Tuesday, June 27, 2006

Question No. 6 Of Natural Gas Pipeline Roundtable - Why The Extended Tax Freeze?

On June 7th, KTUU-TV's John Tracy met with Jim Clark, Joe Marushack, Bill Walker and David Gottstein to discuss the natural gas pipeline. By now, discussions of the 15 questions will have already aired on Channel 2's news programs. Channel 2's archives have since been dumped, but the account survives in this post, where you will see the report on the discussion of question #6.

The Panel: John Tracy, News Director of KTUU, serves as the moderator.

1). Jim Clark: Governor Murkowski's chief of staff and the state's chief negotiator. He represents the executive branch.

2). Joe Maruschak: ConocoPhillips' vice president of gas commercialization and one of the primary negotiators representing the producers.

3). David Gottstein: A financial analyst and a co-chairman of Backbone 2, a resource watchdog group.

4). Bill Walker: General counsel for the Alaska Gasline Port Authority, the organization promoting an LNG project (the "all-Alaska gas line") from Prudhoe Bay to Valdez. Since he's relying upon work done by Econ One for the legislature, he can be considered a "proxy" representative of the legislature.

Background: It's one of the most controversial elements of the proposed natural gas pipeline contract. In the interest of providing the oil industry with a measure of fiscal certainty, the state would agree to lock in oil and gas taxes for decades. The Legislature has already spent an entire regular session and one special session trying to agree to a new tax rate, without success.

Question No. 6: Why must the state agree to lock in oil and gas taxes for 30 and 45 years respectively?

Bill Walker responds: “This is a terrible provision. First of all it clearly violates the Stranded Gas Act. The Stranded Gas Act says you don’t change anything involving oil taxation or existing leases. So this provision is in violation of state law right now. It should never lock it in for that period of time. Ever. You know, I look at other contracts in other countries and it’s as though Alaska is a third world country”.

Joe Marushack responds: “First of all the state of Alaska has experience in locking taxes, if you will, down. Under our lease system right now, once you obtain a lease, the royalty is locked down for the life of that production. So really all we’re talking about, most of the value is created, about half of the value is created through the royalty system anyway. Then you’ve got the tax gas and you’ve got the income tax, and all we’re agreeing on those issues is to know what the rules of the game are both on oil and gas. And another thing when we talk about locking down, we’re talking about locking down oil now at a more than doubling of the severance tax rates”.

David Gottstein responds: “No, we shouldn’t do it. It’s an affront to out sovereign rights and represents another huge giveaway. The oil companies are trying to lock in low oil taxes on over a trillion dollars worth of oil remaining on the North Slope whether they build a pipeline or not. If the North Slope producers can't handle the risk of operating in a free and democratic society, subject to the will of the people and its elected representatives, then lets open it up to the free market bidding and find others who can”.

Jim Clark responds: “You can’t expect people to come in and do something where you can simply change the taxes on them overnight down the road and that was the whole purpose of the Stranded Gas Act, first passed in 1998, reiterated by the Legislature in 2003, was to provide fiscal certainty, among other things. So what we have done, as the Legislature directed, was to put together a negotiated business deal that got us a contract. We have a contract ready to sign, ready to go and all we need to do is finalize some things in the Legislature we can make this work and monetize the gas for the benefit of the Alaska people”.

John Tracy directs this question to Joe Marushack: “The Legislature is now looking at, this is one of the elements of the contract they’re having the biggest trouble with. They’re now considering re-openers places in time along the course of this timeline that perhaps they could re-open and take a look at changing the tax structure. Joe, how does ConocoPhillips feel about that? Is that workable, something you’re willing to consider?”

Joe Marushack responds: “First of all I think we’re always willing to listen to the Legislature, listen to the people and see if there’s some way of finding another win/win solution. If the contract goes forward, then we have fiscal certainty during this time period and so we know what the rules of the game are in taxes and how much more we’re going to pay, which is a lot more and how much the state is going to earn. The other side of that is (if) we don’t move forward with this contract, the contract gets rescinded and you have not locked down your taxes, you can do anything you want with it at that point in time”.

David Gottstein responds: “American corporations spend hundreds of billions of dollars a year investing in projects without the fiscal certainty that Jim Clark is referring to. I’m confident if we open it up to competitive forces, you will find what you are saying is exactly not true”.

Jim Clark responds: “To do what you're talking about means first we have to litigate to get the gas back and again your strategy is solely dependent on litigation. Litigate to get the gas back and then put all of the gas out to re-leasing. And how much time will it take A) to win in the litigation. B) To re-lease all of the gas and where would we be then, we’d be back to the business of trying to put together some kind of agreement”.

“You mean we shouldn't prosecute criminals because we don't want to go to court?” said Gottstein.

“Who's a criminal?” said Clark.

“Nobody’s a criminal,” said Gottstein.

Bill Walker responds: “This section is an unconstitutional section anyway. I’m not sure why we're giving so much focus on it because clearly it’s unconstitutional to take away the Legislature’s right to affect taxes for 45 years. I mean, I haven’t see a legal opinion yet that convinces me otherwise and I’ve seen multiple legal opinions that say this is very unconstitutional to take it away for 45 years. "This thing’s got litigation written all over it right here because this is clearly unconstitutional. Even the Governor admits that and says this will have to go to court determine it”.

Jim Clark responds: "Wait a minute. The Governor has never said this is unconstitutional, in fact he’s said exactly the contrary. We believe that it meets the requirements of Article 9, Section 4 of the Alaska State Constitution. The attorney general has so opined. You disagree. This will be a case of first impression. I think that it will go to court on that issue”.

Analysis: Regarding the constitutionality of the proposal, here's the text of Article 9, Section 4:

SECTION 4. EXEMPTIONS. The real and personal property of the State or its political subdivisions shall be exempt from taxation under conditions and exceptions which may be provided by law. All, or any portion of, property used exclusively for non-profit religious, charitable, cemetery, or educational purposes, as defined by law, shall be exempt from taxation. Other exemptions of like or different kind may be granted by general law. All valid existing exemptions shall be retained until otherwise provided by law.

I see nothing in the language barring the state government from making long-term adjustments in taxation, as proposed in the contract.

I can sympathize with the producers needing fiscal certainty. After all, this is similar in concept to a fixed-rate home mortgage. Homeowners seek such mortgages for the purpose of predictability. The real issue is the proposed length. Thirty years for oil taxes? Fourty-five years for gas taxes? The sheer length of time robs the state of the flexibility needed to respond to changing financial needs, even if it is based on a fixed percentage rather than a fixed dollar amount.

The Alaska State Senate recognized this problem, and on Tuesday June 6th, passed a bill limiting the freeze to a maximum of 25 years by a 12-8 vote. The House did not take up the measure prior to the special session adjourning, and Senator Kim Elton gave notice of reconsideration, meaning the Senate could re-visit the measure during their next session. Here's an excerpt from a report posted by AlaskaLegislature.com on June 7th:

Recognizing that most lawmakers oppose locking oil rates for such a long time, the Senate Special Committee on Natural Gas Development changed Murkowski's oil-tax freeze proposal.

1). There would be no tax freeze for the design permitting and phase of the pipeline project, estimated to last four years.

2). Taxes would be frozen during procurement, construction and the capital cost recovery phase, all of which is estimated to take 14 years.

3). For a period of time after that, the three companies' gas taxes could be adjusted if the Legislature changes their oil taxes.

4). From the contract's effective date, the fixed and adjusted tax period couldn't last longer than 25 years, under the provision.

Ultimately, the producers will have to shorten their proposed tax freeze period to make this contract happen. Joe Marushack of ConocoPhillips appears willing to be flexible.

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