Program Review and Investigations Committee




<MeetMDY1> July 11, 2013


Call to Order and Roll Call

The<MeetNo2> Program Review and Investigations Committee met on<Day> Thursday,<MeetMDY2> July 11, 2013, at<MeetTime> 10:00 AM, in<Room> Room 131 of the Capitol Annex. Senator Christian McDaniel, Chair, called the meeting to order, and the secretary called the roll.


Present were:


Members:<Members> Senator Christian McDaniel, Co-Chair; Representative Fitz Steele, Co-Chair; Senators Tom Buford, Perry B. Clark, Ernie Harris, Jimmy Higdon, Dorsey Ridley, and Dan "Malano" Seum; Representatives Dwight D. Butler, Jim DeCesare, Terry Mills, Ruth Ann Palumbo, Rick Rand, and Arnold Simpson.


Legislative Guests: Representatives Jim Gooch Jr. and Dennis Horlander.


Guests: Jim T. Ward, Judge Executive, Letcher County; Bill Bissett, President, Kentucky Coal Association; Kim L. Nelson, Executive Director, Western Kentucky Coal Association; Amy Barnes, Department for Local Government.


LRC Staff: Greg Hager, Committee Staff Administrator; Chris Hall; Colleen Kennedy; Van Knowles; Lora Littleton; William Spears; Joel Thomas; Stephanie Love, Jessica Sapp, Graduate Fellows; Ashlee McDonald, Committee Assistant.


Approve minutes for June 13, 2013

Upon motion made by Representative Simpson and a second by Senator Harris, the minutes of the June 13, 2013, meeting were approved by voice vote, without objection.


Staff Report: Kentucky’s Coal Severance Tax

Jonathan Roenker presented the report. Kentucky continues to be one of the largest coal producing states, but coal production in Kentucky has declined overall since 1990. Coal prices for central Appalachian coal have steadily declined since early 2011. In nominal terms, coal severance tax revenues peaked in 2012 at more than $298 million. In constant dollars, however; coal severance tax revenues were considerably higher in the late 1980s and early 1990s. Rising collections throughout the 2000s were mostly driven by increases in the price of coal.


The coal severance tax is 4.5 percent of the gross value of coal severed. Severance tax revenues have trended downward over the past 6 quarters. As of the end of fiscal year 2013, coal severance tax collections were down approximately 23 percent over the past year.


Each quarter, once collections are received by the Department of Revenue, a distribution formula is applied to the revenue before disbursing it to the General Fund (50 percent of the total) and two local funds (50 percent) after deductions specified in the state budget are made. “Off-the-top” deductions, authorized in the state budget, are applied to the overall coal severance tax revenue total. “Off-the-top” deductions are approximately $1.9 million per year in FY 2013 and 2014.


The Local Government Economic Assistance Fund (LGEAF) receives 15 percent of severance tax collections after “off-the-top” deductions. Ninety percent of these revenues are allocated to eligible coal-producing counties. Ten percent are allocated to coal-impact counties. Allocations are by formula. According to county judge executives in eastern and western Kentucky interviewed for the report, LGEAF funds not earmarked for the coal haul highway system are mostly used for projects related to public safety, environmental protection, and health.


Thirty-five percent of revenue after “off-the-top” deductions goes to the Local Government Economic Development Fund (LGEDF). “Off-the-middle” and “off-the-bottom” deductions occur before these funds are distributed to qualifying LGEDF counties. “Off-the-middle” deductions come before the single-county/multi-county split; “off-the-bottom” deductions come from the multi-county fund. The deductions are specified in HB 265, the FY 2013-FY 2014 budget bill. Generally, the tax revenue allocated to this fund is to be used for projects related to industrial park development, regional parks, and job development incentive grants made to individual firms. Based on the interviews, county judge executives are preparing for lower future LGEAF and LGEDF allocations.


Kentucky state budgets enacted for FY 2005 to FY 2014 have all included language that modified the structure of the LGEDF program, providing an expanded list of eligible activities to include projects related to public health and safety, economic development, public infrastructure, information technology, development and access, and public water and wastewater.


Two-thirds of total LGEDF allocations are by formula to individual counties. The remaining one-third is allocated for industrial development projects that benefit two or more coal-producing counties. Over recent years, LGEDF allocations were highest in FY 2009. The list of counties, mostly in eastern Kentucky, receiving the largest allocations has been similar over recent years.


HB 265 authorizes line-item projects in coal counties that are to be funded from the single-county LGEDF accounts. These line-item projects supersede statute. If a county’s HB 265 line items are funded in a given fiscal year, and there are still funds available in a county’s single-county account, grant projects will be considered. Few, if any, grants are being awarded. HB 265 line-item projects for FY 2013 are generally exhausting most funds allocated to each county’s single-county LGEDF account.


Including the June coal severance tax receipts, FY 2013 total collections were just over $230 million. The Consensus Forecasting Group’s forecast for FY 2013 was $337 million.


According to the Department for Local Government, of the 38 counties receiving a FY 2013 single-county LGEDF allocation, 27 counties will have insufficient funds to complete all the county’s line-item projects in HB 265. This becomes of particular concern when counties are using LGEDF funds to pay for recurring expenses such as debt service on previous bond issues.


Generally, the percentage of severance tax returned paid returned to the county in the form of either LGEAF or LGEDF funds over the past 5 fiscal years was between 20 and 30 percent of what coal companies in those counties paid.


In response to a question from Representative Gooch, Mr. Roenker clarified that 35 percent of total severance tax revenue goes to LGEDF.


Representative Steele asked whether any states or local governments in the western US hold mineral rights and how much coal severance revenue has been allocated to Save the Children and the Robinson Scholars Program. Mr. Roenker said that we would find out.


In response to a question from Senator McDaniel, Mr. Roenker said that he could not specify the major reasons for the large drop in coal prices recently.


In response to a question from Senator McDaniel, Mr. Roenker said that coal severance collections are not reported for counties in which a small number of companies pay the severance tax.


In response to a question from Senator McDaniel, Mr. Roenker said that he could not forecast whether coal severance revenue of approximately $200 million is possible.


In response to questions from Senator Buford, Mr. Roenker said that the allocation for Rupp Arena design is $2.5 million, which is an “off-the-bottom” deduction.


In response to a question from Senator Buford, Mr. Roenker said that staff did not calculate the total amount that counties would be short in LGEDF allocations to fund line-item projects. Table 9 in the report shows each county’s FY 2013 ending balance.


Senator Buford said that the next issue is whether and how to help counties facing shortages.


In response to a question from Senator Buford, Mr. Roenker said that the spending reported by county judge executives who were interviewed was in accordance with regulations. Amy Barnes of the Department for Local Government can provide a list of projects.


Senator Buford said that the situation for coal communities will get worse. It is questionable whether plants that switch to natural gas will switch back to coal.


In response to questions from Senator Seum, Mr. Roenker said that the Department for Local Government tracks spending and could provide information on spending in coal impact counties.


In response to a question from Senator Seum, Mr. Roenker said that Table A.2 in the report covers coal producing and coal-impact counties.


In response to a question from Senator Seum, Mr. Roenker said that staff did not examine spending for any specific county. LGEAF funding for Jefferson County, as shown in Table A.2, is increasing because of the county’s numbers used in the formula each year.


In response to a question from Representative Steele, Mr. Roenker said that he could not forecast whether coal tax revenue will be below $220 per year.


Mr. Bissett briefly described the Kentucky Coal Association, and then summarized prospects for Kentucky coal. Kentucky ranks fifth in the US in energy production. Coal provides more than 90 percent of Kentucky electricity. Kentucky benefits from having one of the lowest rates for electricity. Most of Kentucky coal goes to southeastern states. Although coal’s share of electricity generation in the US is declining, demand for coal will continue to grow because demand for electricity is growing.


The one word to describe coal is “change.” The price of natural gas has dropped significantly. As technology for burning coal has changed, the competitive advantage for eastern Kentucky’s low sulfur coal has lessened. The Obama administration was anti-coal in its first term. The lack of manufacturing recovery has affected demand in the US, but global coal use is up and is projected to keep growing.


There are more than 70,000 Friends of Coal license plates, with proceeds going to mining engineering scholarships (more than $75,000 in 2011, $83,000 in 2012).


Mr. Ward said that Letcher County has had to cut its budget; there are no new revenues coming in. The LGEDF account will be $1.2 million short of what is needed for designated projects. He questioned many of the deductions made from coal severance revenue. More than $8.5 million is designated for mine safety. Other industries do not have to pay this; this should come from the general fund. The $1.8 million for drug courts should come from the budget of the Administrative Office of the Courts. Read to Achieve gets $3 million but there is no proof the program works. Funding for the School Facilities Construction Commission and school technology in coal counties should come from the budget of the Department of Education. There is a need for information on how Robinson Scholarship money is being spent. The state should pay for Operation Unite. The Public Service Commission received $200,000 from the county fund to pay for a study used to raise electricity rates. Nearly $6 million is going to the general fund for debt service despite the general fund getting 50 percent of severance revenue already. Rupp Arena is getting $2.5 when his county has applications for infrastructure projects.


Mr. Nelson said that severance tax revenue increased for a long time. This is no longer the case, but the attitude toward coal severance revenue remains the same. Arguably, many of the “off-the-middle” and “off-the-bottom” expenditures should be from the general fund. There is a need to take a look at the system. The logic is that as a resource is depleted, revenue should go back to counties to compensate.


In response to a question from Representative Steele, Mr. Ward said that his county gets 17 to 18 percent of the 50 percent.


Representative Steele said that legislators work with county judge executives on projects. He commented on excessive EPA regulation of coal mining.


Senator Buford said that Mr. Ward should give a list of questions on expenditures to staff to address.


Representative Simpson asked whether it is reasonable to expect job losses in eastern Kentucky to reverse. Mr. Bissett said that it appears the jobs situation is stabilizing.


Representative Simpson asked what efforts are being made to provide jobs if jobs are not going to return to the coal industry. Mr. Ward said that his county is considering a federal prison facility. An economic development specialist has been hired. He would like to have more control over revenues. The county is trying to diversify the economy through tourism. Infrastructure is needed to make all this happen.


Representative Simpson asked whether the original intent for the 50 percent of revenue going to counties was that it be for large projects that help prepare for the time when coal is not predominant. Mr. Nelson said that the fund has tried to serve too many purposes.


Representative Simpson said that he represents a district with many poor constituents and that the district does not have any revenue sources dedicated to it. It should be understood that diverting funds from the general fund hurts his constituents.


In response to a question from Senator McDaniel, Mr. Bissett said that there are many reasons for the price drop for central Appalachian coal.


Senator McDaniel asked whether the 4.5 percent severance tax rate makes Kentucky coal uncompetitive. Mr. Bissett replied that it depends on whether the tax is similar to contiguous states. The tax structure is a factor.


Representative DeCesare asked whether any lawsuits are being filed against EPA. Mr. Bissett said that industry litigation has focused on production issues. Usage issues are related to power producers.


Representative DeCesare commented that most coal produced in Kentucky goes to the Southeastern US. Given the role of manufacturing in the demand for Kentucky coal, a focus on job creation must recognize the value of fossil fuels.


In response to a question from Representative Steele, Mr. Bissett said that he was unsure of the chances for getting a chemical looping facility in Kentucky.


Upon motion by Representative Simpson and second by Representative DeCesare, the report was adopted by roll call vote.


The meeting adjourned at 11:47 a.m.