State: Don’t blame revenue drop on SB 21

The oil tax law touted as guaranteeing Alaska a bigger slice of the profits pie when oil prices rise may well have boomeranged.

A “progressivity” formula in the current law, known as ACES, ratchets up tax rates on oil profits sharply when prices rise. But it works the other way too. When oil values fall, the tax rate falls fast, and so do revenues.

That has now happened.

The ACES tax with the progressivity formula was replaced by a new state oil tax, without the formula, in Senate Bill 21 passed by the Legislature last April. It doesn’t take effect until Jan. 1, meaning ACES is in effect for the first six months of the current fiscal year that began July 1.

Critics complained the tax change would result in big revenue drops. The $2 billion revenue drop this year is now being blamed on SB 21.

It isn’t actually working out that way, however. Under current oil prices and costs, the ACES formula actually imposes a lower tax rate on oil than does the new law in Senate Bill 21. For this year and next, at least, the tax change appears to be largely neutral.

Former state tax director Dan Dickenson, who served under several Alaska governors, said he has not yet had time to study the revenue estimate in detail but that he knows the mechanics of ACES and can understand what is likely to be happening.

“I don’t endorse the governor’s interpretation of the tax effects, but the situation doesn’t surprise me,” he said.

Here are some specifics:

According to a new state revenue forecast released Dec. 5, the effective tax rate under ACES is 34.9 percent of the per-barrel net income at current prices. That’s compared with a 35 percent base tax rate when SB 21 takes effect Jan. 1.

The base tax rate under ACES is 25 percent, with the effective tax rate increasing under the progressivity formula. Under SB 21, the base tax rate was increased to 35 percent and the progressivity formula was dropped.

For fiscal year 2015, the budget year beginning July 1, 2014, the tax rate under SB 21 remains at 35 percent while the tax rate that would have been imposed by ACES, were it to remain in effect at the price and cost forecasts by the Revenue Department, would drop to 32.6 percent of per-barrel net income.

The implication of this is that even if the Legislature had not passed SB 21 the $2 billion slide in revenues from last year would have happened anyway, says Deputy Revenue Commissioner Bruce Tangeman.

Critics of the tax change are having a hard time with this. In a Dec. 5 press release the Alaska Democratic Party said: “The governor’s office claimed that falling oil prices were primarily responsible for reductions in revenue. However, DOR (the Department of Revenue) projects a mere 4 percent reduction in oil prices compared to a 31 percent reduction in General Fund revenue, meaning that oil prices are not responsible for the lion’s share of lost revenue.”

Things are more complicated, however.

The Democratic Party is correct that oil prices are not by themselves responsible for the $2 billion revenue drop, but what isn’t mentioned are other factors at work: the rising production and transportation costs and that oil production that is declining sharply.

Documents provided by the Department of Revenue show that the oil price assumption in the revenue forecast issued last spring dropped from $109.61 per barrel to $105.68 per barrel in the fall forecast released Dec. 5.

However, the estimated production costs rose $454 million for fiscal year 2014 between spring and fall forecasts and the per-barrel transportation cost (pipeline and tanker fees) rose $1.24 per barrel between spring and fall, from $8.87 per barrel in the spring to $10.11 per barrel in the fall.

What can drive up transportation costs fast is declining volume, because the fixed costs of operating a pipeline or a tanker are spread over fewer barrels.

All of these factors combined have sharply reduced the average net revenue per barrel — the value on which the net profits tax is applied — which was reduced between the spring and fall forecasts by $9.23 per barrel for fiscal year 2014 and $14.90 per barrel in fiscal year 2015.

It is the lower per-barrel value of the oil, under the forecast, that results in a lower effective tax rate under ACES than under SB 21.

State Rep. Chris Tuck, D-Anchorage, argues that the cost data being used in the forecast should be viewed with caution because these are provided by industry and cannot be verified.

“ACES has a steep curve (of progressivity) and the only way to bring revenues down sharply is to over-inflate the costs,” Tuck said. “The fact is that we have never had a completed audit of tax returns under ACES. The last audit we’ve had was under the Petroleum Profits Tax, the tax system that preceded ACES.”

While audits check past expenditures claimed against taxes and the future cost estimates provided by industry to the department are forward-looking, having the past audits done would give the revenue department some kind of trend to truth-check information being supplied by industry, Tuck said.

“We just can’t take industry’s word. Every time we’ve done that we get into trouble. We have to have a way to verify it,” he said.

Meanwhile, the production decline is happening faster than the revenue forecasters predicted. Last year North Slope oil production dropped 8 percent compared with the year prior.

Revenue Commissioner Angela Rodell said the lower productivity of the aging North Slope wells, longer periods of plant shutdowns for maintenance and the diverting of some natural gas liquids for enhanced oil recovery were factors in last year’s decline.

Many of the gas liquids are mixed with crude oil and shipped through the Trans-Alaska Pipeline System but last year more of them were used in the fields to produce more oil.

Some of the liquids may be returned to the TAPS oil stream this year, she said.

Tuck said last year’s decline was not a normal case because there was an unusually heavy facility maintenance program in the summer of 2012, and the pipeline shutdowns related to that had big effects on the annual production numbers. The long-term averages have been closer to 5 percent or 6 percent per year, he said.

The new production forecast calls for a flattening of the production decline to 4 percent this year and 2 percent next year, but that assumes that the recent surge of development work in the fields, resulting from the tax change, translate into new oil bring shipped through TAPS.

The new forecast is for production to average 508,000 barrels per day for the current year. That’s down from an average of 527,000 barrels per day estimated in the spring forecast.

For next year, the new forecast is for an average of 498,000 barrels per day, the first time the production average has dipped below 500,000 barrels per day. This is down from 513,000 barrels per day estimate for next year in the spring forecast.