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Alaska’s tax formula an ongoing debate State’s average crude oil production tax rate continues to decline due to the Economic Limit Factor formula adopted in 1989 Larry Persily Petroleum News Juneau Correspondent
The holiday season is over, but at least one ELF is still working in Alaska.
The ELF, or Economic Limit Factor, is a formula in state statute that reduces a field’s oil and gas production tax rates based on the average daily total production and average per-well production from a reservoir.
The current formula, adopted by the Legislature in 1989, was intended as an incentive for producers to keep pumping — and investing — in older, declining fields. The 1989 amendment looked ahead to declining production at the giant Prudhoe Bay field and boosted short-term tax revenues to the state in exchange for cutting the rate in later years of the field’s productive life.
Meanwhile, smaller and newer fields, even with their higher per-well productivity, benefit from the ELF formula, too, because their total daily production from all wells gives them a low tax rate — or no taxes at all in many cases. No field in Alaska pays the full rate Alaska’s full production tax rate is 15 percent of the wellhead value of the oil, but there isn’t a single field in Alaska paying the full rate. The ELF formula assigns each field a value between 0.0 and 1.0, which is then multiplied against the 15 percent rate to determine the field’s actual tax rate. There is a separate ELF formula for natural gas production.
Prudhoe Bay’s oil ELF in August 2003 was 0.857, for an effective tax rate of 12.86 percent.
The tax break for declining older fields and new, smaller fields — especially the satellite fields around Prudhoe Bay and Kuparuk — has been bringing down the North Slope’s overall tax yield to the state for the past 10 years.
The average tax rate for all North Slope production in fiscal 1994 was 13.5 percent. The Department of Revenue estimates the average tax rate will be 7.6 percent in fiscal 2004, falling to about 6 percent in 2008 and under 5 percent by 2013. Tax revenues falling faster than production A department review in 2001 noted that North Slope production fell 34 percent between 1990 and 2000 yet, because of the ELF formula, production tax revenues dropped 53 percent when calculated at the same price for each year.
Production taxes will supply about one-third of the state’s total take from oil and gas fields in fiscal 2004, with royalties, property and corporate income taxes providing the other two-thirds of the estimated $1.7 billion general fund revenue.
Supporters of the ELF formula say it’s not the average tax rate or even the total dollars but the total production that counts, arguing that without the lower taxes there would be less oil coming off the slope. The ELF formula does not diminish the state’s royalty share.
“ELF is working exactly as was planned, extending the life of older, mature fields like Kuparuk,” said Dawn Patience, spokeswoman for ConocoPhillips in Anchorage. “ELF has also encouraged the development of several satellite fields surrounding Kuparuk over the past five years (Tarn, Tabasco and Meltwater), which account for more than a third of Kuparuk area production today.”
BP is equal in its praise. “It is not a perfect system but has done what it was intended to do — support development that is burdened by low production rates at a high relative cost,” said company spokesman Daren Beaudo of Anchorage.
“The North Slope is a high-cost, low-margin oil and gas basin characterized by a resource base of declining quality,” Beaudo said. “High-cost, low-margin developments are beneficiaries of the current ELF formula.”
He cited heavy oil as an example of North Slope production benefiting from ELF. Flow from the slope’s heavy oil operations at West Sak and Schrader Bluff is estimated at a combined 31,000 barrels per day in fiscal 2004, up from 18,000 barrels a day in 2002. There is no production tax on either field.
ExxonMobil declined to comment on ELF. No legislative action to change ELF Proponents of changing ELF have debated for the past few years whether the state is seeing more production because of the lower tax rates but have never introduced legislation to amend the formula, other than a single bill that quickly disappeared during the past legislative session.
Rep. Beverly Masek, a five-term Republican, introduced a bill on May 6 to eliminate ELF, meaning all mature production in Alaska would have been charged the full 15 percent tax rate. Then, just 24 hours later, she withdrew the measure.
Not only did Masek fail to attract a single co-sponsor for her bill, but she managed to draw four committee assignments from the House speaker — a sure political sign that the measure likely would have died of old age before ever getting to the House floor for a vote.
Masek, from Willow, north of Anchorage, will serve as co-chair of the House Resources Committee this session. She did not return calls for this story.
Meanwhile, a freshman Democrat, Anchorage Rep. Les Gara, is working on his own bill to change the formula.
“It has been said within the Department of Revenue for a long time that many of the satellite fields are profitable enough to pay a production tax,” Gara said, explaining he is looking at whether a price factor could be added to the ELF formula. The state could share the risk at low prices and, in return, earn a larger take at high prices. Freshman legislator considers minimum tax rate “I am considering whether it is responsible to set a minimum tax rate,” he said.
And though Gara is working on his bill, he doesn’t know when it might be ready for introduction. “I want it to be responsible enough so that it doesn’t slow down oil development.”
Development of new fields has helped slow down the rate of decline on the North Slope, keeping total production around 1 million barrels a day since 2000. But the price to the state has been falling production tax revenues.
The state collects no oil production taxes or a very small fraction of a percent from several North Slope fields that averaged a total of 136,000 barrels a day in fiscal 2003, according to Department of Revenue numbers: Milne Point, 34,000 barrels; Endicott, 26,000; Schrader Bluff, 17,000; Niakuk, 14,000; Lisburne, 9,000; Aurora, 8,000; Meltwater, 8,000; Midnight Sun, 7,000; West Sak, 6,800; Tabasco, 3,600; and Polaris, 2,600.
“The ELF reduces the tax rate on smaller oil fields such that most fields producing less than 20,000 barrels per day will pay little or no production tax,” the Department of Revenue said in its December 2003 state revenue forecast book. Only seven fields pay more than a 1% tax rate Unless it’s a very large field or a very productive field, the tax rate will be zero or close to it, state Tax Division Director Dan Dickinson told a gathering of oil companies invited to Juneau to meet with the governor and other state officials last month.
And while some of the slope’s smaller fields probably would not have been developed if they had to pay the full 15 percent tax rate, Dickinson said, it’s also likely that some would have gone ahead at a rate higher than the zero they are charged.
“Did they need the magnitude of the incentive they got, that’s a much tougher question,” he said.
“Despite its name of Economic Limit Factor, it ignores the biggest single economic determinant, which is price,” Dickinson said.
Other than Prudhoe Bay’s almost 13 percent tax rate in August 2003, the only other North Slope fields with a double-digit tax rate are Northstar, at almost 12.5 percent that month and an estimated average daily production this year of 66,000 barrels, and Alpine, at about the same tax rate for its estimated 2004 production of 99,000 barrels per day.
Kuparuk, Borealis, Point McIntyre and Tarn pay between 1 percent and close to 3.5 percent, with everything else below 1 percent. Kuparuk benefits from ELF formula Perhaps just as controversial as the zero tax rate for new and satellite fields is the rapidly declining tax rate for Kuparuk, the second biggest oil field in the nation — Prudhoe is No. 1. The Department of Revenue expects Kuparuk will average 155,000 barrels a day this fiscal year, half its peak in 1993.
Kuparuk, which went online in 1981, is populated with less efficient wells, which, because of their lower per-well productivity, means a dropping tax rate for the entire field under the ELF formula. Kuparuk producers paid a 3.3 percent tax rate in September 2003, according to the Department of Revenue. ConocoPhillips, at 55 percent, and BP, at 39 percent, are the majority owners.
Department of Revenue projections in 2001 estimated that Kuparuk’s oil flow will still be above 100,000 barrels a day in 2010, but its tax rate will be zero. “The field is forecast to keep producing 10 years beyond that. Is the ELF going to zero sooner than it needs to ensure maximum production?” the department asked in its December 2001 state revenue forecast book.
ELF is as old as the trans-Alaska oil pipeline itself, dating back to 1977 when the Legislature raised the top oil production tax rate from 8 percent to 12.25 percent while also adopting a formula to reduce the rate on less productive fields. Then, in 1981, while eliminating the personal income tax Alaskans had paid since 1949, lawmakers raised the top oil production tax rate to 15 percent.
The big battle came in 1989, when legislators voted to amend the ELF formula after realizing the state’s take from Prudhoe Bay was slipping faster than many had envisioned. The intent was to boost the state’s immediate share of Prudhoe Bay revenues, a politically popular move after the oil price crash of 1986-1987 and the Exxon Valdez oil spill in March 1989.
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