As I noted in a previous essay, rising gas prices inevitably mean that our political leaders start looking to assign blame. The annual ritual has been to call the CEOs of the biggest oil companies in the U.S. to Washington so politicians can engage in a bit of political theater. The 2011 dog and pony show has now been scheduled:
Oil-industry CEOs to get grilled by Congress
At a Senate hearing, the CEOs will be pressed to explain why gasoline prices are so high — they average nearly $4 in most places and have topped $5 a gallon in few cities. Democrats are also planning to pressure the companies to renounce long-standing government subsidies totaling billions of dollars a year.
Expected to appear are the chiefs of ExxonMobil Corp., Chevron Corp., BP PLC, Royal Dutch Shell, and ConocoPhillips. The CEOs of the same five companies appeared at a similar congressional hearing in 2008 when gasoline prices soared.
Congress wants the oil companies to defend their tax breaks. I have written about these tax breaks recently, and some of the responses to that essay were amazing. There are certainly a number of people — in fact maybe even the majority — who believe that we can take money from the oil companies and move it into the tax coffers, and the only consequence will be moving money from A to B. These people never consider that the response from the oil industry may be undesirable with respect to future tax revenues (what Hugo Chavez has done in Venezuela is a perfect example), and therefore eliminating a $1 billion tax deduction may not actually generate $1 billion of revenue. In fact, it might not generate any new revenue.
The goal of tax policy should be to maximize tax revenues, but that means carefully considering the impact of changing the tax code. For instance, I think most people would agree that increasing taxes on oil companies to 100% of their income would result in zero revenue, as the oil companies would simply go out of business or move their operations overseas. Setting the tax rate at 0% would be great for the oil companies, but then the government revenues would again be zero. Somewhere in between, the tax code is supposed to maximize the government revenue. The politicians with their eyes on these tax breaks only see higher revenues, while those defending the tax breaks argue that the impact may be higher gas prices and loss of jobs.
There is also apparently a large category of people who think that 1). Oil companies pay little in taxes, and/or 2). The reason for record oil company profits is the tax breaks they enjoy. In fact, I read a recent essay that claimed that ExxonMobil paid federal taxes at the paltry rate of 2.3%. (That link has gone dead; my guess is that ExxonMobil threatened to sue him for spreading blatantly false information). ExxonMobil, on the other hand, claims that they are one of the largest taxpayers in the U.S., and that their overall tax rate is 47%. So there would seem to be a vast disconnect between what ExxonMobil claims they pay, and what people think they pay.
Just as I was pondering the question of ExxonMobil’s taxes, I received an e-mail that the American Petroleum Institute would be hosting a blogger call with ExxonMobil to answer questions about their taxes. I hadn’t participated in one these blogger conference calls in a long time, but this one was certainly of interest to me. The only problem was that it was at 10 a.m. Eastern Standard Time, which is 4 a.m. for me here in Hawaii. So I decided to submit my questions by e-mail. Here is what I submitted:
Questions on ExxonMobil’s Taxes
I am sincerely interested in cutting through the misinformation about the taxes that ExxonMobil pays, but to do so requires answers to some very specific questions. Here they are:
1. It was widely reported that ExxonMobil paid no U.S. income taxes for the 2009 U.S. tax year. Reportedly this was because ExxonMobil overpaid taxes in 2008. Could you break down the taxes in the form of U.S. income taxes paid versus U.S. income for the past five years? That way we can get an idea of the average tax rate over time.
2. A website called http://tax-evasion.org/ named ExxonMobil #2 on their list of companies that avoided paying taxes. GE was #1. They reported that ExxonMobil paid $1.27 billion in 2010 in federal income tax. They reported that as a tax rate of 2.3% (not sure how they came up with that number given an income that I believe was $30.46 billion). I presume they are looking at U.S. income taxes, but global income, but can you comment on their claim (found in full at Who’s #2 in Tax Avoidance? How About Exxon – This is the aforementioned link that is now dead).
3. Can you break down U.S. income versus total income for the past five years?
4. Can you categorize the kinds of taxes you have to pay that other industries don’t pay?
5. How does your net U.S. income tax rate compare to that of other Fortune 500 industries?
They answered most of my questions during the call, and I want to excerpt the answers below. If you are interested in seeing the transcript for the entire call, it can be found here. I won’t offer any specific commentary on their answers right now; I will just present them as they gave them.
Speaking for ExxonMobil were Ken Cohen, Vice President of Public and Governmental Affairs, and Jaime Spellings, Vice President and General Tax Counsel.
On the questions of income taxes over the past five years and income from outside the U.S.:
10:32 MR. COHEN: This is Ken. Thanks, Jaime. Let me add to that, too, just to get us back onto the bigger picture of – you know, we see a lot of reporting that makes the false claim that the industry and our company, in particular, aren’t paying the fair – our fair share of taxes, and that’s just false. You know, let’s just look, for example – I’ll give you first the – let’s look at the first quarter of this past year, and then let’s take a historical look. We just announced our first-quarter earnings. And we did make – we made $10.7 billion in the first quarter of this year. That 10.7 billion (dollars) was on revenues of 114 billion (dollars). And on that 114 billion (dollars), our total expenses were 77 billion (dollars) excluding taxes and duties. And then, we paid government taxes and duties around the world of 28 billion (dollars), leaving the $10.7 billion of earnings for the quarter – so that – I’ll go back to that tax bill: 28.2 billion (dollars) on a global basis.
Now, if you – what we always need to do is focus on the U.S. part of our business because I said at the beginning that 75 percent of our earnings come from outside the U.S. In the first quarter, we made $2.6 billion in the U.S., and our U.S. tax burden for that quarter was $3.1 billion. Now, let’s put that in a broader perspective. If we go back and look at the period 2005 to 2010 and look at the United States, our income before taxes was 67 billion (dollars), and our income taxes for that same period – that includes federal and state income taxes – were $22 billion, for an effective tax rate of over 32 percent. So those are the facts.
On the question about ExxonMobil being #2 behind GE for tax avoidance:
34:55 MS. VAN RYAN: Let me interject a question here, because we’ve talked about the numbers to a great degree here today, but I guess the basic question is, so what do you say to people who claim that ExxonMobil is number two on a list of companies that absolutely isn’t paying taxes this year, with G.E. being number one? And there’s a website online that alleges that, and I did have a blogger send in a question about that. What do you say, Ken?
35:22 MR. COHEN: Liar, liar, pants on fire. (Laughter.) It’s just not true. You know? I– we’ve – the blog I do points that out. We’ve put the numbers out. It’s just – I don’t know what it is, but it’s just something that is irresistible to whale away on this topic with – you know, the inconvenient truth here is that we are a very large taxpayer. And I’ve given you the numbers on what our – over the last five years, what our U.S. income taxes were versus our U.S. earnings, and I – the effective tax rate during that period in the United States was 32.4 percent during that period. Those are the facts.
On the question of paying zero income taxes in 2009:
36:19 MR. SPELLINGS: I mean, I think the one – all the numbers that we’re talking about come from footnote 18 of our 10K. And you can – you know, we can supply a table – I mean, we’ve tabulated all these numbers from footnote 18. You know, in 2009, in the U.S., the reported tax expense was basically zero. And the reason why was that we saw – we resolved several open years with the IRS for old years going back to pre-2000, and we resolved those favorably. So the IRS adjustments were much lower than we thought they were going to be. So that reduction in our tax expense all showed up in 2009. It was not attributable to 2009 activities. The tax expense attributable to our 2009 activities was about $500 million. But when you took that 500 million (dollars) and you added in all of the favorable audit settlements from those 35 people who camp out in our office every day, that’s what brought it down to zero. And so you can look at that – those numbers in the 10K and come up with total income taxes in the U.S. of 6 billion (dollars) in 2005, 5 billion (dollars) in 2006, 5 billion (dollars) in 2007, 4 billion (dollars) in 2008, and then in 2009, in the depth of this – of the financial crisis, our earnings were down and our taxes were down.But that’s why we like to talk about these numbers on a five-year period or even a longer period. And you’re always going to be able to – you know, in a big table of numbers, you’re always going to be able to find one single number that’s – you know, to try to make a point on. But –
38:07 MR. COHEN: Yeah. And to finish that, Jaime, if we did not have the adjustment for those pre-2000 – year 2000 returns, on the tax exposure of 500 million (dollars), that would have been for that year, in that down period, an effective tax rate of 19 percent. Over 19 percent. So even in that year, that would have been the tax exposure.
They didn’t answer the question of how their taxes compare to other Fortune 500 companies, but this for me is the real key to understanding whether they are being taxed fairly. I have been unable to find a current source for that either. They did mention that their profit margin was 9%, and that put them in the middle of the pack in the Fortune 100:
24:35 LEW WATERS: Hi, Jane. Lew Waters here. I’d like to get a clarification going back to earnings, and taxes being higher than earnings. In their blog post on this on Perspectives, it also says that during the quarter, we made about 9 cents for every dollar of sales. Now, is that 9 cents after expenses, before taxes, or just – how does that work out?
25:00 MR. COHEN: That’s at the end of the day, after all expenses. Yeah, you know,our total return as a business, our margin, profit margin, is 9 percent. Little over nine. But the round figure is 9 percent.
25:10 MR. WATERS: That’s after taxes?
25:16 MR. COHEN: That’s our profit. And then you have to put that profit margin in comparison with other large Fortune 100 companies, and that profit margin puts us right in the middle. And I think what attracts attention is that our business is very large.
There were some other comments in the call that touch upon some of the recent subsidy discussions we have had here. I will excerpt some of those as well.
On Section 199, which CNN identified as the single largest tax break:
04:18 JAIME SPELLINGS: If you look at the structure of 199, it has a general provision that applies to all manufacturing, including farming, mining, fishing, video game development, Hollywood movie production. And so it has a very general provision. And inside that general provision, oil and gas obviously qualifies as an extraction activity. There is a provision much later in the details of Section 199 that for oil and gas only –this is the only activity that’s singled out in Section 199 – it actually reduces the value of the manufacturing deduction by a third. So if everyone else gets a 9-percent manufacturing deduction, we get a 6-percent manufacturing deduction.And one of the proposals that’s currently being talked about on the Hill – this was the press release from Senator Baucus – would take away the 199 deduction entirely for just five companies. So now 199 already discriminates against oil and gas compared to all other industrial activities. The proposal currently being floated on the Hill in the Senate Finance Committee is to further discriminate against five companies only in the oil and gas business.
On the deduction for percentage depletion (continuing from the previous section):
Percentage depletion says that if you’re in the extraction business and you have gross income of a hundred dollars, you get to take a fixed percentage of that production as a(n) expense on your tax return, or as a deduction on your tax return. That is a preference because it is a(n) expense or deduction you get to take that’s not related to your actual cost; it’s related to your revenue.
This is something that’s been in the code since the very beginning. It applies to all extraction activity in the U.S. So coal, steel, iron, copper, silver, gold, anything that you’re pulling out of the ground – peat moss, clamshells, caliche – anything that you’re pulling out of the code, you get to take percentage depletion.
Now, within that framework, oil and gas is the only mineral that has a listed deduction for percentage depletion. And oil and gas is limited to a thousand barrels a day. So if you work out the math, and you take a thousand barrels a day, even at $100 a barrel of crude, the maximum value for any taxpayer is between 1 (million dollars) and $2 million a year from percentage depletion.
And again, oil and gas is the only one that’s limited. You can get a coal percentage depletion that’s, you know, worth a hundred million dollars a year, but you’re never going to get an oil and gas percentage depletion deduction that’s more than 1.5 million (dollars).
Now, I saved the best for last: Since 1975, large, integrated oil and gas companies get no percentage depletion – zero, none. So when we purchased XTO in last summer, XTO was getting percentage depletion out of that thousand barrels a day of oil production. The minute they joined the XTO – sorry, the minute XTO joined the Exxon Mobil group, they immediately lost their percentage depletion deduction. So go back to the big picture: Oil and gas has less favorable rules than other similar industrial activities, and large, integrated producers like ExxonMobil actually have less favorable treatment than the rest of the oil and gas industry.
The also discussed the fact that the proposals being floated single out specific companies for punitive taxation, while sometimes leaving even foreign competitors untouched:
15:58 MR. COHEN: In fact, you know, it’s interesting – we were – I just looked at that over the last couple of days. This proposal doesn’t hit – if you’re looking at the top five, for example, retailers, I don’t think many of you would realize that Walmart is one of the – now in the top-five retailers of gasoline in the United States. Marathon is not included in the list; they also are one of the top retailers.If you look on the refining side, Valero and Marathon are not included in these tax proposals.
And I don’t say that to have the arm and the – of the federal government reach out to touch these other companies, I mention that to show the whimsy of this particular proposal. If you look in the state of – at Baucus’ home state, we have a refinery that would be impacted, and a competitor’s refinery across the street would not be impacted. And that means that our workers in our refinery in Senator Baucus’ home state will be at risk because that refinery becomes less competitive.
And then, we have the interesting situation in Chalmette where the Venezuelans would not be subject to the same provisions that would be applied to our operations in Louisiana. On the natural gas side, of the top-five producers of natural gas, only two would be impacted by this proposal. The other three top producers of natural gas would not, meaning that two of the producers of natural gas, which is going to be the future for electricity generation, going to be producing electricity with a lower CO2 input, be cleaner energy – but you’re putting at a disadvantage two of the top producers, and giving your cost advantage to three of the top five.
Finally, on the profitability of their downstream operations in the U.S.:
20:36 MR. COHEN: The thing that is the reality here, number one, is of course the challenge of talking about a business with such large numbers. If you’re a refiner, you’re caught between two huge numbers in the current environment. One big number is the price of crude oil. And for a large refiner buying a lot of crude oil, that is a big cost at the front end.
And then the other big number is the cost of running a large, complex refinery. These areas sophisticated and as complex a manufacturing operation as one could find anywhere in the world, subject to extensive government regulations and controls. So those two – between those two costs, your cost of the – of acquiring the raw material, and the cost of keeping the doors open, for ExxonMobil, it costs us a billion dollars a day to keep our doors open.
We then ultimately recover those costs, if you will, if we’re able to, from the marketplace. And in the downstream part of our business, which is refining and marketing of the products we make, in the U.S., that has not been a profitable business over the last five years. In fact, the last – well, excuse me – over the last five quarters, we’ve only made money in one of those quarters in the last five, if I’m looking at the number right. And in the first quarter of 2010, total downstream – I believe we reported a loss for our downstream, total downstream operations. [RR: He later corrected this to “five out of the last six quarters ending with the first quarter in 2010, we only made money in the downstream in the U.S. in one of those quarters”.]
So this is a very tough business. It is a low-margin business. We made – in 2010, on average, we were keeping about 3 cents a gallon, comparing – that is, that returned to ExxonMobil from the sale of a gallon of gasoline, whereas the federal government by statute was keeping 18.4 cents a gallon on every gallon sold. And then, the state governments – the range varies, of course, depending upon the state. But if you’re in a state like New York or a state like California, the total tax take is in excess of 60 cents a gallon.
I’m just – I don’t – I just point those numbers out. In the first quarter of 2011, I believe we were keeping 7 cents a gallon. That was our profit on a gallon of gasoline.
So there you have ExxonMobil’s answers to questions about their earnings and taxes, and likely a preview of what you will see at the Senate hearing (likely fodder for a future blog).