STATE AND LOCAL TAXES MINOR FACTORS FOR E&P LOCATIONS
Allan G. Pulsipher
Louisiana State University
Baton Rouge, La.
In the main oil and gas producing states of the U.S., contrary to common perception, differences are small in the state and local tax bills on exploration and production (E&P) operations. Therefore it is unlikely that competition for exploration and investment, such as between Louisiana and Texas, depends on these taxes.
It is likely that price and geological considerations dominate the selection of E&P locations.
The common perception that some states could be at a disadvantage is based on two factors:
- First, there is a considerable variation among states in severance tax rates levied on oil and gas ranging from California's negligible rate of 2 1/2/bbl to Alaska's 15% of the value of a barrel at the well.
- Second, state and local tax structures differ in the degree to which they rely on business taxes relative to consumer taxes.
The objective of this article is to test this hypothesis by estimating the tax bill of the production industry in the leading oil and gas producing states in the U.S.
The tax bills of the states are compared in Fig. 1. This figure depicts, expressed as the per barrel of oil or gas equivalent produced in each state, the total amount paid in sales, property, corporate income or franchise, and severance taxes.
Reliance on individual taxes varies considerably among states with some using severance taxes almost exclusively, some using property taxes, and others making use of both. Gauging relative state tax bills by severance taxes alone, however, clearly would be misleading.
The states fall into three loose groups with respect to their overall bills. Alaska, North Dakota, and Wyoming present the industry with a somewhat higher tax bill. Colorado, Kansas, New Mexico, Mississippi, Louisiana, and Texas, although using quite different mixes, impose roughly equivalent taxes.
Taxes in California and Oklahoma are lower.
However, these results should be evaluated cautiously for two reasons.
- First, because of data limitations, the taxes were derived exclusively from the 3 year period from fiscal year 1986 through fiscal year 1988-years that immediately followed the major collapse of the world oil price.
During this period the average annual wellhead price of crude oil in the U.S. fell from about $24/bbl in 1985 to $12.50/bbl in 1986.
The price collapse affected the tax liabilities incurred under the various state tax structures differently. Taxes based on profits or prices contracted more than taxes based on physical production or property.
- Second, many of the data used in the report had to be collected from primary sources and their quality and comparability may vary. Moreover, some data necessary to make comparisons were not available from primary sources and had to be estimated by the author.
Although the relative comparisons among the states are believed to be valid despite the data limitations, they include a healthy margin of error and reflect the conditions present in this unique period (Fig. 1).
BACKGROUND
Historically, the revenues collected from the oil and gas industry have been a key, if not dominant, element of the fiscal structures of the principal petroleum producing states. Previous studies have focused on the role of severance and other direct taxes,1 but the oil and gas industry's contributions to the yield of other general taxes such as those levied on corporate income or wealth, property, and even sales also are important.
Indeed, focusing on severance taxes alone can be quite misleading because some states, in effect, allow a substitution of severance taxes for property taxes while others levy both taxes.
Moreover, the base of the property tax itself also varies as some states include the present value of oil in the ground in their property tax base. Others specifically exclude it but tax other industry assets such as rigs, tanks, and pipelines, and still others consider the severance tax to be levied in lieu of all property tax payments.
The major oil and gas producing states differ from one another significantly in their use of individual taxes. Ascertaining the relative tax bill of the oil and gas industry in a particular state is further complicated by the fact that the overall measure of tax effort for a tax may not correspond to the impact of that tax on the oil and gas industry.
Fig. 2 illustrates this by comparing the Advisory Commission on Intergovernmental Relations' (ACIR) index of corporate tax effort with the corporate revenues collected from the oil and gas production industry expressed relative to production in each state as collected for this study.2 3
Tax effort is simply per capita revenue collected from a tax divided by the ACIR's estimated capacity of the state to raise revenue from that source if it were to make an average or representative effort to do so. In this case, the capacity measure is corporate profits earned in the state multiplied by the U.S. average corporate tax rate divided by the state's population.
Per capita capacity divided by per capita revenue is defined as tax effort, with a value of 100 by definition being the U.S. average.
There is no relationship between the effort and collections. Louisiana, which according to the ACIR index made more than twice the Texas effort to tap the corporate tax base, actually collected slightly less revenue than Texas did from the oil and gas producing industry, when measured per barrel produced.
Mississippi, with an ACIR index below the national average and well below Louisiana's, collected more than any other state from the industry and almost three times more than Louisiana did measured relative to production.
There are several reasons for the divergence. If we recall that the data were drawn from the period following the collapse of the world oil price, the treatment of losses by the respective states is an important explanation.
Louisiana enacted a generous loss offset provision in 1986 which allows companies to subtract losses in a particular year from profits made in the previous 3 years and the following 15 years (referred to as "three back and fifteen forward").
Louisiana's Legislative Fiscal Office estimates that this liberal loss offset provision reduced the tax liabilities of corporations by an average of $80 million annually, and that the savings increased to $120 million during the years following the oil price collapse.4
Corporate taxation in Texas, in contrast, is levied against the net worth of a corporation, not its annual profit. Thus, its corporate tax yield is not nearly as responsive to losses in a single year-even large ones.
Mississippi does not permit any reduction in previous year taxes and allows losses to be carried forward only 5 years. Louisiana also permits federal corporate income tax liability to be deducted in calculating state taxes while Mississippi does not, and, in effect, neither does Texas.
Similar differences in the base and provisions of individual state taxes make it impossible to use either legal descriptions of taxes or measures of overall tax effort to estimate the relative tax bill of the oil and gas industry among states. Thus, the approach used in this study was to collect or, when necessary, estimate the amount of tax paid by the industry under the principal state and local taxes in the respective states and express those magnitudes relative to the state's production.
DATA AND ANALYSIS
The top ten oil and gas producing states were asked to provide information about the structure and yield of state and local taxes, and the amount of tax paid by the oil and gas production industry, Standard Industrial Classification (SIC) 13.
All states were able to supply the statutory information and the total revenue collections under individual taxes, but their abilities to supply data on the revenue collected specifically from the oil and gas industry were more spotty.
This information is also available from a number of secondary sources such as the publications of the Advisory Commission on Intergovernmental Relations and the annual state and local tax summaries for the census of governments. The state tax statutes are also monitored by the American Petroleum Institute which supplied us with an advanced draft copy of its latest update.
Each state was able to provide information on severance taxes and other direct taxes such as oil and gas conservation levies, but only Alaska, Mississippi, and Wyoming were able to supply data on the taxes paid by the oil and gas industry for all of the individual state taxes. The ability or willingness of other states to supply data varied.
Texas was able to supply all the data requested except property tax revenues. The Texas Mid-Continent Oil & Gas Association, however, conducts an annual property tax review and its data were used.
The Louisiana State Department of Revenue was able to supply us with specially prepared but unaudited tabulations of corporate franchise and corporate income tax payments for fiscal years 1986 through 1988, but not earlier years.
Louisiana property taxes were estimated by the application of the Parish property tax levy for each year to the total assessed valuation of wells, rigs, tanks, and other surface and subsurface property as reported annually by the Louisiana Tax Commission, plus a 10% adjustment to reflect land values (land value only, not oil in the ground) which were not reported separately for oil and gas properties.
Methods of estimating other missing data varied with the circumstances. Where possible, secondary or industry data were used.
For some taxes in some states, however, not even secondary sources were available. In these cases the state's statute was examined and the per barrel amount paid in states with similar tax structures for which data were available was applied to the state-in-question's production to make an estimate.
In addition to the states for which all data were supplied by the state as well as the special cases of Texas and Louisiana previously discussed, the estimates which had to be made for California, North Dakota, and New Mexico were relatively minor, while those for Colorado, Kansas, and Oklahoma were more substantive.
In most cases, however, the importance of the direct severance tax component for which data were available makes it unlikely that the over all comparisons are misleading.
The other limitation of the analysis is the uniqueness of the period for which data were available-the 3 years following the collapse of the world oil price in 1985.
To explore the influence this event may have on the interstate comparisons, we compared the fiscal years (FY) 1986 through 1988 period used in the analysis with a 3 year period from FY 1982 through 1984 prior to the price collapse. Data on corporate taxes were not available but data on severance taxes and property taxes were available for eight of the states.
The results are summarized in Fig. 3 which compares the revenues from severance and property taxes collected from the exploration and production part of the petroleum industry per barrel of oil or gas equivalent produced for the two periods.
The relative order of the top three states is the same in both periods-North Dakota, Wyoming, and Alaska. Omitting Mississippi's heavy corporate tax bite from the comparisons, however, drops the state below Texas and Louisiana in the latter period, but not in the 1982 through 1984 comparisons.
The decline in severance and property tax revenues that followed the oil price collapse ranged from a maximum of 49% in Alaska and Wyoming to a minimum of 33% in Texas and 35% in Louisiana.
There are several reasons for variation in the volatility of these revenues among the states, but the two most important probably are:
- Property tax yields were more resilient than severance tax yields. In Texas, for example, severance tax revenues fell 49% while property tax revenues only declined 15%. In Louisiana (although they are much less important than in Texas) property tax revenues actually increased by 8% while revenues from severance taxes fell by 45%.
- Similarly, the relative importance of oil and gas production affected the comparisons. The energy equivalent price of natural gas was well below oil when the world oil price collapsed and declined by only about 20%-as opposed to a nearly 60% decline for oil-from the fourth quarter of 1985 to the third quarter of 1986.
Thus, severance revenues were not hit as hard in states such as Louisiana, New Mexico, and Oklahoma, which produce more gas than in states such as Alaska, California, and North Dakota, which produce primarily oil.
In Louisiana, the impact was further mitigated because the tax on gas was levied on volume not value as in most of the other states.
As a consequence, Louisiana gas revenues fell only 15% while revenues from oil fell 52%. Proportionate oil and gas production as well as the production totals used to compute tax bills are shown in Fig. 4.
Although the absence of corporate tax data from our before-and-after-the-price-collapse comparison may mask some of the divergences among states, the bottom line is that the comparisons do not appear to be unduly distorted as a consequence of the unique period used.
After the data were collected or estimated for each of the states for the 3 years in the study period, production of oil and gas was tabulated for the same 3 years and the calculations performed that are summarized in Fig. 1.
The only adjustments made to production data were to make certain that only production within the state's taxing jurisdiction but not in the federal offshore area was included (this is very important for Louisiana and significant for Texas and California) and to convert gas production to barrels of oil equivalent.
COMPARISONS
The conclusion drawn from the comparisons depicted in Fig. 1 is that although states rely on quite different mixes of state taxes-especially severance and property taxes-differences in overall state and local tax bills among states are not likely to determine activity or investment by the industry.
Given the range of error inherent in the data and the uniqueness of the period for which data were available, unequivocal assertions are not warranted, but the relatively narrow range among the states which compete most directly makes it unlikely that any state's tax structure puts that state's oil and gas firms at a competitive disadvantage.
The results summarized in Fig. 1 appear to be quite consistent with the argument that interstate tax competition and equally effective and articulate industry lobbyists constrain the effective interstate tax differentials facing the oil and gas industry-regardless of the apparent differences in tax statutes and structures.
Thus, more fundamental considerations of price and geology dominate the effects of differences in state and local tax structures for most industry decisions.
A study of state and local taxes and the oil and gas industry done by Arthur D. Little (ADL) for Kansas Inc. came to a similar finding with respect to Kansas. It concluded that "perceptions of price and geological risk are the primary determinants of oil industry investment behavior and ... state tax levels are a relatively minor factor in comparison."5
The only other study of this type of which we are aware, conducted by the Texas Comptrollers' Office, found considerably wider variations among state and local tax bills than either our study or ADL study, but came to no conclusion about their possible consequences.6
The comptrollers' study estimated both the direct and indirect tax effects in the same states, with the exception of Mississippi, included here. The study did not exclude the federal offshore production from its calculations, however, and used the percentage of employment in the oil and gas industry as a proxy for the percentage of tax paid by the industry of total state corporate taxes, sales taxes, or property taxes when those data were not available from the state.
For the years included in our study, this method was not reliable as indicated by a comparison of such estimates for states for which data were available with the actual data reported.
REFERENCES
- Lagace, G. L., "State Energy Severance Taxes, 1972-1987," Energy Information Agency/Monthly Energy Review, July 1988.
- Advisory Commission on Intergovernmental Relations, 1986 State Fiscal Capacity and Effort, Washington, D.C., 1989.
- Advisory Commission on Intergovernmental Relations, 1988 State Fiscal Capacity and Effort, Washington, D.C., 1990.
- Louisiana Legislative Fiscal Office, Fiscal Year 1991: Fiscal Guide, Baton Rouge, La., 1990, p. 31.
- Arthur D. Little, Strategic Analysis of the Oil and Gas industry in Kansas, 1990, p. 68.
- Texas State Comptroller's Office, Fiscal Notes October 1985.
Copyright 1991 Oil & Gas Journal. All Rights Reserved.