Among many faults of a US Senate proposal to repeal the manufacturer's tax deduction for large oil companies, the worst is not that it is arbitrary, spiteful, and—by any standard of taxation efficiency—unsound. The worst thing about this monstrosity is its grounding in recyclable deception.
Democrats on the Senate Finance Committee this month proposed the measure as a revenue offset in legislation to help small businesses. They would disallow use by the five largest oil companies of a deduction available to all US producers of physical goods since 2005 under Section 199 of the Internal Revenue Code. The deduction rate increased this year to 9% of net income from 6%—except for oil and gas companies, for which Congress in 2008 froze it at 6%.
Motives are clear. Politicians score political points by punishing "big oil." Indeed, a background document explaining the committee's proposal notes that the affected companies include BP.
Flawed argument
But problems don't end with an opportunistic slap at a politically beleaguered company and its industry. The core argument is wrong.
"It is not clear that the goal of this deduction, which is to improve America's energy security by promoting domestic production, has been reached," says the backgrounder, adducing incorrectly that US oil production has fallen to 5.48 million b/d from an average of 5.5 million b/d in 2005. In fact, average US production in 2005, according to the Energy Information Administration, was 5.178 million b/d. The average in the second quarter this year was 5.46 million b/d, continuing an upturn that began in 2009.
The flawed evidence is moot, though, because the assertion contradicts history. The goal of the deduction had nothing to do with energy security or domestic production. It was to help American companies compete internationally while other countries were lowering tax rates. But it serves the political purposes of Finance Committee Democrats to depict the Section 199 deduction as a tax break unique to oil companies and therefore expendable.
Mischaracterization of this type is rampant in discussions of oil and gas tax policy. The Senate committee pulled its Section 199 ploy out of a grab bag of horrors President Barack Obama has included in both of his budget proposals. A section entitled "Eliminate fossil fuel tax preferences" would apply not just to the manufacturer's deduction but also to measures crucial to independent producers such as expensing of intangible drilling costs and accelerated writedown of geologic and geophysical costs.
This year, the Treasury Department's budget narrative added a dangerous twist to its rationale for this assault on US oil and gas economics. "The President agreed at the G-20 Summit in Pittsburgh to phase out subsidies for fossil fuels so that the United States can transition to a 21st century energy economy," the department said in its boilerplate claim that the targeted tax mechanisms encourage "overproduction" of oil. It thus equated defensible tax mechanisms important to future energy supply with consumption subsidies. Around anyone making that intellectual stretch, oil and gas producers should hide their wallets.
Exploiting confusion
The manufacturer's tax deduction is not a subsidy on the order of the energy-price ceilings draining treasuries and choking cities in many parts of the world. And it's not just for oil companies. It's an adaptation of a measure implemented in lieu of a tax rate cut to help all US manufacturers compete internationally. IDC expensing and accelerated G&G writedown aren't subsidies, either. They're timing preferences that don't lower ultimate tax liabilities but that favor taxpayers who perform important work, mainly by helping them reinvest earnings and raise capital.
Misconception about these subjects is understandable. Oil and gas taxation and the rules governing it are complex. They must accommodate peculiarities such as wasting assets, intangible property, and exploratory risk.
But perplexity is no excuse to err with policies vital to national energy and economic interests. And exploitation of the confusion for political gain is worse than inexcusable. It's dishonest.
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