Friday, December 30, 2011

2012 Tax Initiatives Chapter 2:     The Truth and Mythology of Taxing Oil and Gas Well Production

Every recent proposal to institute a state severance tax on oil and gas produced from wells in California, whether in the Legislature or by initiative, has been defeated by the oil and gas industry.

Unfortunately,it is nearly impossible without extensive research to find every proposal made to institute a severance tax in California in the 20th Century plus the past decade. It would not be unreasonable to say that the proposals number in the dozens.

Nothing is ever simple about the subject of taxing oil and gas. California is the only major oil producing state that does not charge a severance tax. In a study done by the Franchise Tax Board and the Board of Equalization, it was determined that the combined tax burden per barrel of oil in California was $4.22 per barrel and in Texas was $14.33 per barrel.

Certainly the oil companies pull out all the stops to confuse the issue, even to the point of convincing California voters that a severance tax would result in an increase in the retail price of gasoline - a myth that would be downright silly except many adult Californians believe it.

Prior to 1978, California effectively used its property tax in lieu of a severance tax to gain revenue from oil and gas. Proposition 13 lowered the tax rate to on average ⅓ of the prior year's tax rate, a tax break not discussed in the debate on the measure.

But the measure's impact was much greater. All oil and gas reserves then identified had an assessed value placed on them. Proposition 13 froze those values, as it did all property values, limiting increases to no more than 2% a year no matter how much the value of the oil and gas increased.

The Kern County Assessor noted this year:
Most of our oil and gas properties are at the Proposition 13 Base Value, and taxes are paid on this base value, even though the market value of these properties is a great deal higher. Kern County remains the largest oil producing county in the State, with an estimated 70% of all of the State’s reserves.
What has happened is that California homeowners typically sell their homes every 7 to 8 years at which time under Proposition 13 the assessed value is increased to the then market value. Typically most homes today are being assessed at close to current market value, and even one that has not sold since 1978 is being assessed at 49% of market value (based on the California home median sales price for 1977 compared to the median sales price as of November 2011).

On the other hand, oil reserves are assessed at about 28% of its market value and that assessed value in some areas is being taxed at about 33% of the tax rate prior to 1978. In essence, those oil producers were awarded as much as a 91% tax reduction in 2011 by the well-informed California voters of 1978 through the adoption of Proposition 13 (not that voters today are any more informed).

Most voters have no idea this happened. Most efforts at an oil and gas severance tax have been an attempt to try to rectify this. While directly modifying Proposition 13 with a split roll as suggested by the measure discussed in my previous post would correct this problem, three severance tax measures have been proposed for the 2012 elections.

The first of these measures filed is what I call The Community College Professor's Oil and Gas Severance Tax to Fund Education Initiative. Rescue Education California founder Professor Peter Mathews is behind this measure which would set a 15% tax on the value at the well head of oil and gas produced in California. There are some rational exemptions for so-called "stripper wells."

It would allocate the approximately $3 billion per year in new tax revenues as follows: 11 percent to University of California; 14 percent to California State University; 38 percent to community colleges; 37 percent to K-12. It also prohibits the reduction of existing education-funding levels based on these additional tax revenues.

This severance tax would put us midway between Alaska's Sarah Palin severance tax rate of 25% and Texas.

This measure is currently being circulated for signatures. See the web site.

The second severance tax measure currently circulating is The Occupy-the-Elections Severance Tax on Oil and Gas Initiative to Create a North-Dakota-Type California State Bank. With the understanding that California is much larger and more diverse than North Dakota, to really understand the model for this bank you should review the Bank of North Dakota web site and the article How the Nation’s Only State-Owned Bank Became the Envy of Wall Street.

The measure would establish a state bank named the Sustainable California State Bank, to initially be funded by $200,000,000 General Fund loan. It imposes a 15% percent minimum tax on value of oil and gas extracted in California for state bank capital which, as noted above, that rate would generate about $3 billion a year. It mandates the deposit of some state funds in the State Bank, and authorizes public and private entities and individuals to establish accounts. The state would guarantee deposits, though the State Bank could be insured by the FDIC. It authorizes the State Bank to borrow money, invest funds, make loans to businesses, organizations, and local governments, and keep earnings. It authorizes state bank to refinance state debt and make zero-interest loans to General Fund to finance operating deficits.

The measure's purpose is to boost California's economy generally, but particularly to make financing available to small business and growth industries. It's a laudable goal and an interesting idea, which is more than I can say about the next one that has garnered considerable press attention.

The third severance tax measure, currently just at the Attorney General's review stage is what I call The California Democratic Party Chairman John Burton's Oil & Gas Severance Tax Initiative, some for Higher Education (⅓) and most for the General Fund (⅔) for the Legislature to Play With.

Burton has a long record of public service as a Democrat:
  • 1965 - 1974 member of the California State Assembly
  • 1975 - 1982 member of the U.S. House of Representatives
  • 1988 - 1996 member of the California State Assembly
  • 1996 - 1998 member of the California State Senate
  • 1998 - 2004 President of the California State Senate
  • 2009 - Present Chairman the California Democratic Party
Burton, 79, has long been among the California Democratic Party leaders and is part of the Party's ruling gerontocracy along with Governor Jerry Brown, 73, Senator Diane Feinstein, 78, and Senator Barbara Boxer, 71. (It is worth noting that among this group, only Boxer has experienced any significant time working in the private sector, and she has been in Congress since 1982.)

When Burton left the State Senate in 2005, the California Journal noted:
Gone will be the Senate's most vehement partisan for social services for the poor, the Senate's angriest voice against tax breaks for businesses and the wealthy, its loudest voice for protection of workers, its fiercest pro-labor advocate and its disciplinarian.

Suffice it to say that anything Burton is involved with reflects his preference for a Legislature free of constraints and his partisan viewpoint. This ballot measure is no exception and he clearly states that this is his proposal, not that of any party or group.

For whatever reason, Burton chose to provide for a 12.5% severance tax rate instead of the 15% in the other measures which likely would reduce the revenue to $2.5 billion. The measure specifically provides as follows:
...One-third of all taxes, interest, penalties, and other amounts collected pursuant to this part shall be deposited into the California Higher Education Fund. The remaining two-thirds shall be deposited into the General Fund.
In other words, it would put $1.6 billion into the General Fund for the Legislature and Governor to spend as they see fit. Only $0.8 billion or ⅓ of the revenue pursuant to the measure titled "The Higher Education, Schools, Public Safety and Health Care Preservation Act" is allocated for a specific purpose.

To collect spend the allocated money, a complex new bureaucracy is created called "The California Higher Education Endowment Corporation" which is to have a very large paid Board, CEO, and employees, along with the hiring of an Auditor to perform a very complex annual audit. The Corporation's costs and expenses are subtracted from the $2.5 billion first, and the remaining $0.8 billion not sent to the General Fund is to be allocated as follows:
The corporation shall annually allocate the moneys in the California Higher Education Fund, for purposes of funding direct classroom instruction for higher education, as follows:
(1) Fifty percent to the California State University.
(2) Twenty-five percent to the University of California.
(3) Twenty-five percent to the California Community Colleges.
The measure also provides for a complex sub-allocation for medical and nursing education, the latter based on a complex formula for determining need county-by-county.

Only someone who has spent most of his life in legislative positions in California could propose a measure this complex. The facts are:
  1. It is mostly just a tax to add revenue to the State General Fund,
  2. It creates a large bureaucracy including politically appointed paid board positions to accomplish a simple task of distribution of a comparatively small amount of funds among our state higher education institutions.
I guess Burton has allies for this measure as it has received a lot of press compared to the other two oil and gas severance tax measures. It will be interesting to see which of these measures gets enough signatures to be on the November 2012 ballot, if any.

Again, the severance tax measure petitions that are circulating or likely will be circulating would:
  1. Divide approximately $3 billion per year in new tax revenues as follows: 11 percent to University of California; 14 percent to California State University; 38 percent to community colleges; 37 percent to K-12; or
  2. Establish a state bank named the Sustainable California State Bank funded using approximately $3 billion per year in new tax revenues to boost California's economy generally, but particularly to make financing available to small business and growth industries; or
  3. Collect $2.5 billion per year in new tax revenues, which would allocate approximately $1.7 billion into the State General Fund to be spent by the Legislature and Governor and would allocate to a new fund $0.8 billion for a new bureaucracy to divide between the three state higher education systems which currently spend about $10 billion.

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