Exxon: Profit Pirate or Tax Victim?

The oil giant paid $9.3 billion, or 49% of its first-quarter gross income, in income taxes. Is that enough? Depends on who you talk to
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With gas prices averaging $3.63 a gallon, consumers understandably aren't cheering Exxon Mobil's latest profit report. On May 1, Exxon Mobil announced first-quarter 2008 earnings of $10.9 billion—a figure that marks the second-largest U.S. quarterly profit ever, even if it slightly missed Wall Street's expectations.

Perhaps more surprising was this figure buried in the Exxon (XOM) report: $9.3 billion. That's how much Exxon paid in worldwide income taxes in the first quarter of 2008, representing a 49% tax rate on its gross income of $20.2 billion. While not generating as much heat as the income figure—which prompted Senator Hillary Clinton (D-N.Y.) to call once again for tax hikes on oil profits—it did prompt a vigorous discussion in the blogosphere.

Blogger and economist Mark Perry generated a lively discussion when he pointed to Exxon's "all-time high" income-tax figure, noting it was a small portion of the company's overall $29.3 billion total tax payments in the quarter. In Exxon's defense, a commenter IDed as "Buy It Cheap" wrote, "These are relatively small profit margins. One should note that the federal and state governments that tack on their percentage 'profited' the most from every gallon of gas sold all the way along the value chain, without a modicum of risk."

Paying Dearly to Drill

So should the conversation shift from Exxon, profit pirate, to Exxon, tax victim? It depends which side of the number you're on. "Our industry is one of the most heavily taxed in the world," says Gantt Walton, an Exxon spokesman. "While our worldwide profits have grown, our worldwide income taxes have grown even more." Walton says.

From 2003 to 2007, Exxon's earnings grew by 89%, while income taxes grew by 170%. Much of that growth was overseas. Oil-producing countries charge companies like Exxon dearly to dig for oil. Arrangements vary from country to country, but Russia and Libya charge companies up to 90% of the revenues they collect for extracting oil, according to Fadel Gheit, senior analyst for Oppenheimer (OPY). These arrangements—whether production share agreements or royalty contracts—are not disclosed by companies and governments.

In tax terms, the U.S. government is kinder to oil companies. According to Securities & Exchange Commission filings, Exxon paid an effective tax rate of 34% to the U.S. government in 2007, or $5.12 billion. While cheaper than rates from some foreign governments, it's still a higher rate than many U.S. companies pay. A BusinessWeek collaboration with Capital IQ in December, 2007, found that the average percentage of earnings spent on taxes by companies that make up the Standard & Poor's 500-stock index was 26%, well under the 35% official U.S. corporate income-tax rate. Companies achieved lower taxes in a variety of ways, from taking advantage of lower tax rates abroad to benefiting from industry-specific breaks.

Industry-Specific Tax Breaks

However, Exxon's critics point out that its stated tax rate doesn't reflect a number of deductions and tax breaks that are afforded the oil and gas industry in the U.S. Erich Pica, a spokesman for the environmental group Friends of the Earth, says the U.S. federal tax code contains more than $17 billion in breaks to benefit the oil and gas industry for fiscal years 2007-11.

That $17 billion is made up mainly of tax breaks newly offered or extended in the Energy Policy Act of 2005, including a "percentage depletion allowance" that allows oil companies to deduct 15% of their sales revenue, to reflect the declining value of their investment, and 70% of their drilling costs.

Additionally, oil and gas companies pay reduced royalty fees on products they recover from federally owned waters, which Pica says could cost taxpayers $65 billion over five years.

Politicians and Environmental Groups Take Aim

With energy prices spiking and inflation rising across the U.S. economy, the notion that energy companies pay too much in taxes isn't likely to win over the public or to play well on the campaign trail. Indeed, on May 1, Clinton took the opportunity to promote her plan to have oil companies foot consumers' bill for the federal gas tax this summer. "There is something seriously wrong with our economy when Exxon's record $11 billion in quarterly profits are seen as a disappointment by Wall Street," said Clinton. "This is truly Dick Cheney's wonderland."

Environmental groups are also mobilizing to target the oil and gas industry. "We don't think oil companies are paying enough taxes," says Josh Dorner, a spokesman for the Sierra Club. "There are literally billions of dollars in subsidies and giveaways and misguided regulatory schemes. Politicians have chosen Big Oil before clean energy and their constituents."

The debate over whether Big Oil pays too much or too little is taking place alongside a battle for government resources between conventional and renewable energies. When Congress passed the 2007 energy bill in December, it kept tax credits for oil and gas companies while allowing those for wind and solar power to expire this year. Democrats, including House Speaker Nancy Pelosi (Calif.), are now pushing for the Renewable Energy & Energy Conservation Tax Act (HR 5351), which would repeal $18 billion in tax subsidies for large oil and gas companies.

Here, there's little surprise: Exxon opposes the legislation, while environmental groups are backing it.

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