A vaguely worded tax break could soon put New Mexico on the line for a quarter of a billion dollars and potentially cost the state millions more in the coming years.

Legislative fiscal analysts are sounding the alarm on growing protests from companies looking for refunds on money they’ve already paid the state. Most of the issues relate to a single exemption for chemicals and reagents used primarily by the oil, gas, and mining industries.

How recent cases brought by Peabody Energy Corp. subsidiary Peabody CoalSales, Fortis-owned Tucson Electric Power, and other businesses play out could have major implications for a state weighing a roughly $7 billion budget this year. Lawmakers and Gov. Michelle Lujan Grisham’s (D) office said the issue is on their radars, but that any changes will depend on court and administrative decisions expected in the next few weeks.

About $250 million is tied to the chemical and reagent protests, with the potential for an additional $60 million to $70 million in recurring losses each year depending on how the cases go, said Sen. Carlos Cisneros (D), who lead the Legislature’s interim tax policy committee.

Lawmakers will have to consider impacts on the general fund and protecting the revenue-generating oil and gas industry that uses the deduction, Cisneros told Bloomberg Tax. “It’s one of those questions that we don’t want to kill the goose,” he said.

What Is a Chemical?

The conversation comes as New Mexico faces a jump in overall tax protest claims, which were up from $98 million at the end of the 2016 fiscal year to $320 million in December 2018, according to a legislative general fund estimate. That amount is nearly triple the state’s historical average, the report said.

Possible reasons for the increase include more taxpayers trying to find loopholes or tax officials changing interpretation of the code, Jon Clark, chief economist for the Legislative Finance Committee, told Bloomberg Tax. When it comes to the decades-old tax break for chemicals and reagents, litigation could determine the validity of new applications.

Cases in front of the New Mexico Court of Appeals will determine how broadly the state should define what a chemical is under a deduction that generally helps mining, milling, oil, and refinery companies avoid taxing their business inputs when buying the items in bulk. Tax officials previously denied contested tax refunds involving natural gas and coal used to produce energy that are now in court.

Tucson Electric Power is seeking a roughly $435,000 refund for compensating tax the company paid on natural gas used in electricity production, arguing the intent of buying the gas was to produce a chemical reaction. In the other case, Peabody CoalSales LLC wants back roughly $6.4 million in taxes it paid on the sale of coal to customers who used it to create energy.

The company said that burning anything causes a chemical reaction, which means coal falls under the deduction. The tax department, though, argued that interpretation “would lead to a ridiculous result” because it’s broad enough to include everything on earth, according to filings on the protest.

Neither Peabody nor Tucson Electric Power answered questions from Bloomberg Tax. Lawmakers are also awaiting the decision of an administrative hearings officer on a protest involving a significant amount of money, though the details of who is requesting the refund have yet to be released, Clark said.

The cases may not have an immediate impact on the state, based on the decisions and whether they’re appealed. The debate comes down to what the Legislature intended when it implemented the chemical and reagent deduction in 1969 based on technology that has since changed, Cisneros said.

Legislature, Governor Weigh Changes

The potential liabilities could quickly eat into a budget surplus New Mexico lawmakers are eager to spend on priorities including education and drawing more filmmakers to the state. The impacts of the court decisions could be far-reaching.

If upheld as eligible, the argument made by Peabody that anything that burns is a chemical would mean a “significant increase in the number of companies that can file for this deduction,” Clark said. Taxpayers can also amend the past three years of their tax returns, which means the state could see more refund requests if cases are decided in favor of industry.

Legislators say they may address the issue this session after failed attempts in previous years. Industry groups like the New Mexico Oil & Gas Association will closely watch any potential changes, spokesman Robert McEntyre told Bloomberg Tax.

The issue could play into larger debates over tax reform that Lujan Grisham supported as she campaigned for governor. The chemical and reagent deduction would be an example of one to take a closer look at and potentially reevaluate, Lujan Grisham spokeswoman Nora Sackett told Bloomberg Tax.

Lawmakers will hold back, however, until there’s a decision by the administrative hearings officer to give them direction, Cisneros said. The deduction may be included in a more sweeping tax reform bill Cisneros is working on, he said.

Republican members of the state’s Senate said they’re also following the outcome of litigation. Each case is unique, which means it’s “difficult to generalize about the likely outcome of litigation and also about what possible statutory changes might be appropriate in response,” Senators Gay Kernan (R) and Gregg Fulfer (R) told Bloomberg Tax in a statement.