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OFFICE OF TAX APPEALS STATE OF ALASKA
CONCLUSIONS OF LAW AND ORDER 1/
I This appeal challenges a tax assessment the Department of Revenue, Division of Oil and Gas ("Department"), issued against the Marathon Oil Company ("Marathon") for the tax years 1986-1991. In 1991, the Department audited Marathon’s tax returns for its Cook Inlet oil and gas field production 2/ and assessed Marathon $32,915,416 in additional taxes and interest. The Department’s assessment was based, in part, on a determination that one gas producing platform in the Trading Bay Unit, the "Steelhead" platform, should be segregated from the rest of the field for taxing purposes. However, a greater portion of the assessment is due to the Department’s determination that Marathon had improperly counted certain wells for the purpose of computing taxes. In 1996, Marathon paid the assessment under protest. Both parties filed motions for summary judgment, which were denied. The case proceeded to a formal hearing pursuant to AS 43.05.455, which was held during the five week period April 20, 1998 - May 27, 1998.3/ For the reasons stated in this decision and order, the Department’s assessment of Marathon’s oil and gas production taxes for the tax years 1986-1991 is SUSTAINED in part and REVERSED in part.
ALASKA'S OIL AND GAS PRODUCTION TAX STATUTES Prior to 1977, Alaska had a "stair-step" method of taxing oil and gas production. Under this approach, production was taxed at different rates as the volume of production increased. Regulations then in effect treated what are known as "dual" or "multiple completion" wells as two "wells" for tax purposes so long as hydrocarbon from each string was not commingled within the well bore.4/ At that time, Alaska’s only principal oil and gas fields were in Cook Inlet, where a number of multiple completion wells were in production. The discovery of significant reservoirs of oil and gas on the North Slope prompted administrative and legislative reconsideration of Alaska’s oil and gas taxation statutes. (See, e.g., "Alaska's Oil & Gas Tax Structure: A Study with Recommendations for Improvement," Exhibit 22.) In the mid-1970's, the belief within the Department of Revenue was that taxes could be increased without deterring industry production. In 1976, then Director of the Petroleum Revenue Division, Thomas K. Williams, conceived the idea of a tax rate which would decline as production declined, and in this manner assure both production and tax revenue until a field or reservoir reached the point at which revenues from production could no longer cover operating costs. (Williams: Tr. 350-354.) This point is commonly recognized as the "economic limit" or "break-even point" of a producing oil or gas field. Williams’ idea was distilled into a formula which scaled a tax down to zero as production reached the economic limit. This became known as the "economic limit factor" ("ELF").5/ The ELF was adopted by the Alaska Legislature in 1977 as part of a comprehensive revision of Alaska oil and gas taxation statutes. See AS 43.55.013. The ELF for gas is obtained by subtracting from the number one the product of "monthly production rate at the economic limit" divided by "total production". AS 43.55.013(c). This fraction is then multiplied against the nominal tax rate and the resulting rate is then applied to the volume of production to determine the tax. The "monthly production rate at the economic limit" for gas is presumed to be 3000 Mcf times the number of "well days" of operation during the month the tax is to be paid. AS 43.55.013(g). The ELF for oil is calculated in a similar, but not identical, fashion.6/ The "monthly production rate at the economic limit" for oil is presumed to be 300 barrels times the number of "well days" of operation during the given month. AS 43.55.013(d).7/ Consequently, the ELF is proportional to the number of well days reported. The greater the "well days," the lower the ELF. The lower the ELF, the lower the tax. The number of "well days" the producer reports, therefore, is a significant factor in determining the amount of tax to be paid. Regulations were adopted in 1977 to implement the new production tax statute.8/ As originally promulgated, the only regulation regarding how to count well days for ELF purposes provided:
A. The Segregation Issue The production tax statutes also give the Department discretion to "aggregate" or "segregate" properties for the purpose of determining the ELF. See AS 43.55.013(j) (providing that the Department may "segregate a lease or property into two or more parts" for ELF purposes where "two or more economically independent oil or gas production operations are being conducted on it"). Under this authority, the Department "segregated" the gas production of Marathon’s Steelhead platform from other Marathon platforms producing in the Trading Bay Unit in Cook Inlet. This segregation accounts for approximately $5 million of the protested $33 million assessment. Marathon challenges the segregation decision as arbitrary and capricious and an abuse of discretion. The Department’s interpretation of its "well day" regulations as they apply to "dual" or "multiple completion" wells is the heart of the parties’ dispute. A number of Marathon’s wells in Cook Inlet produce oil or gas from two tubing strings inside a common well bore, each of which typically produce oil or gas from a separate reservoir. These are called "multiple completion" or "dual completion" wells.11/ Marathon counted such wells as two "wells" for production tax purposes, i.e., it counted each separate completion as a "well" for ELF purposes. By doing so, Marathon calculated a lower production tax than if it had only counted these well bores as only one "well". Until 1995, no state regulations defined "well" for production tax purposes. The Department’s assessment against Marathon is based on its belief that the term "well" in the "well day" regulations means a single hole in the ground for the purpose of producing oil and gas regardless of the number of tubing strings within the well bore. The Department believes that this interpretation should apply to both the pre-1988 and post-1988 "well day" regulations. The Department believes that such an interpretation is consistent with the purpose of Alaska’s oil and gas production tax statutes. Marathon primarily challenges the "well day" regulation on two grounds: It argues that: (1) dual completion wells are, in effect, two wells and should be treated as such; and (2) its method of "well" counting is consistent with prior Department policy and industry practice. The company further argues that the amended 1988 "well day" regulation is an illegal tax increase. In addition to contesting the Department's interpretation of the "well day" regulations, Marathon advances a number of theories why the tax assessment should not be sustained, even if the Department's interpretation of the "well day" regulations is upheld. Marathon asserts that the Department's assessment is an impermissible, retroactive application of an agency adjudication (see, in the matter of Chevron USA, Inc., Dept. Of Revenue Decision No. 94-071 (June 24, 1994)), and of regulations adopted in 1995. Marathon also claims that principles of equitable estoppel should bar the Department's assessment. This argument is based principally on Marathon's claims that in 1979 the company was told by the Department that the tax reporting practices now challenged by the Department were correct.
A. Is the Department’s Decision to Segregate the Steelhead Platform Unreasonable?
The decision of whether to segregate or aggregate "two or more leases or properties . . . for the purposes of determining economic limit factors and applying them" is squarely within the Department’s discretionary power. See AS 43.55.013(j). The Department’s decision to segregate the Steelhead platform from the rest of the Trading Bay Unit, therefore, is appropriately decided under the "reasonable basis" standard. See AS 43.05.435(3) (providing that Department decisions on matters "for which discretion is legally vested in the Department of Revenue" should be upheld "unless not supported by a reasonable basis"). Accordingly, it will be upheld "unless it is unreasonable." Northern Timber Corp. v. State, 927 P.2d 1281, 1284 n. 10 (Alaska 1996); see also Trustees for Alaska v. Gorsuch, 835 P.2d 1239, 1243 (Alaska 1992) (discussing appropriate standard of review for agency decisions involving "complex subject matter or policy considerations" as ensuring decision was not "arbitrary, capricious or without reasonable basis"); Jager v. State, 537 P.2d 1100, 1107-08 (Alaska 1975) (noting that reasonable basis standard is similar to the standard of "'unreasonable, arbitrary, and capricious action’ under which actions committed to agency discretion are traditionally reviewed . . . ." ). For the reasons discussed below, I conclude that the Department’s decision is reasonable. Most of the tax assessment at issue in this appeal concerns gas production. Cook Inlet has a number of gas producing fields, including the Kenai Gas Field, the Beluga River Field, the Swanson River Field, and the McArthur River Field. The McArthur River Field is offshore and produces both oil and gas. Marathon’s production in this field is from four offshore platforms, named the Dolly Varden, the Steelhead, the King Salmon and Grayling. The gas accumulations in the field lie in what are called the Grayling Gas Sands ("GGS") found in the Middle Tyonek Formation. Older geologic strata in this field also contain oil producing zones, the "G" pool, i.e., the "Hemlock" pool, and the "West Foreland" pool. (Exhibit 784.) The Steelhead platform was the last of Marathon's four McArthur River field platforms to be built. Prior to the construction of the Steelhead platform in 1988, the majority of production from the McArthur River field was oil. The gas also produced from the Dolly Varden, King Salmon and Grayling platforms was mostly what is called "casinghead gas" or gas produced in association with oil. This gas is "wet" with appreciable amounts of natural gas liquids and needs to be separated. Most of the gas produced prior to the onset of production from the Steelhead platform was used by Marathon and other operators in the field to fuel platform operations and provide gas lift. (Kirchner: Tr. 266.) The gas was not sold commercially to third parties. Id. The GGS, however, yield "dry" gas, that is, gas consisting chiefly of methane. This type of gas is readily suitable for commercial sales. The Steelhead platform was built specifically for the purpose of producing gas from the GGS for commercial sales. (Kirchner: Tr. 267.) Steelhead gas is now distributed to Anchorage utilities though the Cook Inlet Gas Gathering System ("CIGGS") and to Marathon’s liquid natural gas ("LNG") facility for sale. After the Steelhead platform came on line, gas production dwarfed oil production in the McArthur River field and 99% of this gas sold was produced from the Steelhead platform. (Exhibit 773.) The four platforms, however, produce from a single "unit", known as the Trading Bay Unit formed by producers in 1967. (Kirchner: Tr. at 122-125, 136.) Unitization in a field occurs by agreement among producers with concurrence from the Alaska Oil and Gas Conservation Commission. Written operating agreements govern the activities of producers within a "unit." (See Exhibit 4.) Because the four McArthur River Field platforms are all within the Trading Bay Unit, Marathon has historically filed one "Schedule C,"12/ reporting the gas production from all four platforms together. As discussed above, the Department's decision to segregate production from the Steelhead platform must be upheld "unless not supported by a reasonable basis." AS 43.05.435(3). Marathon has failed to prove the Department’s decision unreasonable. On the contrary, the Department's decision to segregate Steelhead gas production is based on sound facts. Marathon and Unocal built the Steelhead platform for a different purpose than that served by other platforms within the unit. ( Sentence redacted pursuant to protective order regarding Exhibit 708.) No less than 99% of the commercially sold gas in the field comes from the Steelhead platform. (Scott: Tr. 2436-2437.) The gas produced from the other platforms is of a different type (casinghead gas) and is used for a different purpose (to support oil production). Marathon itself acknowledged that the principal purpose of the King Salmon, Grayling and Dolly Varden platforms was to produce oil from the Hemlock, West Foreland and G pools, and that the principal purpose of the Steelhead platform was for the production of gas from the GGS for commercial purposes. (Kirchner: Tr. 276-277; Exhibits 777, 805.) For these reasons, the Department's decision to segregate production from the Steelhead platform is reasonable and is SUSTAINED. Resolving Marathon’s protest of the Department’s interpretation and application of the "well day" regulations is more complex. The Department believes that the proper construction of both the pre-1988 and post-1988 "well day" regulations is by reference to the term "well". The Department: (1) defines "well" according to its ordinary and common meaning, and (2) believes that the application of this definition leads to taxation consistent with the purpose of the ELF. Marathon argues in response that: (1) the company reported well day counts under the pre-1988 regulations in a manner consistent with Department's audit practices; (2) the post-1988 "well day" regulations are illegal and therefore the company's method of reporting under the pre-1988 regulations should apply to the entire tax period; (3) "well" has no plain meaning; and (4) taxation of dual completion wells as two wells more appropriately considers the producer's true production costs.
(a) The pre-1988 "well day" regulation contains a material ambiguity.
A statute or regulation is ambiguous if it "is susceptible of two or more conflicting but reasonable meanings." See, e.g., State v. Andrews, 707 P.2d 900, 908 (Alaska App. 1985). Thus, it is necessary to first determine if Marathon and the Department have each presented "conflicting but reasonable" readings of the pre-1988 "well day" regulation. Marathon argues that the regulation’s reference to the reporting practices of the Alaska Oil and Gas Conservation Commission (AOGCC) leads to the reasonable conclusion that each completion is to be counted as a "well" for ELF purposes. This is because each "completion" into a separate reservoir is reported separately on the AOGCC's Monthly Production Report, Form 10-405.14/ Form 10-405 is submitted with the monthly production tax returns as substantiation for the "well day" count used to compute the ELF. Indeed, prior to 1991 the Department’s practice was to accept the AOGCC report count of "well days" explicitly for this purpose. The Department counters, however, that the commonly understood meaning of "well" throughout the industry is that it is a single hole in the ground and the regulation should therefore be read with this understanding. The Department has met its burden of showing the reasonableness of its position. As discussed at pp. 24-27, infra, the Department presented a significant body of evidence that the term "well" is commonly understood throughout the industry as a hole in the ground through which hydrocarbons are produced. Marathon similarly has proved that its interpretation of the pre-1988 regulation was reasonable. The regulation inferentially incorporates the AOGCC’s method for counting "well days." Specifically, it states that "[t]he number of well days for a well during a month is the number of days the well is reported to the [AOGCC] as having been produced during that month." 15 AAC 05.666 (1977), recodified at 15 AAC 55.020 (1988). This production is reported to the AOGCC on only one form, the 10-405. The AOGCC requires oil and gas producers to report their production from each separate hydrocarbon pool or horizon on Form 10-405.15/ In the "well days'" column on the Form 10-405, producers note the days of operation for each completion. Accordingly, it is reasonable to infer from the pre-1988 "well day" regulation that a completion is a "well" for ELF purposes. The Department also argues, however, that Marathon’s interpretation of the pre-1988 "well day" regulation is unreasonable because it results in lower taxes and is therefore an interpretation inconsistent with the legislative intent of the ELF statute. That Marathon's interpretation of the pre-1988 regulations results in less taxes does not render it per se "unreasonable." It is self-evident from the ELF that it was designed to provide a tax throughout the economic life of an oil or gas field. The Department demonstrated that its current interpretation accomplishes this objective better than does Marathon’s in the sense that it provides a higher tax for a longer time. (Button: Tr. 3157-3172; 3243-3245.)16/ Nonetheless, this does not prove that Marathon's interpretation is unreasonable, just that it results in more favorable taxation to the producers. One can posit that a different administration would have chosen to adopt a more favorable taxing policy by treating multiple completions as two "wells". This is precisely why agencies are allowed to revise policy.
Accordingly, I conclude that there are "conflicting but reasonable" interpretations of the pre-1988 "well day" regulation regarding how well days are to be counted.
In September, 1978, Petroleum Revenue Audit Supervisor Edward Park advised ARCO that it had undercounted one well by reporting it only once on Form 10-405. (Exhibits 744, 39.) Similarly, In March, 1979, Revenue Field Auditor Donna Crawford proposed an assessment against Union Oil Co. for over-counting well days but then withdrew the assessment after being told that this was a multiple completion well, thereby affirming Union's count of each completion as a "well" for ELF purposes. (Exhibit 742.) Identical action was taken by Crawford with respect to Phillips Oil and Chevron reporting practices (Exhibits 726, 728-730), and with AMOCO in 1978 (Maggard: Tr. 1950-1953). The Department acted in the same manner toward Marathon’s monthly reporting practices. In March, 1979, Revenue Auditor Crawford proposed an assessment against Marathon for the same four multiple completion wells which she had determined Union had over-counted (Marathon and Union were partners in these wells). (Exhibit 714.) When presented with the proposed assessment, one of Marathon's tax representative, Robert Meeks, called Crawford and was eventually directed to Revenue Field Auditor Arne Bue. (Meeks: Tr. 1521-1522). Meeks explained to Bue Marathon's position that these were wells producing from two different gas producing horizons, and therefore should be counted as two wells. Bue told Meeks that he was not sure of the State's position and would check with Petroleum Revenue Director Thomas K. Williams (Meeks: Tr. Id.) Bue then called Meeks back, and Meeks understood that Bue had been told by Williams that multiple completion wells should be counted as two wells for ELF purposes. (Meeks Tr. 1522-1523.) Marathon filed a Notice of Disagreement as instructed by Bue which reflected what Meeks had been told by Bue. Auditor Crawford then wrote Marathon withdrawing the assessment, stating "[y]ou [Marathon] are correct in that wells producing from two different horizons can be counted separately in calculation of well days."17/ (Exhibit 715.) The apparent position of the Department that it would accept the AOGCC well count for "well day" purposes remained consistent over time. Marathon presented evidence that in the course of desk audits by the Department in 1981 and 1984 the company's taxes were adjusted upward or downward by auditors for the reason that "well days adjusted to agree with total per 10-405." (Exhibits 716, 720.)18/ There is no evidence that this practice changed until 1991 when Revenue Audit Supervisor Hustace Scott recognized that this method of counting well days resulted in a significant tax advantage to Cook Inlet gas producers. (Scott: Tr. 2396-2388.) Williams also testified that, after 1977, "we changed the regulations [regarding multiple completion wells] but we didn't change the practice" [of counting them]. (Williams: Tr. 393.) Williams characterized his answer to Auditor Bue’s question in 1979 on how to count multiple completion wells as establishing Department "policy." (Williams: Tr. 500, 594.) While former Director Williams understood he could not forever bind the Department to this interpretation, he did expect his subordinates to follow it.19/ (Williams: Tr. 594-595.) Although the Department subsequently regarded Williams’ view as incorrect, Williams' interpretation was not uninformed. The ELF was Williams’ idea and a tax change which he promoted. Williams certainly had a working knowledge of the oil and gas industry and production methods in Cook Inlet. Perhaps most importantly, his is the interpretation to which the Department consistently adhered, by default or design, until 1991 when Auditor Scott recognized its inefficiencies. I therefore find that Williams' statement, and the Department's course of conduct toward Marathon's reporting practices and that of other Cook Inlet producers after 1979, constitute a "contemporaneous construction" of the pre-1988 well day regulation to accept the AOGCC Form 10-405 well day count as the proper way to count well days. See Public Defender Agency v. Superior Court, Third Judicial District, 534 P.2d 947, 952 (Alaska 1975) (noting "[c]ontinuous, contemporaneous and practical interpretation by executive officers . . . is a valuable aid in determining [statutory] meaning . . . ."), quoted in State v. McCallion, 875 P.2d 93, 98 (Alaska App. 1994); cf. Wien Air Alaska v. Dept. of Revenue, 647 P.2d 1087, 1090-91 (Alaska 1982) (finding taxpayer’s "contemporaneous construction" argument unpersuasive where taxpayer "pointed to no other instances where the Department interpreted or applied the statute on this issue"); see also Usibelli Coal Mine, 921 P.2d at 1142-43 (noting it appropriate to give weight to agency interpretations, "especially where the agency interpretation is long-standing" (quoting Fairbanks N. Star Borough Sch. Dist. v. NEA-Alaska, Inc., 817 P.2d 923, 925 (Alaska 1991)); State, Dept. of Revenue v. Alaska Pulp America, 674 P.2d 268, 277 (Alaska 1983) (noting "[w]hen an agency interpretation of a statute is long-standing, . . . it is entitled to some deference by this court").
While an agency will not be bound forever to its initial interpretation of the law, see NLRB v. Iron Workers, 434 U.S. 335, 351 (1978) (noting that "[a]n administrative agency is not disqualified from changing its mind"), it is not at complete liberty to change its policies without regard to its prior course of action. See INS v. Cardoza-Fonseca, 480 U.S. 421, 446 n. 30 (1986) (noting that "[a]n agency’s interpretation of a relevant provision which conflicts with the agency’s earlier interpretation is ‘entitled to considerably less deference’ than a consistently held agency view" (emphasis added) (quoting Watts v. Alaska, 451 U.S. 259, 273 (1981)). Although it is true that a prior inconsistent agency interpretation is but one factor which a reviewing court may consider, see, e.g., NLRB v. United Food & Commercial Workers Union, 484 U.S. 112, 124 n. 20 (1987), on the present facts, I find that the Department’s actions during the tax years at issue weigh heavily against according its current regulatory construction of the pre-1988 "well day" regulation much deference. See, Totemoff v. State, 905 P.2d 954, 967-77 (Alaska 1995) (noting that "[p]ositions on interpretation of statutes adopted by agencies during litigation which contradict earlier regulations are not allowed deference by courts"), cert. denied 116 S.Ct. 2499 (1996). The Department's practice from 1979-1991 of consistently accepting the "well day" counts from Cook Inlet oil and gas producers as reported on AOGCC Form 10-405, after the question of counting multiple completion wells was first raised with former Petroleum Director Williams, is simply too compelling to ignore. Unlike the single Departmental action at issue in Wien Air Alaska v. Dep't of Revenue, 647 P.2d 1087 (Alaska 1982), the Department's interpretation here was consistent, continuous, and long standing. Numerous Departmental auditors over many years took action on Cook Inlet producers' "well day" counts that was consistent with the 1979 interpretation of former Director Williams on how to count multiple completion wells. 20/ Accordingly, while the Department’s present interpretation of its own regulations is afforded deference, I find that for purposes of interpreting the now superseded pre-1988 "well day" regulation, its current interpretation "is entitled to considerably less deference" than the contemporaneous construction it acted upon and communicated in preceding years.21/ See General Electric Co. v. Gilbert, 429 U.S. 125, 142-46 (1976) (deferring to agency’s earlier interpretation of statute after refusing to defer to more recent construction which contradicts prior, long-standing interpretation). Given that the ambiguity of the pre-1988 well day regulation must be resolved in Marathon's favor, and my finding that the Department's current interpretation is entitled to less deference than its prior, contemporaneous interpretation of the regulation, I conclude that the Department's assessment against Marathon for the tax years 1986-1988 cannot be sustained. The Department’s assessment of Marathon’s production taxes on this basis for the tax years 1986, 1987, and for the months of 1988 until new regulations were adopted is, therefore, REVERSED.22/
The above analysis, however, does not apply after the Department amended 15 AAC 55.020 in 1988.23/ This is because the amended regulation eliminated any reference to AOGCC reporting practices regarding counting "well days." Also, the amended definition of "well day" requires that a "well" be operated for 24 hours to be counted as a separate "well day"; a significant change from how "well days" were reported on the AOGCC Form 10-405. Considered as a whole, the post-1988 regulation evidences the Department’s intent that "well days" no longer be linked to AOGCC reporting practices. These changes removed the pertinent ambiguity in the pre-1988 well day regulation, making any reliance on AOGCC reporting practices for counting well days unreasonable. The new regulation also renders the Department's prior construction of the pre-1988 "well day" regulation irrelevant to any analysis of the reasonableness of the Department's interpretation of the 1988 regulation. Marathon, however, challenges this regulation as illegal. Specifically, it argues that the Department has acted beyond the scope of its delegated powers by implementing a de facto tax increase. The Department asserts that there is nothing improper about a regulatory change which closes a loophole in the tax code.24/ The 1988 regulatory amendments "will be upheld as long as they are ‘consistent with and reasonably necessary to implement the statute authorizing [its] adoption.’" Renwick, 936 P.2d at 531 (1997) (quoting Chevron U.S.A., Inc. v. LeResche, 663 P.2d 923, 927 (Alaska 1983)); see also State v. Alyeska Pipeline Service Co., 723 P.2d 76, 78 (Alaska 1986) (noting that "[a] regulation is consistent with a statute if it has a reasonable relation to statutory objectives"). There is nothing improper in the Department closing a loophole. Such governmental actions are clearly reasonable. In fact, this is precisely the Department’s responsibility. See, e.g., AS 43.05.010(14) (providing that "the commissioner of revenue shall . . . take all steps necessary and proper to enforce full and complete compliance with the . . . revenue laws of the state"). Moreover, the 1988 amendments did not increase the tax rate imposed by the Oil and Gas Properties Production Tax. See AS 43.55.011-150. While revenues may be increased under this interpretation of the regulation, the tax rate has remained constant. The Department cannot, therefore, be construed as acting ultra vires.25/ Furthermore, the burden is on Marathon to prove the invalidity of these amendments. See Renwick, 936 P.2d at 531 (noting that "[a] regulation is presumptively valid, therefore the burden of proving invalidity is on the party challenging the regulation" (citing Union Oil Co., 574 P.2d at 1271)). This Marathon has failed to do. I therefore conclude that the 1988 regulatory amendments are valid. Marathon, however, challenges the reasonableness of the Department's interpretation of the post-1988 "well day" regulation. The Department argues that the regulation should be interpreted according to the common usage of the term "well", i.e., a "well" is a hole in the ground. Marathon argues that there was no commonly understood meaning for the term and that reading "well" as "individual completion" is consistent with the purpose of the ELF. The Department’s interpretation of its amended regulation is due deference, and the customary "reasonable basis" standard of review is here appropriate. See Usibelli Coal Mine, supra, at 1147 (noting "‘[w]here an agency interprets its own regulation . . . a deferential standard of review properly recognizes that the agency is best able to discern its intent in promulgating the regulation at issue’" (quoting Handley at 1233).26/ Virtually all witnesses who testified on the issue agreed that a bore hole drilled in the ground for the purpose of producing hydrocarbon was a "well." See, e.g., Kirchner: Tr. 180-181, 278; Startzman: Tr. 2813-2814; Cook: Tr. 719-721; Scott: Tr. 2937-39; Eason: Tr. 4095-5096; VanDyke: Tr. 3270; Hite: Tr. 4325; Johnston: Tr. 3537-3538.) This or similar definitions are used by the America Petroleum Institute and authorities in the field. The most that Marathon's witnesses could offer was that the Department's interpretation of "well" was not specific enough for some purposes for some professionals in the industry. However, this testimony did not further Marathon’s case; it emphasized only that the Department’s interpretation was more commonly accepted than Marathon's. Moreover, each of the alternative definitions urged by Marathon present nightmarish administrative consequences. (See, e.g., Eason: Tr. 3986-3992.) Defining a well as a "completion," for example, only references the word to another word with an even less specific meaning within the industry. While some in the industry regard perforations within a well bore as a "completion," others define it as drawing hydrocarbon from a "pool" or "reservoir." (Eason: Tr. 3992.) Defining the term "well" by reference to down-hole configuration (i.e. by "completion") as Marathon urges, presents ever changing problems for the taxing authority. First, it requires the Department not only to know the technology of down-hole drilling techniques, but also to monitor them. To adopt a regulatory construction of "well" that would require the Department to keep abreast of rapidly advancing and evolving drilling techniques and modification of subsurface tubing strings would impose on the Department an obligation guaranteed to be unadministrable.27/ Marathon further argues that a dual completion well is the functional equivalent of two single completion wells and, therefore, that counting such wells as two wells more closely correlates with production costs. However, Marathon has failed to meet its burden on this point. See AS 43.05.435(1) (providing that questions of fact will be resolved "by the preponderance of the evidence"). Though witnesses generally recognized that dual completion wells might present some additional operational costs, no evidence was presented that dual completion wells actually cost more, or twice as much, to operate as single completion wells. (Startzman: Tr. 2826-2830; 3003-3004.) To the contrary, the evidence supported a finding that dual completion wells are a more efficient, i.e., cost saving, method of recovering the resource. (Startzman: Tr. 2845-2847, 3019-3026.) Moreover, each of the witnesses who testified on the subject stated that the operational costs were dwarfed by the capital costs associated with drilling.28/ Indeed, Marathon's expert could not demonstrate that dual completion wells actually cost more to operate because Marathon, like other producers, does not allocate costs specifically by well. Even the inference the dual completion wells might cost more was heavily rebutted. (Hite: Tr. 4296-4310.) Marathon, therefore, failed to show that its proposed definition of "well" would more effectively implement the ELF’s goal of relating production costs with the effective tax rate.
For these reasons, I find that the Department acted reasonably in amending its "well days" regulation in 1988. Giving the Department’s interpretation due deference,29/ I find that the term "well" as it is used in the post-1988 "well day" regulations should be accorded its common meaning , i.e., a bore hole drilled in the ground for the purpose of producing hydrocarbon.30/ Accordingly, the Department’s assessment of Marathon’s production taxes for the tax period in 1988 after the well day regulations became effective and for tax years 1989-1991 is SUSTAINED.31/
Marathon has argued that regardless of the purported reasonableness of its position, the Department should be precluded from announcing a change in policy via an administrative adjudication. Marathon brings this challenge because the Department's assessment was based in part on the Chevron decision issued in 1994. Alternatively, Marathon argues that the Department is applying an impermissible retroactive application of a 1995 "well day" regulation which reflects the Department's position in this case.32/ Marathon also argues that the principles of equitable estoppel bar the Department’s assessment. For the reasons below, Marathon’s arguments fail. As a general matter, agencies are not precluded from announcing new policies In administrative adjudication. See NLRB v. Bell Aerospace Co., 416 U.S. 267, 290-95 (1974) (holding unanimously that the choice of announcing a rule via formal rulemaking or administrative adjudication is properly within agency discretion); S.E.C. v. Chenery, 332 U.S. 194, 202-03 (1947) (holding that there is no "rigid requirement" that an agency announce policy by formal rulemaking and not adjudication). This is also the general rule in Alaska. See Amerada Hess Pipeline Corp. v. Alaska Pub. Util., 711 P.2d 1170, 1178 (Alaska 1986) (noting that "[a]s a general rule . . . administrative agencies have the discretion to set policy by adjudication instead of rulemaking"). Marathon argues, however, that this general rule should not apply here. It cites to a series of Ninth Circuit cases which support the proposition that an agency may not announce a new policy where it does so to circumvent pending formal rulemaking procedures or where doing so will work undue hardship. See, e.g., Ford Motor Co. v. FTC, 673 F.2d 1008, 1009-10 (9th Cir. 1981), cert. Denied, 459 U.S. 1008 (1982) (reversing agency adjudication where proceeding announced and applied a rule of general applicability); see also Union Flights, Inc. v. Administrator, FAA, 957 F.2d 685, 688-689 (9th Cir. 1992) (noting Ford Motor Co. rule but upholding agency adjudication announcing new policy); Cities of Anaheim, Riverside, Banning, etc. v. FERC, 723 F.2d 656, 659 (9th Cir. 1984) (narrowing Ford Motor Co. rule to apply only where agency adjudication announces rule which "imposes severe hardship or circumvents existing rules"); Patel v. INS, 638 F.2d 1199, 1203-05 (9th Cir. 1980) (reversing agency adjudication which reversed prior policy upon which petitioner detrimentally relied); Ruangswang v. INS, 591 F.2d 39, 44 (9th Cir. 1978) (same); Weight Watchers of Washington v. FTC, 830 F.Supp. 539, 542-43 (W.D. Wash. 1993) (interpreting Ford Motor Co. rule as applying only where new rule would disadvantage those who acted in reliance on prior rule or where agency attempted to circumvent formal rulemaking procedures by, for example, amending existing rule). Assuming that the Ninth Circuit’s exception applies under Alaska law, the argument is not persuasive. Marathon failed to establish either: (1) that the Department has circumvented a pending rulemaking proceeding or employed adjudication to bypass or amend existing rules; or, (2) as discussed more fully below, that Marathon has detrimentally relied on a prior Department policy. Accordingly, it cannot avail itself of this narrow exception.
The Department's assessment against Marathon was based, in part, on the Chevron decision issued in 1994. Agency adjudications are typically given retroactive application. See Chenery, supra, 332 U.S. at 203 (noting that "[e]very case of first impression has a retroactive effect, whether the new principle is announced by a court or by an administrative agency"); see also Molina v. INS, 981 F.2d 14, 22-23 (1st Cir. 1992) (noting that "[r]etroactive application of agency interpretations developed through adjudication is not automatically unlawful. To the contrary, retroactive application of new principles in adjudicatory proceedings is the rule, not the exception") (emphasis added). This general principle is codified in Alaska Statutes. See AS 44.62.510(b) (providing that "[a] decision in a primarily judicial [agency] proceeding has retroactive effect in the same manner as a decision of state court"). Retroactive application of Alaska court decisions is presumed. See, e.g., Rodriguez v. Rodriguez, 908 P.2d 1007, 1010 n. 2 (Alaska 1995) (noting that "[a]bsent special circumstances, a new decision of this court will be given effect in the case immediately before the court, and will be binding in all subsequent cases in which the point in question is properly raised, regardless of the fact that the events to which the law is applied occurred prior to the actual decision of the [c]ourt" (quoting Plumley v. Hale, 594 P.2d 497, 502 (Alaska 1979)). In determining whether "special circumstances" exist, therefore warranting nonretroactive application, the Alaska Supreme Court has announced a four-part test:
Marathon has also argued that the Department's assessment is an impermissible retroactive application of regulations adopted in 1995 (see 15 AAC 55.021). Although it is true that these current regulations count "well days" and define a "well" in the same manner as is the basis of the Department's assessment, Marathon's argument is unpersuasive. The present assessment was done on the basis of an audit taken in 1991, under the view that a "well" was one hole in the ground and should be counted as such. This long preceded adoption of the 1995 regulations. Moreover, the Chevron decision provides another, independent, basis for the Department's assessment against Marathon. Finally, Marathon argues that the Department should be equitably estopped from assessing production taxes against the company for the five tax years at issue. The elements necessary to claim equitable estoppel against the government are: (1) the governmental body asserted a position; (2) upon which the other party reasonably and actually relied; (3) which resulted in prejudice to the party claiming estoppel, and; (4) the estoppel will not prejudice the publics’ interest. See Crum v. Stalnaker, 936 P.2d 1254, 1256 (Alaska 1997); Wassink v. Hawkins, 763 P.2d 971, 975 (Alaska 1988); Anchorage v. Schneider, 685 P.2d 94 (Alaska 1984). Marathon's argument relies entirely on the 1979 communications between its staff and Auditor Crawford regarding the appropriate method for counting "wells" for ELF purposes, and the corresponding statement of former Petroleum Revenue Director Williams. (See pp. 16-17, infra.) I find, for estoppel purposes, that Marathon has shown that the Department made a representation. However, Marathon did not establish that it relied upon this 1979 communication for the next twelve years. Marathon had always counted each completion as individual "wells" for ELF purposes before 1979 and can show no change in position because of the Department's representation. Marathon's reliance was on AOGCC reporting practices, not Crawford's letter or Williams' statement. Even assuming Marathon had established the element of reliance, the company failed to establish that its reliance was reasonable.35/ Evidence offered by the parties indicates that Marathon, a sophisticated tax paying entity, was aware that the Department’s auditing staff did not understand down-hole well configuration. (Wilson: Tr. 1350.) Moreover, I find that Marathon was not forthright in not telling Department auditors that production in the wells at issue was commingled within the well bore.36/ (Meeks: Tr. 1627-1628.) This fact alone weighs heavily against any purported reasonable reliance. Perhaps most importantly, communications between Marathon and the tax counsel of its field partner, Union Oil (Unocal), indicate that Marathon knew that Union’s own engineers felt that they did "not have a leg to stand on" in counting these particular wells at issue as two wells because production was commingled. (Meeks: Tr. 1641; Exhibit 44.) Marathon also did not establish that it knew of any of the Department's similar representations to other Cook Inlet oil and gas producers, and thus the reasonableness of its reliance is measured only with respect to the 1979 Crawford letter and two subsequent desk audits adjusting well day counts consistent with "well days" reported on the 10-405. Assuming arguendo that Marathon had shown reasonable reliance on the 1979 Department's representations, Marathon has proved no detriment. Marathon’s sole argument on this element is that, if it had known the Department’s position might change, then it would have obtained "tax reimbursement" clauses in its contracts. However, Marathon did not establish that had it asked for these clauses, it would have obtained them. (Mowrey: Tr. 2735-2744.) Marathon routinely negotiated tax reimbursement clauses in its contracts during the years in question. The only contracts which did not include such clauses were contracts which typically do not have such clauses, e.g., small or international LNG contracts. (Mowrey: Tr. 2767-2771.) In light of this evidence, I find that Marathon's claim of detriment is purely speculative. Finally, Marathon has offered no evidence toward proving that estoppel will not unduly burden the public’s interest. Given that the Department is statutorily charged to "take all steps necessary and proper to enforce full and complete compliance" with Alaska’s tax code, this would indeed be a difficult showing to make. Accordingly, I conclude that Marathon has failed to prove its estoppel claim against the Department. This conclusion is further justified in that Marathon here seeks to enjoin Alaska’s sovereign power to tax. Matters of equity will generally not estop the government from asserting its power to tax. See, e.g., Tangue Verde Enterprises v. City of Tucson, 691 P.2d 302, 305-09 (Ariz. 1984) (discussing "well-settled constitutional standard . . . grant[ing] taxing authorities unlimited discretion to set the rate of taxation of a legally imposed revenue raising tax"). "The claim that a particular tax is so unreasonably high and burdensome as to deny due process is both familiar and recurring, but the [U.S. Supreme] Court has consistently refused either to undertake the task of passing on the ‘reasonableness’ of a tax that is otherwise within the power of Congress or of state legislative authorities . . . ." City of Pittsburgh v. Alco Parking, 417 U.S. 369, 373 (1974); see also Alaska Fish Co. v. Smith, 255 U.S. 44, 48 (1921) (holding that tax would not be invalid nor require compensation even "if [it] should destroy a business"). "The power of taxing the people and their property is essential to the very existence of government, and may be legitimately exercised . . . to the utmost extent to which the government may choose to carry it." Culloch v. Maryland, 17 U.S. 316, 428 (1819), quoted in Tangue Verde Enterprises, 691 P.2d at 308. The theory behind this strong presumption is that taxation is a governmental power of the legislative and policy realms, not the judicial. Accordingly, the remedy for "excessive" taxation is not at law or equity, but in politics. See, e.g., id., 17 U.S. at 428 (noting that "[t]he only security against the abuse of [a government’s] power [to tax], is found in the structure of the government itself"). CONCLUSION For the reasons discussed above:
The form judgment stipulated by the parties is entered herewith. Pursuant to AS 43.05.465(e), this decision is the final administrative decision in this matter. DATED: October 23, 1998, at Anchorage, Alaska.
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1/ This Order amends the court's Order of August 26, 1998, with regard to two findings following review of Marathon's Motion for Reconsideration. Back 2/ The Cook Inlet fields and facilities at issue were the Kenai and Cannery Loop gas fields, the Beluga River gas field, and the Trading Bay/McArthur River oil and gas field. Back 3/ During this proceeding, 31 witnesses testified and more than 800 documents were submitted into evidence. Back 4/ See former 15 AAC 05.660. Alaska's former "stair-step" taxing method taxed production by well. Back 5/ The ELF formula was a result of collaboration between Mr. Williams and David Knudson, an economist in the Petroleum Revenue Division. Back 6/ See AS 43.55.013(b). Back 7/ These statutory presumptions are known by the acronym "PEL". Originally, there was no statutory PEL for gas and producers established the figure each year at hearings. See, Exhibits 750-753. Back 8/ With the adoption of the new regulations, former 15 AAC 05.660, which addressed the counting of multiple completion wells, was repealed. Back 9/ For simplicity and clarity, the two regulations at issue are referred to herein as the "pre-1988" and "post-1988" well day regulations. Back 10/ The parties originally disputed the value and volume of liquefied natural gas produced and sold during the tax years in question. However, during the hearing, the Department accepted Marathon's figures for the gross volume and sale value of this gas. (Tr. 2452-2456) The issue of valuation methodology has been previously resolved. The parties agreed that the difference between Marathon's calculation of gross value, and the Department's calculation of gross value, resulted in an additional assessment against Marathon for $3,434,166 in taxes plus interest. In light of the Department's acceptance of Marathon's figures, I find that the gross volumes of gas delivered to Marathon's LNG plant during the relevant tax years, and the sale value of the LNG sold in Japan, are as stated in Exhibit 754. Back 11/ A schematic of one of Marathon's multiple completion wells in the Trading Bay Unit can be found at Exhibit 11. Back 12/ Schedule C reflects the taxpayer's calculation of the ELF and tax. Segregating the Steelhead platform would require Marathon to prepare and file a separate Schedule C for production from the Steelhead platform. Back 13/ The Department argues that the ELF is a tax exemption, and therefore must be strictly construed against the taxpayer. This argument is not factually sound. It may be true that the statutory PEL exempts certain production from taxation, but this is only one component of the ELF. The ELF itself is not an exemption, but a formula which results in a numerical product which adjusts the statutory tax rate. Back 14/ The AOGCC assigns to each well bore what is known as an "API" number. The number is based on a numerical code used by the American Petroleum Institute for standardized record keeping. Form 10-405 requires producers to list this number for each well bore. The form also has producers list the "well number" for each completion into a separate reservoir, which is a number assigned by the operator. In the case of a multiple completion well, Marathon would report each completion by its different well number (e.g., 32L and 32S) also listing the same API number. The days of operation would be reported separately for 32L and 32S because each produced hydrocarbon from a different reservoir, even though the oil or gas was transported to the surface within a well bore assigned one API number. If 32L and 32S each produced for 30 days, Marathon would count 60 "well days". However the Department's interpretation would result in a count of only 30 days because 32S and 32L were within the same well bore. See, In the Matter of Chevron, USA, Inc., Dep't of Revenue Decision No 94-071 (June 24, 1994) at 9-10 (discussing the same ambiguity in the pre-1988 "well day" regulation). Back 15/ This requirement is a reflection of the AOGCC's mission to monitor specific resource extraction. Back 16/ This evidence was limited to the Cook Inlet gas fields, and Marathon's operations. I make no finding with respect to oil production, other producers, or other oil or gas fields. Back 17/ Neither Bue, Crawford nor Nelson could recall the specific events in question. However, Williams confirmed that he told Bue to count multiple completion wells as two wells. (Williams: Tr. 442-443.) Williams' recollection and contemporaneous documents prepared by Marathon, Unocal, and the Department support a finding that these events occurred as reported. Back 18/ Chevron reported similar treatment in 1981 (McCulley: Tr. 2204-2206). Back 19/ The actions of Auditor Crawford, as well as the actions of other auditors noted above, reflect that Director Williams' expectation was well-founded. Back 20/ The Department relies on Wien Air in arguing for an apparently inflexible rule that it retains "the power to correct mistakes retroactively," even in the face of prior and long-standing inconsistent interpretations of the regulation. However, the Department's argument is not persuasive. Back Wien Air is distinguishable because the prior Department action in that case (which the Alaska Supreme Court recognized could be changed) was a one time, never repeated event. This is in sharp contrast to the 15-year course of repeated conduct presented in this case. Moreover, the language upon which the Department relies is extracted from the court's discussion of a specific federal statute and regulation not at issue here. My holding today is not inconsistent with Wien. Had Marathon presented only one instance of an auditor's action, I could not have held that the consistent pattern of Departmental conduct constituted agency interpretation of a regulation. 21/ This conclusion should in no way be read as a judgment on the administrative soundness of the Department's respective constructions. Such adjudicatory estimation of a regulation's "efficacy" or "wisdom" is not appropriate on review. Anchorage School Dist. v. Hale, 857 P.2d 1186, 1188-89 (Alaska 1993). The above analysis and conclusion applies only to the relative legal weight to which the Department's conflicting interpretations are due. Back 22/ It is recognized that this holding is at odds with the Hearing Officer's summary judgment disposition of In the matter of Chevron USA, Inc., Dep't of Revenue Decision No. 94-071 (June 24, 1994). See AS 43.05.475(a) (providing "[a]s to questions of law, a final administrative decision [of a tax appeal], unless reversed or overruled, has the force of legal precedent"). While Chevron continues to have precedential effect, Marathon was not precluded in this case from presenting a different set of facts to support its position. Although it is not clear, the Chevron decision leaves the impression that the appellant did not present the body of evidence that Marathon has which supports the conclusion that the Department's prior interpretation of the pre-1988 well day regulations was consistent and long standing. Accordingly, today's decision differs from Chevron not in contradiction regarding a well-settled legal question, but in application of different facts and arguments to law. Back 23/ These regulatory amendments were made effective February 23, 1988. Back 24/ The crux of this aspect of Marathon's complaint is that requiring that "wells" be in operation for full 24-hour periods to be counted for "well day" purposes reduces the number of "well days" a taxpayer can claim, i.e., producers can no longer claim credit for a full "well day" where a "well" was only in operation for one hour on a given day. Since the number of "well days" is decreased, the amount of taxes owed correspondingly increases. Back 25/ This is the case even though the effect may be that some taxpayers paid more tax. Indeed, that is the purpose of closing a loophole. Back 26/ Given the highly technical nature of the subject matter, deference is especially merited here. See Northern Timber Corp., 927 P.2d at 1284 n. 10 (noting that discretion is appropriate "where the agency's specialized knowledge and experience are particularly probative as to the meaning of the statute"). Back 27/ For example, witness Eason presented compelling testimony on how a number of Marathon's wells changed from "duals" to "single', or "singles" to "duals" in any given year. (Eason: Tr. 3993-4012.) If "well" was defined by the configuration of tubing strings within the well bore, the Department would not only be obligated to audit returns, but audit well logs as well. Back 28/ This is not true, of course, at the end of the economic life of the field when capital costs have been recovered. At that point, the operational costs are the principal costs. However, when viewed as a whole, the costs associated with exploration and drilling far exceed operational costs. Back 29/ Even without giving the Department the benefit of due deference, I find that Marathon has failed to prove its case by the preponderance of the evidence as required by statute. See AS 43.05.435(1). I find, rather, that the bulk of presented evidence supports the Department's argument. Back 30/ Moreover, the Department was not required to follow the formal Alaska Administrative Procedure Act ("APA") in interpreting its own regulation. See State v. Northern Bus Co., Inc., 693 P.2d 319, 323 (Alaska 1984) (holding that "interpretation of an existing, valid regulation . . . does not trigger the procedures mandated by the APA). Here, the Department's defining of the term "well" was an act of interpreting "an existing, valid regulation" and was accordingly reasonable and within its discretion. Cf. State v. Tanana Valley Sportsmen's Ass'n, Inc., 583 P.2d 854, 858-59 (Alaska 1978) (holding that an agency may not impose additional permitting requirements not authorized by statute or regulation without following formal APA procedures). Back 31/ As opposed to my reading of the pre-1988 ELF regulation, my reading of the Department's 1988 amended regulation is consistent with the Department's prior decision in Chevron. Even though I find that the Department did not deviate from its practice of accepting form 10-405 well day counts until 1991, this practice was clearly a mistaken one after the regulatory amendment in 1988. After that time, neither the producers' nor the Department's reliance on AOGCC reporting practices could be construed a reasonable interpretation of the post-1988 well day regulation. Back 32/ See 15 AAC 55.021 (1995). Back 33/ Strictly speaking, this is not true. Chevron was decided in 1994 and held as I do today. However, the tax years here contested are 1986 to 1991. Viewed in the context of Marathon's reporting for those years, the Chevron decision is a holding of first impression. Back 34/ The Hickel court further defined the necessary element of undue hardship "as requiring consideration of the effect retroactive application would have on the administration of justice. However this element is stated, it requires an analysis of whether retroactive application will cause more harm than good." Hickel, 872 P.2d at 183 n.29 (quoting Dep't of Elections v. Johnstone, 669 P.2d 537, 545 (Alaska 1983)). Back 35/ Although not binding authority on these proceedings, it is informative to refer to the Internal Revenue Service's (IRS) opinion on the relative reliance value of communications from field audit staff. Generally, communications between field staff and taxpayers is simply to assist and not to resolve. Accordingly, the IRS vests no reliance value in the representations of such staff. Virtually the only IRS statement upon which a taxpayer can reasonably rely is a final determination of tax liability. See IRC Reg. § 301.7805-1(c), CCH ¶ 44.282.0135 (1997). Back 36/ While this consideration is not relevant to whether the interpretation of former Director Williams was reasonable, it is relevant to the reasonableness of Marathon's reliance. This is because Marathon knew that prior Department practice under the pre-1977 regulation was to count commingled production as only one "well". Back |
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