Jacked: Utah gave oil and gas companies $200 million-plus while the rest of us got squeezed at the pump | Cover Story | Salt Lake City Weekly

November 05, 2008 News » Cover Story

Jacked: Utah gave oil and gas companies $200 million-plus while the rest of us got squeezed at the pump 

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For nearly two hours on a recent September morning, the state Legislature’s Tax Review Commission (TRC) had been up to its eyeballs in statistics about the Utah oil industry. Anxious to move on, a tall man from the sparse crowd stood up to address the panel. 

“If I could just say a few things,” said Newfield Exploration executive Bruce Dalworth, who strode toward the front of the Capitol committee room. An exhausted committee relented. Commission members had been listening for weeks to determine why taxpayers should continue giving oil and gas companies doing business in Utah the same generous tax break they first offered back in 1998—when oil was only $13 a barrel. Oil prices have since jumped to nearly 10 times that amount in summer 2008 and were still hovering near $100 a barrel in the past month.

“Now, one of the reasons gas prices have increased so much,” Dalworth said in a deep professorial baritone, “is because the United States has ignored energy policy for the last 30 years.” Dalworth spoke of supply and demand and how the United States had a “huge national-security issue” by depending on foreign oil when the country could be tapping resources like the Arctic National Wildlife Refuge in Alaska. “ANWR has been ignored, and we’re just talking about very small environmental consequences,” Dalworth said, while pinching his index finger against his thumb as if holding a small pea—or, perhaps, imagining crushing the committee chair’s head. “A letter to The New York Times will probably be the only footprint left behind.”

Consumers at a downtown Salt Lake City gas station weigh in on whether Utah’s oil and gas industry deserves year after year of generous tax breaks:

“I know Exxon Mobil last quarter alone made, I think, 10 or 13 billion more than last year. I don’t think it’s fair; why should we pay to make them richer than they already are?”
 —Taylor Critchfield, Salt Lake City

“I don’t know how the mechanics work, the politics of the oil and gas companies, but it just seems like we’ve been manipulated. As much as business was struggling last year, the millions and billions they were making, it was just like we were transferring wealth. No, I don’t feel like we should be giving them any subsidies. And there should be a lot more transparency. I would like to know how the system works.”
 —Melanie Hamilton, Salt Lake City

“I came from Connecticut, and gas was really high there. And in Utah, it’s just as high as when I left Connecticut. What are you gonna do? You gotta pay for gas. We can’t really do much to get them to drop the prices. I don’t think [they deserve the tax breaks] unless they’re giving something back. If they’re getting a tax break, where’s our break?”
George Defreitas, Salt Lake City

For months, the TRC—made up of legislators, tax attorneys and economics professors—had been getting answers from oil and gas industry representatives about the need to maintain a rock-bottom 3- to 5-percent tax rate on their industry. Oil and gas companies in Utah also qualify for several generous exemptions that help pay for new oil and gas wells, old wells and wells in midlife crisis that require water or carbon dioxide to be pumped into them to squeeze out more oil or gas.

Counting these exemptions, estimates show subsidies over the last two years—when record oil prices have blown gold all over the industry in sales alone—have put more than $200 million into the pockets of oil and gas companies doing business in Utah.

With the stock market in cardiac arrest since the Wall Street bailout, oil prices have dropped, granting some relief at the pump. But, as of press time, Utah drivers pay 20 cents more per gallon than the national aveage, making this state home to the seventh-highest gas prices in the nation, according to AAA reports and the Oil Price Information Service.

So as summer rolled into fall, the question the TRC was still grappling with is: Should taxpayers subsidize these companies while they’re still bankrolling on pump sales? So far, the public has heard little about the discussion. George Defreitas, a Connecticut native who moved to Salt Lake City because of its relatively low cost of living, was caught off guard by the high gas prices (see sidebar, p. 19). He was also surprised to hear about the state’s generous tax exemptions for the oil and gas industry.

Defreitas wondered: “If they’re getting a tax break, where’s our break?”

Strippers and Wildcats
nUtah’s oil and gas industry struggled in 1998. With oil prices capturing only $13 a barrel, Utah companies had arrived at a “drill or die” precipice. Oil was so cheap that running the rigs was barely more profitable than just pouring concrete down the wells and closing up shop. The state came to the rescue by establishing a severance-tax rate on companies of 3 percent when oil was $13 a barrel. If the price climbed past that amount, the rate went up to only 5 percent. Severance taxes refer to taxes put on nonrenewable resources that are extracted from the Earth for production. In Utah, this includes oil, gas and minerals such as gold, silver and copper.

But, on top of the tax rate—which is lenient compared to several other oil-rich states—key exemptions were written into statute to encourage exploration of new wells, known in the business as “wildcat wells,” by exempting tax on the first year of the gas or oil well’s life. An exemption was also given for “stripper wells”—oil wells that have plateaued in their production and now only leak out a paltry 20 barrels a day, and for natural-gas wells that produce only 60,000 cubic feet of gas or less a day. Stripper-well incentives were meant to encourage companies to conserve a well already drilled, instead of just leaving a hole in the ground after it’s peaked. While Utah classifies stripper oil wells as those that produce 20 barrels or less a day, that rate is actually double the national stripper-well standard of only 10 barrels a day.

Another Utah tax exemption encourages the industry to use high-pressure water or CO2 gas forced into the well. It works like industrial-strength Ipecac, causing the well to puke up its crude at renewed levels from the gut of the well’s reservoirs. This exemption allows 50 percent of the increased production to remain untaxed.

Between these various exemptions, the oil and gas industry of the late ’90s got the helping hand it needed not only to keep its investments in Utah, but to greatly expand them.

“In the ’90s, the oil and gas industry was really hurting,” says Lawrence Barusch, a Salt Lake City tax attorney and member of the TRC, referring to when oil hovered at between $8 and $13 a barrel. “You may have noticed that the price of oil has increased somewhat since then, though. The value of the product is much higher, while the cost of extraction has only risen with inflation. The oil and gas companies now make an enormous profit, but do not want to part with these incentives.”

Barusch was one of only a couple of members on the 16-member TRC to vote against maintaining these tax rates and exemptions back in 2002—the last time the committee considered them. At that time, oil profits had climbed to about $50 a barrel. “I’ve spent a fair amount of time being Don Quixote on this board,” Barusch says of his earlier skepticism of the tax breaks. But he is especially skeptical as to why, in 2008, record oil-company profits need the added boost from state government—whose budget will be stretched thin in dealing with growing economic woes.

There’s a pretty good argument that there should have been relief when the industry was ailing,” Barusch says, “and when not ailing, everyone would say the relief should go away.”

But what do these numbers mean? Between the varying rates, exemptions and types of wells in the state and fluctuating oil and gas prices, firm numbers are slippery to pin down. Still, if one were to compare earned severance taxes in Utah for 2007, compared to the state’s oil and gas production and crude and gas prices (from the Utah Geological Survey), 2007 found Utah taxpayers kicking $86 million in subsidies to oil and gas companies.

The price of oil has fluctuated greatly since the federal government’s Wall Street bailout plan in early October, so projections for 2008 are harder to calculate. Statistics from the Utah Division of Oil, Gas and Mining include figures only to June 2008. By doubling that number, we get an approximate look at how much will be produced and, therefore, how much will be taxed. Despite recent oil-price decreases, 2008 was and will continue to be a good year for oil and gas companies that saw a record $147-a-barrel sales just this past July.

By the end of the year, Utah taxpayers could be handing as much as $147 million in subsidies over to oil and gas companies, adding up to a two-year total of about $233 million.

Love It or Leave It
nSimple calculations of oil profits seem to conjure the image of oil barons in white suits and 10-gallon hats, lighting cigars with taxpayers’ dollar bills in the corporate boardroom. However, industry representatives argue that the numbers on record don’t do the issue justice, and that it is in fact a stickier issue than just comparing subsidies with oil prices.

Much stickier.

Inside his office at the Utah Petroleum Association, Lee Peacock, the lobby group’s president, cracks open a small jar from his shelf. Inside is the coveted black gold that dominates Utah’s Uintah Basin oil fields. The industry knows the stuff as “black wax.” This oil simmers as liquid under the superheated surface of the Earth, but at room temperature sets up hard and thick as molasses. Another Utah crude of this variety and thickness—“yellow wax”—looks like candle tallow.

“It’s not an inferior product,” Peacock says, considering the jar of thick goo in his hand. “[But] it’s a different process, it’s very hard to handle and much more expensive.” Peacock and others in his industry say this crude is dominant in the Uintah Basin fields, which produce the majority of Utah’s product. The waxy oil often finds more value mixed into petroleum-based products like women’s makeup foundations than pumped into gas tanks.

Companies who deal in this crude say it falls between 15 and 20 percent below the price of a smoother, light-sweet crude, the kind Utah often imports from Canada. While the black wax still has a special market in diluting the Canadian oil and bringing down its overall sulphur content, Peacock considers it just one of many factors that make drilling in Utah a hard sell to investors.

“The geology is extremely complicated here; the geography is complicated,” Peacock says. “The cost of doing business here for a Utah company is higher than in most places in the country.” Peacock believes Utah’s business- and tax-friendly environment has given it the edge over states that may have better resources, but which charge more for doing business within their borders.

Among Western oil- and gas-producing states—Colorado, Wyoming, New Mexico, Oklahoma and Utah—Utah has the lowest effective tax rate. Counting added tax burdens like sales and income tax, Utah boasts a 4.5 percent tax rate for oil and gas companies compared to the high of Wyoming’s 11.2 percent.

“Our opinion is that instead of assessing a higher rate and taking away exemptions and smothering the golden goose,” Peacock says, “the state rather primes the pump through credits, exemptions and a positive rate structure. That allows for more investment, more production and more tax revenue to flow in through the years.”

Peacock says the problem is that if an excessive tax rate drives away business, Utah loses out on the greater bonanza—revenue it would have received through not only severance taxes but also property taxes, income taxes and even increased sales taxes from those individuals who draw a paycheck working the oil rigs in some of the state’s boom towns like Roosevelt and Vernal.

But, despite a product that looks like it could be better put to use shining penny loafers than being pumped into gas tanks, and in spite of Utah’s drill-bending geology, the industry has adapted to these challenges. Especially with technological advancements in drilling, redrilling and refinery upgrades, Peacock says. The point, he says, is not that the industry will pack up its rigs and leave town if the rate changes, but that it will affect how companies invest in Utah.

“If any change in Utah’s tax structure makes us less desirable than somewhere else a company can put their money—then they’ll put their money someplace else.” That’s the bottom line, he says, and it’s not corporate-hijacking, as industry witnesses have told the Tax Review Commission; it’s just economics.

But is it really a matter of simple economics? The companies have told the TRC in no uncertain terms that a friendly tax structure is essential to their existence, but the commission decided to seek a second opinion—a hired gun in economics who could independently decide if the low tax rate the industry tries to defend is really based on the cost of doing business in Utah.

Survey Says …
“Now a lot of people are angry at the oil companies but I’m not—I really gotta thank you guys,” said state Sen. Lyle Hillyard, R-Logan, at a September TRC meeting. “Because for the first time, it seems like the folks out there hate someone more than us legislators.” Hillyard, a veteran legislator, is highly regarded by both parties for his knowledge and even temper. He has been with the TRC since its start in the ’80s and has been watching this latest examination of the oil and gas industry closely. Hillyard says he wants to make sure the industry’s exemptions are going to good use, especially since his proposed constitutional amendment of this past election could benefit in the future from greater severance tax collections.

However, Hillyard—like other TRC members—is still digesting the gusher of facts, figures and charts thrown at him by industry experts and witnesses. Still, he points out, the resource isn’t going anywhere.

“One thing [the oil and gas companies] have got to get over is that if they don’t pull it out and extract it, it’s still there and, over the years, it’s just going to get more and more valuable,” Hillyard says. “But, who knows? Maybe somebody will discover cold fusion.”

Hillyard has said he will reserve final judgment on the severance-tax issue until he has all the facts. So he was especially anxious to hear from the commission’s special consultant, University of Utah economist Gabriel Lozada. Prior to Lozada’s presentation, Hillyard had a prediction: “I’m sure if our consultant says [oil and gas aren’t] being taxed enough, they’ll at least have 50 reasons why he’s wrong.”

On Oct. 9, the TRC heard from the much-anticipated Lozada, whose academic credentials spill onto a second line of his résumé (bachelor’s degrees in economics and physics from Louisiana State University; master’s degrees in economics and engineering in economics; and a Ph.D. in economics from Stanford University). Lozada’s presentation was a stunner. In polished language, he provided a series of charts and graphs, accompanied with complex mathematical equations. To the untrained eye, his calculations looked to be written in a dead language.

Commission members carefully flipped through the pages, squinting at the graphs of the report as Lozada spoke. Somewhere, in somebody’s briefcase, the muted ringtone of a cell phone was quacking like a duck, but no one seemed to notice. By the time Lozada concluded, everyone was quiet—even the duck. According to Lozada, a historical analysis of oil and gas production in Utah for the past several decades up until 2006 showed the tax structure had almost no impact on the industries’ production levels.

“The research indicates that the severance tax has very little impact on the decision to drill, particularly in the latter life of the well,” says TRC member state Rep. Roz McGee, D-Salt Lake City. Lozada’s presentation, while not including the past two years of analysis, did show the correlation between price and production was weak. Lozada also calculated that if exemptions were removed for new wildcat wells, the short-term impact likely would be the drilling of 1.5 fewer wells in the year following the repeal and only as many as four fewer wells in the three to four years after.

In statements made to City Weekly, the highly polished Lozada chose a simpler way to describe the impact of exemptions and friendly tax rates on keeping the oil business in Utah. “Peanuts,” he said.

Lozada’s conclusion is not completely out of left field. A 2002 study, conducted on behalf of the Wyoming Legislature, reached a similar conclusion. That report determined that if the tax rate were doubled, the state’s production would drop by 6 percent over 40 years, but revenue collection by the state would get a 90 percent bump.

The Utah Petroleum Association’s Peacock would not return City Weekly’s repeated phone calls for comment after the consultant’s presentation in the October meeting.

After Lozada’s presentation, the committee opened the meeting to public comment. In the back of the room were three spectators, including Lee Peacock of The Utah Petroleum Association. Peacock, the lone industry rep in the room, sat quietly.

Priming the Future
nWhen the state received money from the multistate tobacco-industry settlement in 1998, it set aside the money in a state trust fund. Hillyard, with the support of other TRC members, put forth Constitutional Amendment B on the Nov. 4 ballot to enable the trust fund to accept revenue from other sources than simply the tobacco settlement. Hillyard believes severance taxes could bolster the trust fund by generating interest payments the state could count on for special projects approved by the Legislature. (For a look at what other states have done with their resource trust funds, see the sidebar below.)

“My view is that Utah has, for many years, missed the boat on the potential of a severance tax,” his commission colleague, McGee, says. “We’re slowly taking steps forward in setting up the trust fund.”

If the oil and gas companies’ exemptions were repealed, the hundreds of millions of dollars in subsidies would flow instead into the fund. But, before the Legislature can change the tax structure, the issue must be examined by the Legislative Auditor’s office. Auditors will have more access to oil-industry tax information than the TRC and would begin their investigation after the commission makes its own recommendation.

The TRC is planning to hear a counterpresentation from the oil and gas industry on Nov. 13 at 9 a.m. in Room C445 of the state Capitol. The meeting is open to the public. Panel member Barusch hopes the commission will consider following consultant Lozada’s advice and recommend a different model of taxation. He prefers the system used in Alaska.

The Alaska System
While oil-industry lobbyist Lee Peacock says the comparison of Utah’s and Alaska’s resource base is like comparing “apples to hand grenades,” some Utah tax commissioners would still like to see the Beehive State consider a flexible tax-rate system like that of Alaska Gov. Sarah Palin’s “Alaska’s Clear and Equitable Share” Program. (Source: Alaska Governor’s Office)

How it Works:

When oil is $40 a barrel or less, 10 percent gross oil-production income is taxed.

When oil is $50 a barrel, 25 percent net oil production is taxed.

If the price goes past $50 barrel, 0.2 percent tax is added for every $1 increase in price per barrel (example: $130 per barrel oil production taxed at 36 percent net oil company income).

“This would be a great time to get in step with Sarah Palin,” Barusch says. “Her claim to fame is she exercised leadership on taxes despite opposition from special interests. That’s why McCain picked her—even Tina Fey understands that.” (See sidebar for more on the Alaska system.)

While Barusch hopes to make progress at the next meeting, the TRC has no official deadline to decide on the issue. Some worry if a decision isn’t reached soon, the TRC will get too bogged down in meetings for the Legislature to address it in 2009.

“The oil and gas companies are very powerful and they play hardball,” Barusch says. He believes missing the opportunity to change the tax structure could deprive the state of much-needed revenue— money that will have to come from somewhere.

“We can have a dramatic cutback on programs and balance the budget on the backs of schoolchildren. Or, we can have a dramatic increase of income or sales tax, which will be bad for business and burden individuals,” tax expert Barusch says.

“The third alternative,” he adds, “is to make our severance taxes in line with places like Wyoming and ask [our] oil and gas folks to pay their fair share.”

Trust in Us
nSince oil, gas and minerals won’t always be there, most states have seen fit to create severance taxes and trust funds for revenues derived from those taxes. These funds, similar to what the Utah Legislature is considering, are meant to create lasting endowments for their states. That way, when a resource dries up, local economies will have more to look forward to than a hole in the ground. (Sources: Sovereign Wealth Fund Institute, Wyoming, Alaska and Alabama state offices; and Utah Legislative Research Counsel.)

Wyoming Permanent Mineral Trust Fund
Est. 1974
$3.9 billion

Invested with returns allocated in state general fund. In 2005, a $400 million endowment was started to create higher-education scholarships for Wyoming residents.

Alaska Permanent Fund
Est. 1976
$39.6 billion

Capital investments and the dividend fund which gives money back to Alaska residents, with the lowest per-resident payout being $386 in 1983, and the largest being $3,269 in 2008.

Alabama Trust Fund
Est. 1985
$3.1 billion

90 percent to the state general fund with 10 percent to the Forever Wild Land Trust for state wildland conservation.

Budget Stabilization Fund
Est. 1990
$570 million

Rainy-day fund that stabilizes budget by 2/3 vote during deficit years

Wetlands Conservation Fund
Est. 1990
$134 million

To conserve and restore Louisiana’s wetlands

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