Ballot Measure 1: Hotly contested oil tax proposition is latest salvo in long-running battle over Alaska’s oil taxes

Alaskans have been arguing about oil taxes since the big North Slope fields went into production 43 year ago. The Legislature has hiked taxes several times when legislators felt the state wasn’t getting a fair share, and then backed off and modified the tax at other times to stimulate industry activity.

The latest version of this fight is the “fair share” voter initiative on the November general election ballot. If passed, Ballot Measure 1 would more than double the state production tax on the three largest North Slope fields.

That may sound drastic, but the proponents of BM 1 argue these big fields are making money even at today’s low prices and that the state hasn’t getting a fair share since the Legislature passed a controversial change in the state oil production tax in 2013, in Senate Bill 21.

Oil and gas taxes are complicated and Alaska’s tax system is one of the most complex in the world, according to IHS Markit, an international consulting firm affiliated with Daniel Yergin, a well-known global oil analyst.

Opponents to BM 1 say it would make it even more complicated by having some oil fields subject to the higher tax and others not. Much of the ballot proposition is vague in its wording, and there are many ways the language could be interpreted by both the state Department of Revenue and oil companies trying to comply with the tax.

This is a recipe for disputes and lawsuits, at least until the revenue department writes regulations or there are court decisions on how the law should be implemented. The regulation-writing process, and litigation, would play out for some time, perhaps several years.

What BM1 does

Here’s what the proposition does, among many things:

At current oil prices Alaska is under a minimum four percent gross production tax. That means the tax is paid on gross revenues as calculated at the oil field with no allowance for production costs or capital expenditures in the field.

BM 1 would increase the gross tax from 4 percent to 10 percent, and then 15 percent if oil prices increase beyond a certain threshold. This would be only on the three largest North Slope fields, Prudhoe Bay, Kuparuk River and Alpine. The tax is on any oilfield producing 40,000 barrels a day or more, and which have produced a cumulative 400 million barrels over their lives.

Proponents of the ballot measure say this would add about two dollars per barrel in costs for the biggest North Slope field, Prudhoe Bay. At current prices Prudhoe’s profits should be enough to afford that, said Ken Alper, a former state tax director who supports BM 1.

Using data reported by Prudhoe Bay producer companies to the state, per-barrel “lifting” costs in the field were $17.11 per barrel in 2019, Aper said. If about $8 per barrel is added for transportation costs (for pipeline and tanker charges) to get oil to customers at West Coast refineries, the cost reached $25.13 per barrel.

“The producer also needs to pay property tax, which is about $1.50 per barrel, and production tax, which is 4 percent of gross (revenues), so that is about another dollar.

“That is your break-even cost for Prudhoe Bay production in FY2019. So comfortably, they should at least not be losing money at $30 per barrel,” Alper said in an email. Oil prices are now in the $40-per-barrel range.

Alaska’s oil profits higher than in Lower 48?

Proponents of BM 1 argue profits on the North Slope are much higher than companies earn in Lower 48 oilfields. But this is misleading, says Rogers Marks, a retired state petroleum economist.

Under the current tax, the percentage of pre-tax profits that is paid to the government through all taxes and royalties is competitive with other Lower 48 states. Under the initiative it would be much higher.

“In most other places, production operations are about half and half oil and natural gas. Oil has higher value. Gas has lower value. Alaska production is about 100 percent oil. Their per unit profits are a blend (between the value of oil and gas). Blending (the two) dilutes the high value oil,” which makes the Alaska production, which almost all oil, look more profitable than the Lower 48, which is half low-value gas.

“You can conclude Alaska is the most profitable place on earth to do business, but what you’re not comparing oil compared with oil,” Marks said. “And how could Alaska be more profitable (than other states)? The transportation (pipeline and tanker) costs alone here are $9 per barrel more than in, say, Texas. Alaska is a remote and hostile work environment. The consulting firm Wood Mackenzie recently pegged Alaska’s costs at $20 per barrel more than the Lower 48,” Marks said.

Negative effects across the slope

Independent analysts say there will be big negative effects across the slope on other fields and new prospects. Parker Fawcett, oil supply analyst at Platts S&P Analytics, a Standard and Poor’s company, estimates the ballot measure would increase per-barrel taxes by two to five dollars a barrel and that it would make Alaska’s oil taxes the highest in the world. That in turn would reduce the ability of Alaska companies to attract investment for new oil development.

It would also create perverse incentives for companies to restrain production so that new fields being planned could not come under the tax, Fawcett said.

For example, ConocoPhillips would have an incentive to delay development of Fiord West, a medium-sized new project planned in the Alpine field. Although Fiord West could produce about 20,000 barrel per day, at peak, it is located within the larger Alpine field where the new tax would apply, so all projects within the Alpine field, regardless of their size, would pay the tax.

Similarly, Hilcorp Energy would have an incentive to limit an expansion of its Moose Pad project in the Milne Point field because increasing its production to over 40,000 barrels per day, which is planned, would trigger the tax increase under BM 1.

ConocoPhillips’ Willow project, in the National Petroleum Reserve-Alaska, and Pikka, being planned by Oil Search near the Colville River, are expected to produce over 100,000 barrels per day each and would fall under the new tax.

While the tax would not hit until these fields reach 400 million barrels in cumulative production, they would do that in a few years. In making an investment decision companies would factor in the higher tax for part of the field’s production life, and it would likely be the later years when production has declined, and costs are rising.

At a $45 per barrel oil price, BM 1 would bring $373 million in added state revenue

Meanwhile, how much revenue would be new tax bring in? Estimating the effects of the proposition is difficult because parts of it are vague and will need clarification through regulations or amendments by the Legislature However, the state Department of Revenue has developed at least one set of interpretations and modeled the effects.

In an Oct. 2 presentation to the Finance Committee of the state House, the department said its estimates show that at a $45 per barrel price for North Slope oil the ballot measure would bring in $373 million in additional revenue, a 196 percent increase over the current tax.

At $55 per barrel the ballot measure, if passed, would bring in $586 million, a 225 percent increase. If prices were to rise to $75 per barrel, which seems unlikely in the near term given current trends, the ballot measure would bring in $1.06 billion, a 223 percent increase over what the current tax would bring.

Under BM 1, the state’s share of net revenues would be 62 percent; the producers’ share would be 30 percent, and the federal tax share would be 8 percent. At $55 per barrel the state share drops to 56 percent; the producers’ rises to 33 percent and the federal share rises to 9 percent.

IHS Markit predicts state share of production net revenue at 100 percent under BM 1

In another estimate by IHS Markit, the consulting firm, under current law the state share of net revenue is 82 percent at a $35 per barrel oil price (estimates under a $45 per barrel price was not published) BM 1 would increase the state’s share of income to over 100 percent, leaving no profit for producers on investments.

This means producers would make no return on drilling a new production well or improving production facilities to lower costs. Without additional drilling (most drill rigs on the slope are now laid down) the natural decline in production of the large fields will accelerate.

Did SB 21 shortchange Alaska?

Meanwhile, what fueled the BM 1 proposition was a feeling among many Alaskans that SB 21, passed in 2013, shortchanged the state. A particular point of controversy is a per-barrel production (tax credit) given producing companies as an incentive to produce more oil.

State Sen. Bill Wielechowski, an Anchorage democrat, argues the extra incentive isn’t needed and has cost the state about $1 billion a year. Wielechowski has proposed bill for several years to repeal that section of SB 21 but the legislation did not pass.

Robin Brena, an Anchorage attorney who has led the effort on BM 1, said, “Our three major fields have been producing oil for decades without credits. These SB 21 credits are simply corporate welfare.

“In the Prudhoe Bay Unit in 2018 alone, these welfare credits reduced our production taxes from $972 million down to $230 million or by $742 million,” he said.

The production tax credits aren’t really tax credits so much as a mechanism to reduce the tax burden as an incentive. They shouldn’t be confused with another tax credit the state has offered, which has since been repealed. This is the refundable tax credits paid to explorers and companies, who are not producers, as incentives to explore and find more oil.

The major producing companies are not eligible for the refundable tax credits and have never been paid for them, but there is confusion between the two among supporters of BM 1.

Brena and others say Republican leaders in the Senate bottled up Wielechowski’s bill, which is why his group decided to bypass the Legislature with a voter initiative. “This is direct democracy in action,” Brena said during one of the debates over the ballot proposition.

Signatures on petitions were gathered sufficient to get the proposition on the November ballot, and the effort survived litigation aimed at disqualifying the proposition.