Voices from the Flats – Ethan Berkowitz
Ethan Berkowitz served in the Alaska House of Representatives from 1996 to 2006 as a Democrat. Eight of those years he served as the House Minority Leader. He ran for Lt. Governor with Tony Knowles in 2006, and for the U.S. House of Representatives in 2008. As a state legislator he won national recognition for his distinguished service to Alaska, and championed many issues including fiscal responsibility and energy policy. He is currently an Alaskan Democratic gubernatorial candidate.
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How We Can Eliminate Oil Taxes and Stimulate Production: The 100% Solution
by Ethan Berkowitz
Debate about Alaska’s oil and gas revenues has been too much about short-term gain and not enough about long-term interests. The result is a system that fails to optimize outcomes for either the state or industry. Alaska can do better – we can have a system that reduces development risk, increases production and jobs, gives Alaska a fair share for our oil, enforces budget discipline in Juneau, strengthens the Permanent Fund, and takes the politics out of the state’s relationship with the oil industry. Doing better, however, requires a new approach.
Alaska receives oil revenue from two main sources – royalty (generally, the state’s 12.5% share from an oil field) and severance (the selling price for the oil “severed” from the state). Historically, debate has focused only on severance.
When the old severance method, ELF (Economic Limit Factor), faltered, Frank Murkowski replaced it with PPT (Production Profit Tax), followed quickly by Sarah Palin’s ACES (Alaska’s Clear and Equitable Share). Both PPT and ACES are essentially corporate income taxes, built around “net profits”, and both captured revenue for the state during this recent time of high oil prices. But long-term, revenue depends on production as well as price, and we need a system that does a better job encouraging production.
That’s why it’s worth examining a “no severance, royalty-only” solution: Eliminate ACES entirely and replace it with a field-by-field royalty structure.
Every broadly written tax code, including ACES, shoehorns all taxpayers and all ventures into a “one size fits all” tax system. A customized system recognizes the unique costs and challenges of developing individual leases. It provides the flexibility needed to accommodate the range of economics confronting various Alaskan oil and gas projects, spanning from heavy oil to natural gas, and from Cook Inlet to the North Slope. That flexibility will spur investment and development.
A 100% royalty solution more closely aligns the state’s interest in revenue and industry’s interest in production, and also features several significant attributes:
• Fiscal certainty for industry — royalty rates are contractual, negotiated between the state and the leaseholder, which insulates rates from legislative changes. A good contract protects both parties by containing “reopener clauses” to address changed circumstances in the future. In addition, by reflecting field specific incentives, ramp-ups, and individual field economics, a contract minimizes risk, increasing potential for development.
• Fiscal stability for the state – declining oil production seriously threatens the revenue stream needed to sustain state budgets, and the jobs and businesses that depend on development. And moving away from severance-based revenue gets state government away from boom-and-bust budgeting, and institutionalizes fiscal discipline.
• Grows and protects the Permanent Fund – the Constitution requires that 25% of all royalty (by statute, 50% for new fields) be deposited into the principal of the Permanent Fund. Under an all-royalty system, a portion of the money that now goes into the general fund would go to the Permanent Fund.
It is also important to depoliticize implementation and management of the oil revenue system. That’s why a specifically designated, independent commission, one beyond the control of the governor and the legislature, should have responsibility for negotiating new leases, renegotiating existing leases and handling operations of the 100% Solution. As Alaskans know through our experience with entities like the Permanent Fund or the Board of Fisheries, elected officials should set policy, but in matters involving complex issues, the people of the state are better served when experts and professionals, not politicians, implement those policies.
Oil is so central to the state’s economy that basic responsibility compels on-going review of our revenue sources. Standing still in a changing world is a recipe for falling behind. Doing what we have been doing – relying on a net profit tax — is, at best, standing still and does not adequately advance Alaska’s competitiveness. In a post-recession economy, facing a rising global tide of demand for energy, it is not “more of the same”, but bold innovation that will lead to a secure, independent future for Alaska.
Where is the ‘comments’ action for today’s ‘well noted’ open thread ?
@ Dowl. In the picture, at the top…in tiny print. Or you can go to the sidebar and click on open thread to get in that way. ———>
Good post on oil and taxes. I never really understood what ACES was exactly, so thank you.
“…elected officials should set policy, but in matters involving complex issues, the people of the state are better served when experts and professionals, not politicians, implement those policies.”
How eloquently stated, Mr. Berkowitz, and true here in my state, as well.
Unfortunately, a tax that’s individually negotiated from lease to lease sounds like THE most corruptible process imaginable, even if it is handled by an “independent” commission. Imagine if you will, that oil interests influenced the make-up of that commission, and then slap yourself if you think that wouldn’t happen. Repeatedly.
While I like and support Ethan, this proposal seems like it would be an administrative nightmare, open to fraud, deceit and graft. Unless I do not fully understand what is being proposed, I foresee a constant battle between oil producers and the government regarding the royalties for each field. This just seems as though it would be so open to corruption.
JP and Judi make some good points regarding the potential abuse. However, not sure I’d be ready to toss the baby out with the bathwater. The concept seems solid, but maybe we should look at ways to minimize the potential for abuse. It does make sense that different fields, depending on the cost of extraction, would need to pay a different level of royalty, and it does seem like a more stable long term approach then what we have experienced.
Having been a guest at the SWAMC Governor Candidate Forum about a week ago where I got to hear just a tad bit of this idea from Mr. Berkowitz. He did not want, nor have time, to go into details about this possible ‘solution’.
I am, like many others, extremely concerned about how the process might be open to influence and corruption, as I feel much of our states’ dealings seem to be.
I do not want to discourage this thinking ‘out of the box’ as I believe we need much more of these types of ideas to help bring solutions to our issues in Alaska.
Let’s work with Mr. Berkowitz to see if we can develop something from this idea that will give Alaska some stability and growth.
Getting the opportunity to listen to all the candidates, except Gov. Parnell who did not seem to be able to make it, gave us all in the room a chance to listen and learn.
This state has so many issues that need attention I am hoping the voters will demand some hearty discussions, more thinking out of the box, and full participation by the citizens so we can move forward on the needs of this state, lead by someone who has a clear mandate.
Am I the only one that doesn’t think this makes any sense?
The whole idea behind PPT and ACES was that they were profit-based systems, intended to provide flexibility around the economics of any given field. I.e., when oil production becomes more profitable, the state makes more money; when it becomes less profitable, the tax rate (and hence state revenue) scale down. And that is all based on PROFIT – not gross revenue. Key point here..
To say that ACES “shoehorns all taxpayers and all ventures into a “one size fits all” tax system,” is rather misleading, since the whole point is to provide the flexibility that EB seems to be saying we need.
The irony of what (I think) is being proposed here, is that the production tax is actually the more “progressive” of the two revenue streams. The current royalty is actually very regressive – very similar to the ELF tax which PPT and ACES replaced.
By eliminating ACES, the suggestion is that the state would renegotiate new royalty agreements for each lease to make up for the SIGNIFICANT revenue giveaway. In that case, I can only see two options:
1. Negotiate new royalty agreements under the existing royalty structure. The problem with this is that, because of their ‘regressive’ nature, you would achieve the exact opposite of the objectives discussed above. (Incentive new exploration and development/ more revenue to the state, etc.) What’s more, current royalty agreements ARE currently negotiated with the state and supposed to account for field profitability. The “re-opener” provision seems to be the only part of the proposal which is different from the status quo.
2. Negotiate new profits-based royalty agreements. This is essentially what ACES is, whether you want to call it a “tax” or a “royalty” or whatever. Like I said before, ACES is actually the more progressive of the two, so if you really wanted to do all the things EB is talking about, you would actually eliminate the royalty and keep a flexible profits-based system like ACES.
While the re-open provision is somewhat intriguing, I would actually be surprised if the state doesn’t already do that. The part of that idea that doesn’t sit well with me is that by making it incumbent upon a producer to go and negotiate with a body – independent or not – every time field economics become stressed, creates an administrative nightmare that would only seem to make things less flexible and responsive.
EB’s argument for “Fiscal stability for the state” seems to imply support for the first of the two options. The only way you eliminate the “boom-bust” revenue stream is by taking a cut from the gross revenue of production. Not only is it a regressive and non-business-friendly idea, it doesn’t allow the state to share in the benefits of really profitable times like we did last year.
I love EB, but I gotta say, it’s hard to tell what’s really being proposed. Maybe there’s something more to it.. I guess I’d just need a lot more detail to feel like he had any merit.
For anyone interested, it turns out the Department of Revenue just put out a report on the ACES tax, which provides a little better overview of how the tax works:
http://www.revenue.state.ak.us/1-14-10%20ACES%20Status%20Report%20final2%20%283%29.pdf
It seems like there is a lot of concern about corruption — and given what’s gone on in Alaska, there should be. Having sat through an oil tax debate tainted by actual influence peddling and bribery, I am very sensitive to the need for a pure process. I will point out that scandal plagued the oil debate that led to PPT and ACES, and that critics of both PPT and ACES highlighted concerns about gaming a “net profits tax”. I also think that there are a lot of conduct models available to insure that the independent commission would operate cleanly and ethically — look at the Board of the Permanent Fund for example.
As for concerns about administrative complexity, the suggestion I’m making reduces the component pieces of an oil tax system from two (royalty and severance) to one (royalty only). While transition to a new system necessarily involves some interesting decisions, a royalty-only system has fewer moving parts than ACES (and the complexity of ACES means that implementing regulations are still being written for that law). I do hope that my suggestion leads to innovative solutions for the issues that have been raised. Thanks for taking the time to be part of the discussion.
As a non-Alaskan, I find that I have some issues with Mr. Berkowitz’s thinking. My concerns are not related to the relative revenue-generating efficiency of ELF or PPT or ACES or Mr. Berkowitz’s proposed field-specific royalty-only method.
My concern is that any scheme which focuses on maximizing the annual revenue to the State of Alaska is likely to work to the detriment of the national interest of the United States (the other 300M of us). Maximizing revenue means increasing production, which (1) holds down petroleum prices in the short term and reducing the pressure to change to alternative energy sources; and (2) depletes our (that’s all of us, the USA) best reserves of petroleum, which will — at some point in the future — still be critical as the base for petrochemicals, even after it is no longer a plausible fuel.
I’ve mentioned previously that I find the Permanent Fund and the PFD to be obnoxious. No Alaskan created the oil, and easily 50% of the state’s population moved there (including kids born there) after the oil started to flow. I have no problem at all with taxing the bejeezus out of oil companies, but when all the taxes flow to the benefit of a bit more than 0.2% of the national population, I’m very concerned that their self-interest may not align with that of the other 99.7%+ of us. I am not thrilled to see a politician, who has been portrayed as a liberal thinker, advance a proposal which has as its sole rationale “maximising revenue to Alaska”. I don’t really care if it’s an effective proposal — I think the premise is fundamentally flawed.
The money should go to the native population.
Longime Mudflats fan/lurker/Alaskan, first-time commenter, compelled to reply to a couple of comments.
Strangelet: Please consult some maps that show land ownership, the Alaska constitution and the Alaska statehood act. You will find that the state of Alaska (not the U.S. government/American people) own the land and the mineral rights where almost every drop of Alaska oil is produced. It would be irresponsible and immoral, not to mention explicitly in violation of the Alaska constitution, for the Alaska government to fail to secure maximum benefit — including maximum revenues — for the people of Alaska from the nonrenewable resources that are extracted from the Alaska peoples’ property. This is, indeed, the state’s oil. To fail to get maximum benefits would be giving away a public resource to corporations (Mining Act of 1872, anyone?). Just as the federal government should get maximum benefit for the American public when oil and other resources are extraced from federal lands, the Alaska government has the obligation to get maximum benefit for the Alaska public when oil and resources are extracted from state lands. Unfortunately, this doesn’t always happen, to the great detriment of the public and the great benefit of powerful and sometimes irresponsible corporations. In Alaska, it is this resource revenue that pays for our schools, public safety and other essential services. Permanent Fund? Not unique to Alaska. Many natural resource-producing states, provinces and nations have similar funds to save money earned from extraction of nonrenewable resources for future times when those resources will be gone. It’s the responsible, forward-thinking thing to do.
PFD? There are compelling arguments pro and con, but bear in mind that the PFD — from investment earnings on a fund that was created from Alaska’s oil-royalty income — is cited as one of the major reasons for Alaska’s relatively low poverty rate. It’s very important to low-income Alaskans. For rich Alaskans, not so much. For a better grasp of why the fund and the dividend were created and the philosophy involved, I suggest you read some of the writings of Jay Hammond, an Alaska governor who was pretty much the opposite of SP in every possible way.
To Jim Keating: I think you’re about about 39 years late to the discussion (Alaska Native Claim Settlement Act of 1971). First, Native people do share in the revenues because all state residents are considered equal owners. Second, Alaska Natives have their own lands and mineral rights (ANCSA), from which they DO get royalties when minerals are extracted (See: Red Dog Mine and ASRC North Slope oil royalty)
On the surface, this plan seems to have its merits, but it also feels as though the state would be putting all its eggs in one basket. The current system at least has two revenue streams (royalties and severance). If the severance price were to go sky high, I’m sure people would be having regrets about a royalty-only plan.
@strangelet- Your observations are valid. I lived in Alaska for three years and felt the PFD entitlement was really weird. I only qualified one year (2007), which happened to be the biggest year ever, thanks to Sarah’s Energy Bonus. I gave my entire post-tax windfall to Alaska non-profits. It wasn’t my money. But it would be impossible to wean most Alaskans from the PFD.