Governor Palin, the Success of ACES, and the Defeat of Corruption--Part 1

One of Governor Palin's key pieces of legislation--Alaska's Clear and Equitable Share (ACES), legislation outlining a tax structure for oil companies-- has come under attack from Alaskan politicians, oil companies, and the press as a means of undermine Governor Palin's gubernatorial legacy. Over a series of posts, we will highlight the foundation and principles on which ACES was developed, the success in oil development the legislation brought, and the players involved in attacking the Governor Palin's cornerstone pieces of legislation.

Governor Palin's political career has been marked by a consistent efforts to rid Alaska of corruption, remove pervasive crony capitalism, and make government more transparent. Her proposal of Alaska's Clear and Equitable Share is an excellent example of her reaching all three aims. Under her predecessor, Governor Murkowski, the Petroleum Profits Tax (PPT), a oil tax scheme, was implemented. PPT taxed oil companies 22.5% of their net profits, compared to the 10% tax on gross revenues that was previously in place. A tax on net profits was intended to encourage development and production. However, this legislation had two major problems: corruption and failure to both bring in sufficient revenue and increase development.

The passage of PPT in September of 2006 was later found to be marred by extortion, bribery, and conspiracy. Three state legislators were indicted in May of 2007. Two of these individuals were later convicted and sentenced (one is still being dealt with in the courts) on corruption charges for their improper dealings with the oilfield company, VECO, in passing PPT. Governor Murkowski's chief of staff, Jim Clark, also later plead guilty to conspiracy for hiding campaign contributions to Murkowski's campaign from VECO. Prosecutors charged that that Clark used his position to push for the tax rate preferred by VECO--PPT. Suffice it to say, PPT's passage was tainted, which contributed to the Palin administration's reasons for re-visiting this tax structure. Additionally, Governor Palin tasked the Alaska Department of Revenue with evaluating PPT's generation of revenue and industry reinvestment. This report found that revenues were lower than anticipated (to the tune of $800 million lower), operational and capital costs were higher, and tax credits were not effectively spurring production and development.

Following this report, Governor Palin introduced a new tax structure that not only addressed the problems of the PPT, but also had its foundation in the Alaska state constitution, which states that resources must be developed for the maximum benefit of the people of Alaska:

The new plan, called Alaska’s Clear and Equitable Share, or ACES, is a hybrid of a gross and net tax system. It includes a minimum 10 percent tax based on gross receipts for the North Slope’s legacy fields with a 25 percent net tax to encourage new development and reinvestment in existing infrastructure. ACES also allows for tax credits on future work. It restricts capital expense deductions to scheduled maintenance and implements strong audit and information sharing provisions.

As James P. Lucier described in the Wall Street Journal, Governor Palin's plan accounted for fluctuation in oil prices and provided incentive for development:

As a new governor in 2007, Mrs. Palin stepped in to address the fiscal crisis and restore accountability. Working with Democrats and Republicans alike, she chose a 25% profits tax. But in lean years the state reverts to a 10% gross revenue tax on legacy fields that do not require massive continuing inputs of new capital.

Relative to the old system, Mrs. Palin's plan -- called "Alaska's Clear and Equitable Share" (ACES) -- improves incentives for developing new resources. It ensures the state does well in boom times -- as it is doing now -- when oil prices are high. But it also hedges against low prices in the future by ensuring that oil companies exposed to commodity price swings don't face a crushing tax burden when commodity prices fall.

Her plan includes an escalator clause that gives the state a larger share of revenues when oil prices rise. This is common to production-sharing agreements all over the world.

Governor Palin released a draft of the bill 17 days before the Special Session to enable both the legislature and the public to read the proposal prior to its discussion in the legislature. Her oil and gas team also held a series of briefings throughout the state prior to its discussion in the Special Session to allow the people of Alaska to be informed about the proposal. The bill was passed very easily in both the House and the Senate with bipartisan support before Governor Palin signed it in December of 2007. In signing this bill, Governor Palin removed the taint of corruption from taxation negotiation process and submitted a strong piece of legislation ensuring that the people of Alaska received their "clear and equitable share" as shareholders in the resources of the state.

One common misconception regarding this piece of legislation is that it is a windfall profits tax that hurts industry. In reality, such a tax is a severance tax, and its basis is constitutional. Rob Harrison addressed the former misconception in a post in June of 2009 in which he referenced a piece characterizing Palin's ACES legislation as a severance tax:

State severance taxes charged on production of oil and gas and minerals are common throughout the United States. Also sometimes called "production taxes," they're charged by the state from beneath whose land valuable resources are extracted, and they're designed not to punish the energy companies, but to recompense the state for its loss of a non-replaceable resource — one that must be quantified and taxed upon removal, if it is ever to be taxed at all. Severance taxes are therefore based on production from within the state, not on profits earned by the company extracting that production — even though the production may be measured in, and the tax assessed upon, the market value or gross revenues (as measured in dollars) received for that production, rather than an "in kind" delivery to the state in barrels or cubic feet as such. See, e.g., Tex. Tax Code §§ 201.051 & 202.051 (Texas production taxes on gas and oil respectively).

It is not a windfall tax, as championed by liberals to capture even greater revenue during periods of larger profits. Instead, it is a tax that is levied on production and the loss of a resource. The state revenues generated by ACES , just as its name states ensure Alaskans receive their "clear and equitable share".

More than three years later, why does this matter? It matters because Governor Palin's record continues to be either ignored, misrepresented, or attacked. Governor Palin's record is based on transparency and integrity, and she ensured that her administration did what was best for the people of the Alaska. When ACES was passed, it wasn't a result of undue influence from oil companies, but it wasn't a punitive tax aimed at the oil companies either. It was done in such a way that the people of Alaska received optimum benefits and the oil industry was encouraged to produce and develop. It has achieved those goals. Stay tuned for discussion of the success of ACES in boosting state revenue while increasing development, growing oil jobs, and allowing for a good business environment for both small and large oil companies.

Crossposted here, here, and here.