HD7 - The Economic Impact of Coal Tax Credits on Southwest Virginia and the Commonwealth


Executive Summary:
BACKGROUND

Coal mining has long been one of Virginia's leading industries. Providing economic stimulation throughout the Commonwealth while historically being one of the cornerstones of Virginia's export market. Since 1990, production has been steadily decreasing from its peak of 46.5 million tons, to a 1994 production level of 38.8 million tons. Modeling of production strongly suggests that Virginia's coalfields have passed the midway point of available reserves. Prompting the need to examine the effects declining production will have on Virginia's economy.

Historically, Virginia's coalfields have experienced economic ebb and flows. This cyclical economic pattern has led to a region that has not diversified, lagging behind the Commonwealth in many key economic indicators. During periods of economic ebb, the citizenry held out for the eventual upturn in the economy. Now with evidence showing coal reserves having gone past the mid-point, while coal prices per ton have continued to decline in current dollars since 1990's average price of $28.05 per ton, the prospect of stabilized or increased levels of production and employment are marginal.

Since 1991 direct employment in coal mining has declined from 10,797, to the current level of 7,860. Mining represents 18 percent of the coalfields work force, the highest single sector with a direct payroll of $331 million dollars per year. Declines in mining employment have pushed the seven counties and one city that comprise the coalfields to the highest rates of unemployment and lowest levels of work force participation in the Commonwealth. Dramatized by the recent closing of Westmoreland Coal Company's Virginia Operation, Wise County unemployment levels have rapidly increased so that they now experience a rate of unemployment four times Virginia's.

To remedy declines in the industry, the Commonwealth has provided tax incentives to boost the Virginia coal industry. The first such incentive was the Virginia Coal Employment and Production Incentive Tax Credit, which was passed to provide incentives to producers of electricity, gas or steam in the form of a tax credit against their annual state license tax for each ton of Virginia coal purchased for production. The second incentive program for Virginia coal was the Qualifying cogenerators and small power producers credit. This credit established a credit against a cogenerators corporate income tax based on the tonnage of coal mined in Virginia purchased by a cogenerator that sells power to a public service corporation in Virginia.

During the 1995 Session of the General Assembly, HB 2575 was approved providing additional incentives in an effort to improve the economic climate for coal mining. The Coalfield Employment Enhancement Tax Credit set forth tax credits for coal produced based on seam thickness. In addition, a tax credit was provided for coal mined by surface mining methods.

FINDINGS

The coal industry is facing increased competition from other coal producing areas. Virginia's poor geological conditions create difficult mining. Continued operation in today's environment will reduce Virginia's production to 32.44 million tons by the year 2000 and 25.78 million tons by the year 2005. Corresponding reductions in direct mining employment equates to 7,039 miners in the year 2000 and 5,594 miners in 2005. A reduction in direct employment by year 2005 of 48.19 percent from 1991, resulting in yearly lost wages from 1996 to 2005 of $182.16 million.

Continuing with the single credit rate without the three-year waiting period and caveat on the Commonwealth's financial health will increase production by 400,000 tons per year. Statewide this would save 315 jobs through 2000 and 482 jobs through 2005, at an average net cost, credit costs less additional revenue, to the Commonwealth of $12.49 million per year.

Doubling the tax rate creates a stabilized economic environment. The rate increases employment statewide through the year 2000 by 3,704 jobs compared to no tax credit, and by 3,389 jobs over the single tax credit. During this five year period, the average net cost per year would be $ 21.47 million.

Tripling the coal tax credit provides the greatest impact on production and employment levels. This rate provides 5,400 more jobs by the year 2000 than with no tax credits statewide. Through the year 2000, the average net cost per year would be $33.96 million.

Currently, Virginia has two other forms of coal tax credits in place. The first provides credits for coal used in cogeneration. Based on the number of users, information from the Department of Taxation was suppressed and not broken out by industry sources or the Department of Mines, Minerals and Energy. However, its usage was stated to be "minimal". The Virginia Coal Employment and Production Incentive Tax Credit during the past three years created a positive return of ten million dollars in state and local tax revenues. Credits were given for 11.626 million tons, although it cannot be assumed that none of this coal would have been utilized without the credit.

While this study did not examine every coal producing state and their exemptions, it does give a representative sample of major coal producing states. This comparison does demonstrate that throughout the country, considerable exemptions are granted to the coal industry, especially for increased utilization of in-state coal for electrical generation. West Virginia being one of the more aggressive states toward providing tax incentives for coal production.

As an economic policy, Virginia has considerable allowances for credits against state taxes. These fall mainly in the traditional area of agricultural industries. As with neighboring states, Virginia has authorized new tax credits for businesses which will create significant opportunities for employment. Authorization of new credits, such as the Major Business Facility Job Tax Credit, has been developed in order to aid in the promotion of the Commonwealth in the economic development arena.

The scale of incentives has become a question mark. Kentucky, a prominent player in economic incentives for economic development, has begun to question the financial liability associated with incentives now requiring state economic development officials to provide to the Finance Cabinet details on incentives to determine the credits cost versus enhanced revenue to the Commonwealth.

Tax incentive programs send a signal to business and industry that a state from an economic development stand point is proactive, professional, and appreciates business and industry operating in the state. Adoption of this type of approach as a policy statement should be fulfilled by more than an appetite for new locations, but should also include the position of keeping existing businesses. A second factor involved with determining incentive policy should be an industry's ability to provide value-added capabilities -- does the industry provide additional employment opportunities resulting from their operation.

As a policy decision, economic incentives must be reviewed on a continual basis to correspond with changing policy and economic environmental conditions. Failing to take an aggressive review policy promotes obsolescence and burdensome tax policy administration.

CONCLUSIONS

The coalfields of Southwest Virginia are facing a difficult economic climate due to declines in the coal industry. During the period 1990 to 1994, production of Virginia coal declined by 16.56 percent. The region's economy is built around the coal industry providing 18 percent of the work force, and the highest single sector direct payroll. Compounding the effect of coal on the regions' economy, the second largest employment sector, retail, is directly linked to the health of the coal industry.

Virginia coal faces numerous competitive problems. The first is the decline of coal reserves; secondly, geological conditions which are not as conducive to mining as neighboring states; and, third, global competition forcing marketing conditions to change. These conditions have provided the seven counties and one city which comprise the coalfields to have the highest rate of unemployment and lowest levels of work force participation in the Commonwealth.

Maintaining coal production and employment levels at a fairly constant state over the next five years requires a projected net expenditure of $106.96 million. Projecting an additional 13.78 million tons of coal being mined over the five year period in excess of production based at the zero credit level. Much of the coal mined because of financial incentives brought about by these tax credits is coal that normally would be lost to Virginia. The survey indicated that the ability to mine coal at the effective levels brought out by the incentive would allow some mines to remain open, and other reserves not recoverable due to geological conditions would become recoverable. In effect, extending Virginia reserves by an amount somewhere below the 13.78 million ton level provided by the credit.

This question is as much a social as an economic issue. Continued loss of coal production and direct employment has significant ramifications on Southwest Virginia and the Commonwealth as a whole. The industry has far-reaching direct and indirect employment and fiscal benefits throughout the Commonwealth as has been demonstrated. From a social perspective, the issue becomes what should the disposition of the southwest region be? A region that contains rates among the highest in the state for transfer payments, and further decline in the industry will accent these levels, creating costs to the taxpayers in areas such as health, welfare and education.

Virginia is not alone in looking to make industries competitive. Neighboring states have initiated tax incentives, with West Virginia one of the leading direct competitors to Virginia coal among the most ambitious.

Previous Virginia legislation providing coal incentives has increased production and generated tax revenues greater than the amount of incentive paid by the Commonwealth. Tax incentives under the Coalfield Employment Enhancement Tax Credit will increase production levels. Employment levels under the tax credit will exceed employment levels without a credit, but must reach the double incentive level to maintain existing levels of employment or increased employment.

Credits should not be seen as a long-term cure to a problem. If utilized, credits provide an opportunity for the region to invest in itself during the credit period to enhance their opportunity for economic diversification. Investment of revenue received above the projected base level of funding would allow for additional local opportunities to be developed. Coal will continue to be a significant portion of Southwest Virginia's economic future. However, for long-term economic health, the only solution is to continue to aggressively seek economic diversification. For this to happen, the region and Commonwealth must begin to fully understand the economic conditions facing the coal industry and effect necessary policy changes.