Tax Analysts Blog

Fracking Taxes Help States Now, but What About the Future?

Posted on Aug 25, 2014

As bad as the federal budget picture looked during the Great Recession, the fiscal climate in the states was worse. The federal government used stimulus spending to prevent many states from having to make sharp cuts in services because of steep declines in sales, income, and corporate tax revenues. However, the state fiscal picture is looking much better. For the third year in a row, state tax revenues increased, according to the National Conference of State Legislatures. While things might be looking up for states, there are causes for concern because much of the increase in some states is driven by energy taxation, related to a boom in the fracking industry that won't last forever.

State tax revenues went up 6.1 percent in fiscal 2013 to a total of $846 billion, says the NCSL. Personal income tax revenues were up 10.3 percent, while corporate collections surged 7.9 percent. The NCSL urges caution for optimists thinking that the worst is behind states and localities. From 2002 (the end of a recession) to 2007, state tax revenue rose a whopping 42 percent. Since 2008, however, state tax revenues are only up a total of 8.5 percent, showing how tepid the recovery has been.

The NCSL cautions that the rosy numbers in 2013 are also partially an illusion. Growth in income tax collections might have been the result of taxpayers pushing income into 2012 to avoid higher federal tax rates in 2013. The NCSL concluded that state revenues might only grow 1.4 percent in fiscal 2014.

Growth in state revenues has been uneven. For example, North Dakota's tax receipts have risen over 129 percent since 2008. That's because of another phenomenon at work: fracking. No state has benefited more from fracking than North Dakota, which now leads the nation in population and income growth. The explosion in the industry, while leading to huge numbers of new jobs, has strained the sparsely populated state's infrastructure (particularly the housing sector). Fracking might be controversial, but there's no denying that it has been a huge financial windfall for North Dakota and a few other states.

In North Dakota's case, the fracking boom has pushed all taxes higher because of the additional population that has flocked to the state. This is by no means typical even in other fracking-heavy jurisdictions. North Dakota's sales taxes have risen over 28 percent during the 2013-2015 biennium. They've more than doubled since 2007 (going from $279 million to nearly $650 million). Personal and corporate income taxes have risen 43.7 percent and 65.6 percent, respectively, over the same period, despite three consecutive legislative tax cuts (the latest being a 19.3 percent cut in personal income taxes and a 12 percent cut to corporate taxes).

While higher sales and income taxes are nice, the primary means of raising state revenue from fracking has been severance taxes. In 2004 North Dakota's severance tax raised $175 million a year. In 2013 it raised $2.46 billion. West Virginia's boom hasn't been as dramatic as North Dakota's, but its severance tax revenue increased from $204 million in 2004 to $608 million in 2013. In Kentucky, severance taxes raised $172 million in 2003, rose to $346 million in 2012, but then dropped back to $269 million in 2013.

Kentucky illustrates the problem with relying on severance taxes and the fracking boom for revenue stability. As traditional energy states like Texas have shown, taxes on the extraction of natural gas can fluctuate wildly. Texas raised $974 million from severance taxes in 2004, $4.1 billion in 2008, $1.9 billion in 2010, and then $4.6 billion in 2013. That's healthy growth, but it's hardly consistent. Colorado is an even better example. Its severance tax revenue rose from $37 million in 2003 to $285 million in 2009, before falling back to $71 million in 2010.

One of the largest sites of fracking, Pennsylvania, does not have a severance tax. Republican Gov. Tom Corbett fought instead for a fee on hydraulic fracturing. The fee has helped the state's budget picture, but critics point out that it hasn't kept pace with the growth in natural gas production (despite production doubling from 2011 to 2012, fee revenue actually decreased slightly, from $204 million to $202.5 million). Corbett's banking heavily on the energy boom boosting his reelection chances this year, but questions remain about whether the state has squandered its chance at fiscal security.

The fracking industry has helped lift parts of the nation out of recession and has provided a boost to state revenues during a time of crisis. Fracking, like any other form of energy extraction, is likely to be highly cyclical. North Dakota has been transformed by its rapidly growing energy sector, but it should be cautious about staking too much of its fiscal future on continually increasing severance taxes. States have long suffered from booms and busts in corporate and personal income taxes, and a new dependence on energy taxation isn't likely to make state revenue collection any more stable.

Read Comments (1)

David BrunoriAug 25, 2014

Jeremy, Great post. Severance taxes were originally implemented as a way to
reimburse current and future citizens for lost natural resources. There was
lots of lofty talk of trust funds until politicians realized that 1) the burden
can be exported and 2) taxes that other people pay were better than income or
sales taxes on your citizens.

You are correct in noting the unpredictability of severance taxes. But there is
a more philosophical problem. Severance taxes lead people to want more
government than they are willing to pay for.

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