Alaskans have a very weird relationship with our state government because very few people here own their subsurface rights.
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I own 20 acres of land in an old gold mining district. There’s evidence of old dumps (mining claims) in the valley, but it’s been decades since anyone worked the area. Why not? Because if we find gold (oil, tungsten, diamonds, or anything else of value) on our land, the State of Alaska has the dominant right to overrule my ownership of the surface and take whatever is in the subsurface.
In other words, I don’t really own the land. I pay taxes for the right to enter the surface of the land and to exclude other private individuals from the surface of the land, but at a moment’s notice the State of Alaska can become the uncontested owner of the subsurface, so it really owns the land.
Property Ownership
The Alaska system represents a third type of property ownership and is therefore unique when it comes to oil ownership and taxes.
There are two basic types of land ownership in the world. The first originated in France, where the government owns the resources. Individuals can only own the surface. (Wait, that’s not exactly Alaska’s situation). The second type originated in Anglo-Saxon England where property rights extend all the way down to the magma core. Alaska represents an odd merger of these two systems.
Under the Napoleonic Code, individuals own the land, but private landowners don’t control the subsurface strata. The government is responsible for entering agreements with companies with the expertise to develop the resources. Revenues coming from these contracts support the public coffers.
This is a form of socialism.
The Anglo-Saxon model of governance makes private property rights paramount. Most capitalist economies subscribe to the Anglo-Saxon system and the United States was, until the 1930s, the granddaddy of capitalist economies. In most states, Americans have complete ownership of their subsurface land to sell or lease those rights to others. They independently negotiate contracts with companies interested in accessing their subsurface resources. Any value created by extracting those resources belongs to the landowner and the contractors. The obligations, risks, and benefits are all owned by the individual and society hasn’t got a claim on the money earned.
The US Constitution upholds this view of property rights in the 5th Amendment “…nor shall private property be taken for public use without just compensation.” We call that eminent domain.
Petroleum Revenue
The differing views of property ownership led to different ways of developing oil fields around the world.
Under the Napoleonic Model, the nation-state is the owner. Typically the government creates a national oil company that participates in the development and production of petroleum resources. The National Oil Company creates jobs for domestic workers, manages the development of the nation’s resources, and generates profits for the government. The government then spends those profits on services for the public, as well as usually giving a really good kickback to the government officials in charge.
Entering a contract with an international oil company is a way nations bring in outside help because that company brings expertise, equipment, and capital. The National Oil Company employees work with foreign experts to gain knowledge and skills.
All of the terms and conditions are laid out in advance. The company knows the fiscal terms and knows they won’t change until the next contract negotiation. There’s an agreement on how much capital the company and the government will contribute, what the repayment terms will be, and how any profits will be shared.
The amount of risk that each party assumes is understood and the fiscal terms are well-defined and stable. There is a mutual benefit between the International Oil Company and the nation-state, as they approach the project as partners.
Concession Agreements
It costs millions, sometimes billions, to bring an oil field into production. That’s a lot of money to spend before a drop of oil starts flowing. If the whole effort fails, someone is on the hook.
Few individual landowners can afford to form an oil company to develop their resources. They may lack the experience, equipment, or money to participate in development in a meaningful way. For these reasons, private landowners don’t usually enter a joint venture with an oil company, preferring to lease their land to an oil company that agrees to assume the risk for the venture.
The oil company provides some form of compensation for the landowner. There’s usually an upfront compensation (bonus), an annual fee (rent), and a percentage of the value produced (royalty).
In exchange for temporarily giving up his mineral rights, the landowner takes none of the risks, gets a fair-market value fee, and ends up with a portion of the proceeds if the project succeeds. The company risks losing millions, but they also get a majority of the gains if the project doesn’t fail.
The oil company doesn’t pay any taxes to the landowner. Private individuals don’t have the power of taxation. The government may levy taxes on the profits, but it has no participation in the development of privately-owned resources. Oil production is just one of many businesses within its borders that are making money and are therefore subject to tax.
Alaska Is Weird!
During World War I, petroleum and other resources became extremely important to the US national defense. To control these strategic resources, the federal government passed the Mineral Leasing Act of 1920. Identifying certain resources as strategically important, coal, oil, natural gas, and some other minerals under federal land wouldn’t transfer to new owners from that point forward. They could be leased. They couldn’t be sold.
Lucky Alaska was the first state to enter the union after the Mineral Leasing Act passed, thus complicating statehood, because the federal government owned 90% of the land and the resources that lay under it. Alaska needed land in order to develop an economy. Congress agreed to allow a large land grant, but placed a condition on the 103 million acres. The federal government would transfer the subsurface rights to the State of Alaska, but these strategic products must be leased and never sold.
Section 6, paragraph (i) of the Alaska Statehood Act says:
“(i) All grants made or confirmed under this Act shall include mineral deposits. The grants of mineral lands to the State of Alaska under subsections (a) and (b) of this section are made upon the express condition that all sales, grants, deeds, or patents for any of the mineral lands so granted shall be subject to and contain reservation to the State of all of the minerals in the lands so sold, granted, deeded, or patented, together with the right to prospect for, mine, and remove the same. Mineral deposits in such lands shall be subject to lease by the State as the State legislature may direct: Provided, That any lands or minerals hereafter disposed of contrary to the provisions of this section shall be forfeited to the United States by appropriate proceedings instituted by the Attorney General for that purpose in the United States District Court for the District of Alaska.”
Alaska Statehood Act
The Alaskan people are denied ownership of their mineral rights, although in practice, the prohibition only applies to coal, oil, natural gas, oil shale, sodium, phosphate, potash, sulfur, pumice, and whatever minerals the State of Alaska decides to control.
Yet, all other resources continue to follow the Anglo-Saxon model of individual property rights, as demonstrated in Article 8, Section 11, which I won’t quote.
Unique Position
Alaska is a state within the USA, which is very much a follower of the Anglo-Saxon model. As such, Alaska must adhere to the US Constitution and live within the system of laws that govern all other states designed with individual mineral rights in mind. But those individual ownership rights are prohibited by the Mineral Leasing Act, forcing the State of Alaska and the federal government to act against the Constitution. Alaska is governed (badly) by both systems. Therefore, Alaska is forbidden from managing its resources in the way most sovereign owners manage theirs.
Then, just to make everything more convoluted, the State of Alaska has the power of taxation that private landowners don’t have.
Dependency
Alaska’s statehood is utterly dependent upon resource development, so our state constitution uses all 18 sections of Article 8 to address how the state manages natural resources.
Section 2 of Article 8 holds a vital provision:
“The legislature shall provide for the utilization, development, and conservation of all natural resources belonging to the State, including land and waters, for the maximum benefit of its people.”
Notice that it says maximum benefit, not maximum revenue. Read in conjunction with the three seemingly contradictory directions of “utilization, development, and conservation,” the legislature is required to give some weight to the value of non-monetary benefits. Additionally, Section 2 must be read with Section 1 in mind:
“It is the policy of the State to encourage the settlement of its land and the development of its resources by making them available for maximum use consistent with the public interest.”
In other words, more weight is applied to the development of our resources than to the conservation of them. In theory, an attempt to maximize state revenue collection at the expense of development could be considered unconstitutional.
Taxation
Section 2 also addresses “natural resources belonging to the state.” It makes no directive to attempt to capture the maximum benefit from federal or privately-owned resources. With regard to oil, this provision addresses the leasing of those resources. It’s a separate function of the government, which is tasked with controlling ownership of those resources. This is an important proviso because it is not attempting to adopt some type of communal ownership.
But — in point of fact, the people of Alaska constitute the State of Alaska, so in reality, we hold the mineral rights in common. I’ll address the Permanent Fund and the dividend accruing from it in a later article.
Like a private landowner in the Lower 48, the State of Alaska leases its resources to private oil companies. Once the resources are under lease, the rents, royalties, and bonus payments are compensation for giving up the property rights to a leaseholder while the lease is in effect. Management of those lands and leases are the responsibility of the government as the owner, which is tasked with enforcing the terms of the contracts to assure it receives fair compensation. The royalty was set at 12.5% at the wellhead.
Supposedly, the government treats an oil-producing company like any other business. Oil producers create jobs and economic value by conducting that business in the State of Alaska.
And this is where Alaska is really unique. Other petrostates include taxation within their production-sharing agreements, but that’s not allowed in the United States, and Alaska’s Constitution Article 9, Section 1 forbids it. But Alaska does tax oil companies. Taxation is always regressive. If you want less of any sort of economic activity, tax it. In essence, by taxing oil companies, the State of Alaska is not maximizing benefits from state-owned resources, a violation of our state constitution.
Alaska’s entire system is quite unique within the American system because its public oil ownership makes it unlike any other state in the Union. Its inability to include taxation in its oil contracts also makes it unlike any other nation-state with oil ownership. Since taxation must be done separately from production-sharing agreements, Alaska cannot provide fiscal certainty to oil producers, hence creating an unstable petroleum development scheme.
So, instead, Alaska negotiates royalty contracts with oil companies, just like private landowners in the rest of the country do. That’s how we get value out of our ownership. But there is tremendous pressure on the State government from the people of Alaska to tax the oil companies because some of us demand Cadillac services from the State government and don’t want to pay for it. And then there are libertarians like me who don’t want government-provided services and also don’t want to pay for them.
Alaska can’t really compare itself to other countries that use fiscal policies not allowed in Alaska, but we also can’t really compare our fiscal system directly to any other state in the United States.
And consequently, Alaska is stuck on the horns of a dilemma and tearing itself apart to reach a conclusion. Everybody agrees the oil companies aren’t paying enough. They get too much in production credits. The State of Alaska pays oil companies $8 per barrel in production credits (by comparison, Iraq pays $2 a barrel). Every time the Legislature starts talking about reducing the credits, the companies slow production to scare the Legislature into not reducing the credits. Meanwhile, the people of Alaska — who are the ostensible owners of oil — are being told we want more services at ever-increasing costs and we should have to pay taxes to support them. But we’ve already given up our ownership in the subsurface wealth of our property, which is something other Americans do not face.
Again, more evidence that we remain a colony of the United States and second-class citizens within the Republic.