bad idea."

Kelly said that the reason the state is losing money on tax credits is not that "those big oil companies are paying less than they should." He said it is "mostly associated" with tax incentives offered to Cook Inlet producers who don't pay taxes.

But figures from the Department of Revenue show something different. About $2 billion of the total tax credits for this year and next are tied to the North Slope, while $600 million in credits are associated with other parts of the state, mainly Cook Inlet.

Within those totals, combined tax credits to the North Slope producers during this fiscal year and the next are expected to reduce their production tax payments to the state by more than $1 billion.

Most of that reduction is expected from the tax credit that peaks at $8 per barrel when oil is priced below $80. The estimated credits would be hundreds of millions higher, but when oil prices are low enough, the credits disappear and the minimum 4 percent tax is applied instead.

After taking their credits, the major North Slope companies are expected to pay $500 million in production taxes this fiscal year and about $300 million in the next fiscal year. Critics of the tax structure have argued that the credits should be reduced, especially at low prices.

During the same 2015 to 2016 period, the state expects to give cash payments of more than $1.3 billion to exploration and development companies, with more than half targeted to the North Slope and much of the rest to Cook Inlet.

The largest portion of those payments, roughly $900 million, are under a program that allows companies to claim 45 percent of their losses under the "carried-forward annual loss" tax credit. Designed as an incentive for investment, it allows companies to lower their costs. In 2016, it is to drop to 35 percent.

Remove either the tax credits to companies that are paying taxes or the tax credits to companies that are not paying taxes and the state would not be losing money on production taxes.

Over the next four years, production tax credits are expected to total $5.4 billion, with $3.4 billion of that going to reduce tax liability and $1.9 billion taking the form of cash payments to companies that don't owe taxes.

The fall 2014 state forecast for oil prices, which could be too optimistic, says that oil prices in 2017 are expected to average $93 per barrel.

With oil prices at that level, up from a projection of $66 in 2016, state payments of credits would shoot back up above $3 billion, but the state would collect upwards of $700 million more in production taxes than it would pay out in credits. In 2018, if oil prices climb to $103 for an annual average, the state production tax would bring in $1.5 billion more than the state would spend in credits.

In 2017, the difference between $80 per barrel oil and $93 per barrel oil, in terms of state revenue, would be more than $1 billion.

Alaska oil is now selling for less than $48 a barrel, down by about 58 percent in the last seven months.