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Governor Signs New Oil & Gas Tax Bill
Signals New Era in Greater Incentives for
Oil & Gas Exploration and Development

 

August 20, 2006
Sunday


Alaska Governor Frank H. Murkowski on Saturday signed into law HB 3001, the historic reform of the way Alaska taxes its oil and gas. The much-debated bill changes the state's oil and gas production tax from a gross tax to a net profits tax.

"We expect to see significantly increased investment in oil and gas exploration and development resulting from this change in our taxation philosophy," Murkowski said. "Such investment is crucial to the future of oil production on the North Slope and to critical state services that are dependent on the revenues oil production generates in Alaska."

"This reformation of Alaska's production tax to incentivize substantial oil and gas development is the first step to ensure a bright and prosperous economy for Alaska over the next 40-50 years," he said. "The next step is to finalize and approve the gas pipeline contract, which will provide the foundation for building the pipeline. Having the pipeline infrastructure to monetize our gas will provide Alaska not only the jobs and revenues from gas production, but will also extend the operating life of the state's oil pipeline by 20 years."


gif oil & gas tax graphic


The bill sets the tax at 22.5 percent of a company's net profits, with a "progressivity" provision that increases the tax by 0.25 percent for each dollar the price rises above $40 net per barrel. "While I continue to believe the 22.5 percent tax rate is higher than it should be to encourage optimum reinvestment in Alaska, I am pleased to sign this bill today," Murkowski said.

The new law also includes a tax credit of up to 20 percent of the cost of capital investments oil producers make in new exploration and development, and a floor of four percent. The tax revision is estimated to raise an additional $2.2 billion in revenue for the state at today's oil prices. Murkowski said he will propose saving much of the added income.

"We were successful in saving about $1.2 billion of last year's surplus, through forward-funding education and setting aside $300 million for investment in the gas pipeline," Murkowski said. "This has set an excellent marker for husbanding any surplus the new oil tax generates. I believe we need to repay the constitutional budget reserve as budget surpluses allow. We should continue to save for investment in the gas pipeline. And we need to be careful to avoid pumping up the operating budget, as there will be a natural impulse to do.

"The new Petroleum Production Tax provides a bridge from where we are today to the revenues that will begin with the gas in about nine years. It is incumbent upon us to shepherd this surplus with care and save as much as possible for potentially lean years ahead."

Murkowski also said he was very pleased that the PPT provides Alaska with what may be a once-in-a-lifetime opportunity to get our fiscal house in order. "Many Alaskans ­ individuals, civic groups, industry support groups, and others ­ have called for a fiscal plan for many years," Murkowski said. "The revenues generated by the PPT give us the foundational building blocks for that fiscal plan.

Murkowski noted that with passage of the PPT, a deposit in the Power Cost Equalization endowment will enable the program to be fully funded in future years. The administration proposed an appropriation of $183 million for the endowment, which the Legislature approved. The PCE endowment is expected to generate $25 million per year to help offset the high cost of energy in rural communities.

"The cost of heating oil has gone above $5 per gallon in some rural communities, and will continue to go up," Murkowski said. "The passage of the PPT will enable full funding of the PCE program to provide help for those communities to keep pace with those rising energy costs.

"The enactment of PPT will also provide $73 million in funding for the construction of three new rural schools, in New Stuyahok, Kongiganak and Noatak, so we are very pleased that those projects will be able to proceed."

 

Reform of Alaska's Petroleum Production Tax
SCS CSHB 3001(NGD)

Frequently Asked Questions

Question #1. What result is this legislation supposed to deliver?

  • Creates incentives for oil and gas investment in Alaska;
  • Gets the state a fair share of revenues when prices are high.

The state's old production tax based on an economic limit factor (ELF) did neither of these things. This PPT bill will do both.

Question #2. Why was this reform needed now?
We must increase oil and gas production. The state does this by a fair production tax that includes incentives for increased exploration and development. This is important because nearly 90 percent of the state's revenue comes from oil and gas production. In 1988 North Slope production was at two million barrels a day. Today it's half that-and it's down to 600,000 due to the field's partial shut-in. Record oil prices have masked the impact on state revenues due to the decline in production.

Question #3. How does this bill encourage exploration and investment?
Dollars reinvested in Alaska by an oil company will be taxed more favorably than dollars of profit that they earn and then take out of Alaska to invest elsewhere in the world.

In most other oil provinces, a dollar earned from an oilfield that is then reinvested in that field is taxed less than if a company chooses to take that dollar and invest it elsewhere in the world. Alaska stood practically alone in not having its tax system reflect where profits were reinvested. This bill fixes that.

There are billions of barrels of heavy oil and viscous oil on the North Slope that have barely been touched because they require increased investment to get them into the oil pipeline. This bill recognizes these increased costs which will make it more likely that work on heavy oil will go forward.

Question #4. How will the bill's new provisions accomplish all this?

  • By allowing a deduction of the full costs of exploring for oil, developing any oil that is found, and getting that oil out of the ground before that oil is taxed. (Even under the old production tax the costs of getting the oil to market from the North Slope was deductible.) This means that expensive, hard to develop oil like heavy and viscous oils are taxed less.
  • By allowing a 20% credit for all investment in the oil patch.
  • By extending the 40% credits passed into law three years ago. This higher credit is only for tightly defined exploration activities that really push out the frontiers of exploration in the state. Any direct exploration costs that don't qualify for the 40% will get the 20% credit.
  • By allowing additional credits of up to $6 million a year to each company for development and production work outside of the North Slope or Cook Inlet so that we can develop some of our unexploited resources.

Question #5. Can an oil company write-off its regular maintenance costs?
No. The oil companies can not write off the first $.30 per barrel of revenue. This $0.30 represents the cost of basic field maintenance that an owner will have to invest to keep a field up and running. As such, it should not be subject to a tax break.

Question #6. How much increased revenue are we talking about?
At Alaska North Slope oil's closing price on August 18, 2006 of $75.05 per barrel and a full year of production, the PPT will generate $3.7 billion in one year revenues, almost three times the amount generated under the current ELF-based production tax.

On the other hand, if prices return to the teens or twenties-prices that we saw from 1986 through 1999-and not much cash is being generated in Alaska's oil patch, then the PPT will go to zero. (The state will still collect royalties, oil and gas property taxes, and oil and gas income taxes.)

Under the old system, we always collected production taxes at low prices, even though it may not have been very much. The fact is that the additional amount collected by the PPT in a single year of $70 prices will make up for a decade of lower PPT collections from oil prices in the teens.

Question #7. What about when prices are really high-like now?
The legislation includes progressivity-when the free cash generated from each barrel exceeds $40 a barrel (which corresponds roughly to a market price of $55 a barrel) then a progressivity tax kicks in, and with increasing price, the progressivity factor increases, though it is capped at 25%. Thus, if oil prices ever reach about $155, and costs stay about the same, the total tax rate in this bill will reach its maximum at 47.5% (22.5% base + 25% progressivity).

Question #8. When will the state get revenues from the tax change?
Producers will continue to make monthly estimated payments under the old system for the last five months of calendar year 2006. In 2007, they will start to make monthly estimated payments based on the new system. And on March 31, 2007 the billion plus dollars difference from 2006 will become due.

Related Information:

pdf PPT Bill Review Letter by Alaska Attorney General David W. Marquez

 

Source:

Office of the Governor
www.gov.state.ak.us

 

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