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March 2010

Vol. 15, No. 10 Week of March 07, 2010

Senate Finance proposes gas tax change

Committee Co-Chair Bert Stedman of Sitka says with gas and oil prices diverging, gas production tax needs to be severed from oil

Kristen Nelson

Petroleum News

There are a number of tax change bills in the Alaska Legislature and another is about to be added, but this one is perhaps more time sensitive than some others.

Sen. Bert Stedman, R-Sitka, co-chair of the Senate Finance Committee, said Feb. 26 at a press conference that as a result of two weeks of hearings on the state’s oil and gas tax structure, the committee is having a bill written which will separate oil and gas taxes.

Oil and gas are currently taxed as a single stream, with gas converted to barrels of oil equivalent in the process.

Concern about the state’s integrated oil and gas production tax system has been brewing for more than a year and legislators have been working with consultants to study what happens when you add a large-volume gas pipeline to the state’s production mix.

What gives this particular issue urgency is that according to the Alaska Gasline Inducement Act, producers who make binding commitments to ship natural gas on the AGIA-licensed gas pipeline in the first binding open season will pay the tax rate in place when that open season begins, which is May 1, for the first 10 years that gas is shipped off the North Slope. This AGIA inducement applies only to capacity taken in that first binding open season.

As Commissioner of Revenue Pat Galvin explained the regulations to Senate Finance Feb. 24, any difference between the tax in place on May 1 and the tax in place for the first 10 years gas is shipped in the capacity taken in this first binding open season would be calculated and the producer could claim an exemption for the difference.

Amount could be large

And, especially if large volumes of gas were committed in this first binding open season, the amount could be large.

The issue is what Stedman described as a fundamental flaw in the system: If you have high oil prices and low gas prices — a situation which has been the case recently — the state’s revenue stream is diluted when you add gas sales.

In some scenarios legislators have studied, the magnitude of that dilution could be a couple of billion dollars a year, Stedman said.

The gas to BOE calculation is based on energy equivalents, which do not change, while the price parity, which for a long time averaged about 8 to 1, has been much higher recently as oil prices soared and gas prices dropped due to an increased supply of natural gas and the worldwide recession.

For fiscal year 2008, with high oil prices and low gas prices, David Wood, a consultant to the Legislature, calculated the tax loss to the state would have been $1.8 billion if a gas line had been in operation, based on a scenario where all gas was shipped in capacity taken in that initial binding open season on an AGIA-licensed line.

Stedman said the goal was to bring the issue forward in bill form over the next few weeks and have a discussion and see if “we can surgically go in and separate oil and gas.”

The bill, he said, would not be an attempt to set a gas tax and would not change the oil tax. But he said the parity issue, the relationship between the value of oil and the value of gas, occurs in a lot of areas, so some work will be required in drafting the bill.

The Legislature adjourns April 18 and Stedman said he had had some discussions with leadership in the House and while “we all have a huge workload between now and the middle of April,” when the House and Senate decide there is an issue of immediate concern, “we can work pretty fast.”

The administration’s view

The state’s current oil and gas production tax was enacted in late 2007 as ACES, Alaska’s Clear and Equitable Share, and Galvin told Senate Finance Feb. 24 that ACES contains the same dynamic for gas as for heavy oil and marginal field development — the tax treatment was intended to be a positive incentive for producers to commit to the gas line project.

Referring to presentations made when ACES was being discussed, Galvin said one of the goals of the tax was to encourage investment in new conventional and heavy oil development, as well as natural gas.

While the state wanted to increase its “take” at high oil prices it also wanted to encourage investment, he said.

Galvin said gas tax policy issues include what level of cash flow the state expects from a gas pipeline, what price risk the state is willing to accept, whether the state is willing to accept the risk of periods where the combined oil and gas tax revenue is less than oil tax alone and what the cash flow sharing and risk sharing should be between the producers and the state.

Galvin said that as the state moves toward sanctioning of a gas line project gas tax policy issues include:

*Leave the current system and accept the gas-price risk as an incentive for producer participation;

*Eliminate the risk of a merged oil and gas tax being less than the oil tax by setting a minimum tax equal to what would have been paid for oil alone;

*Reduce the effect of price parity on the oil tax by establishing a collar around the parity ratio and adjusting the oil to gas equivalence if the collar ratio is exceeded; and

*Separating or ringfencing gas production for state production tax purposes.

That last alternative, he pointed out, would require developing a way to allocate costs between oil and gas without requiring the state to hire an “army of auditors.” It would also change the current cash flow balance between the state and producers.

The open season

As far as the upcoming open season, Galvin said the producers are likely to continue to claim that fiscal system changes are necessary and also said that full commitments to ship gas are not expected until 2014.

Stakeholders are expected to continue to discuss necessary producer cash flow from gas development, relative risks borne by producers and the state and the amount of fiscal predictability needed by producers.

As to how much the Legislature is bound by the May 1 deadline, Galvin said in an exchange with Finance Co-Chairs Stedman and Lyman Hoffman, D-Bethel, that one Legislature cannot bind a future Legislature, and the AGIA tax inducement was crafted with that in mind.

Galvin said the Legislature rejected a contractual basis for the AGIA tax inducement and so the 10-year lock in of the tax based on gas committed in the first binding open season is a statement of good faith, and there would be no remedy to a taxpayer if the Legislature adopted a tax change.

“It has as much validity as the Legislature chooses to give it,” Galvin said of the AGIA tax incentive.






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