The effect of the corporate alternative minimum tax on investment in oil and gas exploration and development

Abstract

This paper investigates the assertion that the U.S. corporate alternative minimum tax system diminishes exploration and development investment by U.S. corporations operating in the extractive petroleum industry. The analysis is based on an after-tax investment model in which number of wells drilled and exploration risk are endogenous variables. The model is solved using 1) the values of the relevant tax parameters specified by the tax code and 2) empirical estimates of the non-tax parameters and exogenous variables. The analysis shows that the alternative minimum tax has reduced by 9% the optimal number of exploration wells as compared to the optimal number of exploration wells prior to the introduction of the alternative minimum tax. The analysis also shows that the alternative minimum tax has 1) reduced the optimal level of exploration risk and 2) increased the importance of well-designed incentive compensation agreements for firms operating in the extractive petroleum industry.