Is Pennsylvania Wasting Its Fracking Wealth?

The state is going its own way in a plan to tax natural gas, but critics say the state is missing out on millions.

National Journal
Clare Foran
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Clare Foran
April 15, 2014, 3 a.m.

In a dec­ade, Pennsylvania has fracked its way from a minor en­ergy play­er to one of the na­tion’s largest sup­pli­ers of nat­ur­al gas. But as im­press­ive a feat as that is, the state’s toughest chal­lenge lies ahead: how to turn its en­ergy boom in­to last­ing wealth and wel­fare for its cit­izens.

Most of the na­tion’s largest en­ergy states are try­ing to make that trans­ition by way of a sev­er­ance tax — a levy im­posed on the value of the re­source pro­duced. When the tax is ap­plied to nat­ur­al-gas pro­duc­tion, the more gas that comes out of the ground, the more money goes to the state.

Un­der the lead­er­ship of Re­pub­lic­an Gov. Tom Corbett, however, Pennsylvania is one of the few ma­jor pro­du­cers that has passed on a sev­er­ance tax, opt­ing in­stead for an al­tern­at­ive rev­en­ue col­lec­tion sys­tem.

Corbett says a sev­er­ance tax would be a mis­take, and that his sys­tem is fa­cil­it­at­ing the en­ergy boom while still giv­ing the state a fair cut of its profits. But by pur­su­ing an al­tern­at­ive ap­proach, Corbett has left him­self vul­ner­able to crit­ics who say he’s tak­ing too light a touch on the com­pan­ies de­vel­op­ing his state’s re­sources — and cost­ing Pennsylvani­ans mil­lions in the pro­cess.

De­term­in­ing who is right — the gov­ernor or his crit­ics — re­veals the dif­fi­culty of cal­cu­lat­ing just how much frack­ing does to fill a state’s cof­fers and yields a ques­tion with no easy an­swers.

THE CASE FOR THE CRIT­ICS

In 2012, the Key­stone State en­acted a fee on un­con­ven­tion­al wells drilled in the state. Pennsylvania’s im­pact fee is paid out an­nu­ally over a 15-year time frame at a rate that’s ad­jus­ted each year based on the price of nat­ur­al gas and the age of the well. In 2013, the fee meant that wells drilled in the state’s Mar­cel­lus shale form­a­tion came with an ad­di­tion­al $50,000 price tag.

Rev­en­ue from the fee has helped fund a broad set of pri­or­it­ies ran­ging from in­fra­struc­ture con­struc­tion and re­pair to im­ple­ment­ing en­vir­on­ment­al safe­guards. Sixty per­cent of the rev­en­ue goes dir­ectly to counties where drilling is tak­ing place, while the re­main­ing 40 per­cent is dis­trib­uted through a vari­ety of statewide pro­jects. It has made a sig­ni­fic­ant im­pact in com­munit­ies that have been the most heav­ily af­fected by drilling. In some of the counties with the highest well counts the fee has pro­duced an an­nu­al check whose value ap­proaches half of the jur­is­dic­tion’s total op­er­at­ing budget.

But rev­en­ue gen­er­ated by the fee has not kept pace with pro­duc­tion. Gas pulled from the ground in Pennsylvania doubled from 2011 to 2012, soar­ing from a yield of roughly 1 tril­lion cu­bic feet the first year to more than 2 tril­lion the next. Yet the flow of money from the im­pact fee ac­tu­ally de­creased in that same in­ter­val. The state brought in roughly $204 mil­lion from the fee in 2011. The fol­low­ing year, rev­en­ue dropped to $202.5 mil­lion.

Between 2012 and 2013, rev­en­ue from the fee in­creased by 11 per­cent, jump­ing to a re­cord high of close to $225 mil­lion last year. But the leap was sig­ni­fic­antly smal­ler than the over­all rise in pro­duc­tion. Nat­ur­al-gas out­put in­creased by more than 37 per­cent in the same peri­od, when it rose to 3.1 tril­lion cu­bic feet, ac­cord­ing to Pennsylvania state es­tim­ates.

Skep­tics say the math doesn’t add up. “We haven’t cap­tured the gains we’re see­ing in pro­duc­tion and that means we’re es­sen­tially giv­ing away money right now that oth­er states are col­lect­ing,” said Shar­on Ward, the ex­ec­ut­ive dir­ect­or of the left-lean­ing Pennsylvania Budget and Policy Cen­ter.

A re­port re­leased last month by a state data agency has ad­ded fuel to the fire. It con­cluded that Pennsylvania has the low­est ef­fect­ive tax rate on nat­ur­al-gas pro­duc­tion in a sur­vey of 11 of the largest shale-gas-pro­du­cing states.

The ana­lys­is — done by the Pennsylvania In­de­pend­ent Fisc­al Of­fice — was an at­tempt to com­pare tax rates in the pro­du­cer states, which range from Louisi­ana, which ranked as the second-largest nat­ur­al-gas-pro­du­cing state in 2012, ac­cord­ing to the En­ergy In­form­a­tion Ad­min­is­tra­tion, to Ohio, which came in at No. 19 on the same list of nat­ur­al-gas heavy hit­ters. And the res­ults — at least for Pennsylvania — were not pretty.

The agency cal­cu­lated an ef­fect­ive tax rate on nat­ur­al-gas pro­duc­tion for each state, a met­ric de­term­ined by adding up the value of taxes and fees levied on an un­con­ven­tion­al gas well di­vided by the mar­ket value of nat­ur­al-gas pro­duc­tion from the well over a 30-year peri­od. (The re­port did not, however, in­clude rev­en­ue gen­er­ated by cor­por­ate in­come tax, and Pennsylvania has one of the highest cor­por­ate tax rates in the na­tion at 9.99 per­cent.)

By this meas­ure, Pennsylvania had the low­est ef­fect­ive tax rate per well out of all the states when state and loc­al taxes were ad­ded in­to the equa­tion. The re­port cal­cu­lated the ef­fect­ive tax rate for an un­con­ven­tion­al well in the Key­stone State at only 0.6 per­cent un­der a high-pro­duc­tion, high-price scen­ario. The second-low­est rate came in at 1.4 per­cent in Ohio, while West Vir­gin­ia topped the charts with an ef­fect­ive rate of 7.5 per­cent.

THE CASE FOR CORBETT

But when it comes to the policy, Corbett stands be­hind his sys­tem, and he stands be­hind it loudly. The Re­pub­lic­an in­cum­bent is fa­cing a host of Demo­crat­ic chal­lengers in what is sure to be a close race for reelec­tion — and talk­ing up the fee every chance he gets.

“Thanks to Tom Corbett … Pennsylvania has … be­come Amer­ica’s second-largest pro­du­cer of nat­ur­al gas, and the be­ne­fits to Pennsylvani­ans have been re­mark­able,” a nar­rat­or in­tones in a Corbett cam­paign com­mer­cial be­fore go­ing on to say that the Mar­cel­lus shale gas in­dustry has “res­ul­ted in over 400 mil­lion dol­lars re­turned to loc­al com­munit­ies for loc­al pro­jects.”

The gov­ernor, in a bid to get more bang for his polit­ic­al buck, prefers to look at the num­bers in ab­so­lute terms and takes is­sue with ef­forts to com­pare the im­pact fee to tax policy in oth­er states. Corbett’s deputy chief of staff and en­ergy ex­ec­ut­ive, Patrick Hende­r­son, called the IFO re­port an “abysmal fail­ure.”

His reas­on­ing and that of the in­dustry is that the im­pact fee is fun­da­ment­ally dif­fer­ent than a sev­er­ance tax. “From the be­gin­ning the ef­fort to try to shoe­horn these two dif­fer­ent met­rics to­geth­er to bring about a com­par­is­on was fatally flawed,” Hende­r­son said.

The Mar­cel­lus Shale Co­ali­tion, a nat­ur­al gas in­dustry trade as­so­ci­ation, and the gov­ernor’s of­fice also say the re­port fails to draw an apt com­par­is­on by leav­ing out the im­pact of the Key­stone state’s cor­por­ate in­come tax, which is one of the highest in the na­tion, along with a slew of oth­er state-spe­cif­ic pro­vi­sions like the fact that Pennsylvania makes the in­dustry bear the cost to re­pair roads when they be­come dam­aged due to nat­ur­al-gas pro­duc­tion activ­ity.

An­oth­er de­fense offered up by the ad­min­is­tra­tion is that the gov­ernor be­lieves a sev­er­ance tax would send the wrong sig­nal to the in­dustry — and could even drive drillers out of town.

“There’s al­ways been the men­tal­ity in Pennsylvania that if you have a good thing you tax it to death. We don’t want to do that this time around. We have an op­por­tun­ity to get this right so that cap­it­al con­tin­ue to flow in­to the state and we can cre­ate eco­nom­ic op­por­tun­ity rather than crush it,” Hende­r­son said.

WHO’S RIGHT?

There’s no easy an­swer. It’s ex­tremely dif­fi­cult — if not im­possible — to fairly com­pare rev­en­ue and tax­a­tion from nat­ur­al-gas pro­duc­tion across state lines, as each state has dif­fer­ent levels of pro­duc­tion and its own idio­syn­crat­ic tax code.

Calv­in Kent, a pro­fess­or at West Vir­gin­ia’s Mar­shall Uni­versity and a tax-policy spe­cial­ist, says Corbett’s ar­gu­ment that high­er taxes dampen busi­ness pro­spects has some valid­ity, but it’s not as com­pel­ling a case as the gov­ernor may think.

“The main de­term­in­ant of drilling activ­ity is the price of nat­ur­al gas, and the gas is go­ing to be where it’s go­ing to be no mat­ter what,” Kent said. “So if the goal here is to raise rev­en­ue for the state then clearly Pennsylvania is for­go­ing an op­por­tun­ity.”

Corbett’s Demo­crat­ic chal­lengers see the de­bate as an op­por­tun­ity and they’ve been quick to weigh in. Each one of the four ma­jor con­tenders say they would en­act a sev­er­ance tax if elec­ted to of­fice, and pledge to use the tax to fund edu­ca­tion and in­fra­struc­ture as well as oth­er state pri­or­it­ies.

Yet while many claim Corbett could be do­ing more, it’s equally clear his policy has yiel­ded some be­ne­fits for Pennsylvania. And without the gov­ernor, the cur­rent fee would be but a fantasy. He helped shep­herd the nat­ur­al-gas rev­en­ue-col­lec­tion mech­an­ism through the state Le­gis­lature — a feat his Demo­crat­ic pre­de­cessor, former Gov. Ed Rendell, was un­able to achieve.

“Some people think taxes should be high­er. but the bot­tom line is that the dol­lars gen­er­ated by the fee aren’t be­ing talked about at a press con­fer­ence or on pa­per,” Hende­r­son said. “You have to ac­tu­ally be able to get what you’re pro­pos­ing across the fin­ish line or else it’s just empty air.”

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