Oil & Gas
A Barrel and a Hard Place
An overview of the state’s fiscal dilemma and the implications of Ballot Measure 1
By Danny Kreilkamp

f there was one takeaway from the Anchorage Economic Development Corporation’s (AEDC) latest installment of its Outlook Report, it would be a theme of uncertainty.

As Alaskans, uncertainty is something we should be pretty comfortable with by now; our economy has witnessed, and firmly situated itself around, the rise and fall of oil prices since the first major commercial development on the Swanson River in 1957.

While any sort of economic prediction contains its share of variability and a certain degree of doubt, AEDC’s verdict on the role that the oil and gas industry will play in overcoming our recession is especially unclear—and understandably so. The recent plummet in the price of oil, currently hovering around $40 per barrel, means that the portion of state revenue captured by the tax it collects on the industry—accounting in previous years for as much as 90 percent of the state’s Unrestricted General Fund—will be insufficient alone to continue funding state services. And with additional uncertainty regarding the potential implications of Ballot Measure 1 lingering around the corner, Alaska finds itself in a tricky situation.

Fiscal Fiasco
Economist Mouhcine Guettabi helps break down the state’s fiscal dilemma.

“Obviously, the state economy was in a recession for three years before moving into positive territory in 2019,” says the UAA associate professor, referencing the recession that followed a dramatic and drawn out drop in oil prices and resulted in the loss of roughly 12,000 Alaska jobs. Despite a positive turn for the economy in 2019, state budget deficits continue and have been impacted again, in part, by lower oil prices at the onset of COVID-19.

Guettabi says the state has options to cover the deficit.

One of them is to overdraw from the permanent fund savings account—not exactly the sustainable solution Jay Hammond envisioned when developing the social wealth fund back in ‘76. But while this solution would give the state some time—perhaps a few years or so until the remaining $11 billion savings reserve runs dry—Guettabi believes this would simply be “kicking the can down the road,” and the state would still have to hope for a miraculous increase in oil prices in the near future.

“There are no cash credits remaining in the State of Alaska—period. The per barrel credit is part of the tax calculation, it is not a cash payment. In this price environment, there are no per barrel credits because they only apply when we’re in a net production tax system, not when we’re in the gross production tax system.”
Kara Moriarty, President/CEO, AOGA
Guettabi says another option is to do what Governor Mike Dunleavy tried to do last year: implement drastic cuts to bring down expenses in line with revenues. Or, Guettabi continues, the state can increase revenues.

“When we say revenues, we mean income tax, sales tax, potentially an oil tax or some combination of those,” he says. “It seems as though some combination of all of those things would need to be done in order to balance the budget, not just for a year but for multiple years.”

How exactly the state goes about such a balancing act remains to be seen, but there are other workings at play that may seriously influence the process. Ballot Measure 1 aims to change the state’s oil tax structure for the eighth time in nearly twice as many years.

Taxes and More Taxes
Kara Moriarty is the Alaska Oil and Gas Association’s (AOGA) president and CEO. With fifteen years of experience in the industry, and nearly a decade’s worth in her current role, Moriarty is well versed in the different ways Alaska brings in revenue from the oil and gas industry. According to Moriarty, the industry provides state and local governments with four main revenue streams.

The royalties paid by the companies leasing state land is one way. And an important thing to note, Moriarty says, is that 25 percent of all royalty payments are required to be deposited into the permanent fund, which remains the largest cash contribution to the savings account each year.

“The industry pays a royalty, which is negotiated at the time of the lease sale and repays royalties to the owner on the value of the oil. All of the royalties in Alaska are paid to the state,” she says, noting that about 98 percent of production comes from facilities on state land.

The royalty rates paid to the state vary—original rates were in the 12.5 percent range whereas more recent agreements are high as 16 percent or more, she says.

Moriarty explains that the state can also elect to insert a clause into the lease that allows it to receive its payments as a “royalty in kind” or “royalty in value.” The former sees the state take physical possession of the commodity, while the latter—and more common variety for oil in particular—keeps physical possession and the marketing burden with the lessee, allowing the state to claim a percentage of production in the form of a cash payment.

Corporate income tax, which is based on a worldwide apportionment and can fluctuate, and property taxes are two other ways the state captures revenue from the oil and gas industry. Moriarty says that since property taxes are based on property value, they are relatively static and less responsive to changes in price from year to year.

And finally, the largest portion of the state’s revenue and fiscal system—and a key element of Ballot Measure 1—is the production tax. According to the Alaska Department of Revenue, the production tax as currently structured acts as hybrid net/gross system: the tax is based on the net value of oil and gas, which is the value at the point of production multiplied by taxable volume, minus all lease expenditures.

When the Alaska State Legislature passed Senate Bill 21 (SB21) in 2013, the production tax oil companies pay was raised from a base rate of 25 percent on the first $30 of net profits per barrel (plus a 0.4 percent increase for each additional $1 rise per barrel, maxing out at 50 percent) to a base rate of 35 percent on net profits per barrel with no additional increases. But SB21 also enacted a “per-barrel credit,” something Moriarty is quick to differentiate from the cashable credits initially created by the Petroleum Production Tax in 2005.

“There are no cash credits remaining in the State of Alaska—period,” Moriarty says. “The per barrel credit is part of the tax calculation, it is not a cash payment. In this price environment, there are no per barrel credits because they only apply when we’re in a net production tax system, not when we’re in the gross production tax system.”

“When we say revenues, we mean income tax, sales tax, potentially an oil tax or some combination of those. It seems as though some combination of all of those things would need to be done in order to balance the budget, not just for a year but for multiple years.”
Mouhcine Guettabi
Associate Professor of Economics
“When SB21 was passed, they [the Legislature] recognized that if prices were ever to drop low, there’s no way that was sustainable,” she says, explaining that the structure also contains a mechanism where at a certain price point companies switch to paying a 4 percent minimum gross tax across the board. “This way, if oil prices were ever to get so low and you’re not making any money, the state would still always have some form of production tax revenue coming in,” Moriarty explains.
Ballot Breakdown
A vote yes for Ballot Measure 1, coined “Alaska’s Fair Share Act,” would increase taxes through either an alternative gross minimum tax or an additional production tax—whichever is greater for each month and each field affected. As per the initiative’s statute, the fields affected must be located above 68 degrees latitude north in Alaska; have a lifetime output of at least 400 million barrels of oil; and had an output of at least 40,000 barrels per day during the preceding calendar year.

Arguments for the revised tax mechanism stem from a general sense that Alaskans are not being fairly compensated for the state’s most prized resource. One of the campaign’s most vocal proponents, largest contributor, and chair—Robin Brena—said the following in a conversation with Alaska Public Media:

“The bottom line here is we’re getting nothing in production taxes, and we haven’t gotten anything in five years, and it’s long overdue for us to get something out of our production tax scheme.”

Opponents have not been shy in their efforts to reject the ballot initiative. Leading the campaign against Ballot Measure 1 is OneAlaska—a diverse coalition of organizations including oil companies, Alaska Native corporations, and other Alaska businesses. The group, armed with a campaign expenditure that is exponentially larger than its counterpart, believes Ballot Measure 1 “goes too far and puts Alaska’s economic recovery at risk by jeopardizing existing and future jobs, new projects that will grow oil production, and state revenue.”

AOGA is one of OneAlaska’s largest donors, and Moriarty believes the ballot is the wrong place to enact a complicated tax policy, especially given the timing. But this certainly isn’t the first attempt to raise taxes on the industry—Alaska’s Clear and Equitable Share Act (ACES) of 2007 was in effect until SB21—and Moriarty is sure it won’t be the last.

“It’s nothing new that those who are behind Ballot Measure 1 think we can pay more in tax. I’ve been working for AOGA for fifteen years, and some of these folks have been on the bandwagon for as long as I can remember. A lot of them were behind the gas reserves tax in 2006, a lot of them supported ACES, and this tax is actually higher than the ACES tax was from 2007 to 2013—and I don’t remember anyone ever saying ACES wasn’t high enough.

“The folks behind this have long supported increasing taxes on the industry, and they have this fundamental belief that taxes can be raised and there won’t be any impact on investment and that’s just simply not the case. That’s not how simple economics work.”

Final Considerations
In 2013, UAA’s Guettabi participated in a retrospective analysis assessing the effect of ACES on development and unemployment. “We found, at least in the short run, there were no effects that we could identify of ACES on development or employment.

“Whether or not we can extrapolate? They’re obviously different ballot measures and different tax regimes; oil prices were much higher than they are now. So it’s tricky. There is a very big body of literature that looks specifically at the relationship between production and employment and how they respond to taxes—and the literature is mixed. And of course, it’s practically impossible to take some analysis that we’ve done about taxes or about a previous tax policy in Alaska and just stick it on to this one and say, ‘That’s how the industry is going to respond.’”

With an eye on November, Guettabi adds a few final considerations:

“The way I look at it is the following,” he begins. “There are some things that we do know—increasing taxes will raise more money for the state, but how sensitive production and employment will be to the tax change is unknown. Profits for oil companies would decrease. The tricky thing here is basically to determine the elasticity of the responsiveness of the oil companies to the tax hike, and what are the consequences in terms of immediate production and also future investment?

“And those are the margins that we can sit here and speculate about,” Guettabi says, noting the possibility that the tax hike wouldn’t be a deal breaker to some of the companies that are already investing here. “But you could also make an argument that the decline in profits may dissuade them from making other investments or may dissuade other companies from coming to the state. But anybody that tells you, ‘Absolutely, this is what’s going to happen,’—I think is overplaying their hand.”