Section 4 Proposed System (Endowment) Notes

Endowment. An endowment, the Alaska Permanent Fund, is the central element of the proposed system for funding state government. It is described in Section 4, Proposed Fiscal System (Endowment).

Reserve Funds. At the beginning of fiscal 2010 all reserves would be added to the endowment.

Oil & Gas Royalties and Production Taxes. Oil and gas royalties (which include rents, bonuses and interest) and taxes on the production of oil and gas, would be added to the endowment when they are received. [As presented here, money received during a fiscal year is treated as if it is received at the beginning of the fiscal year.]

Average market value of the endowment. The average market value of the endowment at the end of each of the first six of the seven fiscal years immediately preceding would be the basis for determining the amount that could be withdrawn from it for spending in each fiscal year.

Withdrawal from the endowment. The total amount of revenue that could be withdrawn from the endowment in a fiscal year would be equal to the Withdrawal Percentage multiplied by the average market value of the endowment. It would be noncumulative and would go into the General Fund. From there it could be appropriated by the Legislature. [As presented here, withdrawals are treated as if they are made at the beginning of the year.]

The withdrawal percentage (WP) in the first year (FY 2010) of the transitional period is a function of the amount of spending (S) for that year, the other revenue (OR) for that year and the average market value (AMV) of the endowment for that year. Thus, WP in FY 2010 equals (S-OR)/AMV. During the transition the percentage decreases geometrically until it gets down to the sustainable level in the last (10th) year of the transition.

During transition, part of the money that can be withdrawn from the endowment in a fiscal year is revenue. It is sustainable. The rest is capital, and it is unsustainable. In the last year of the transition and thereafter, only revenue is withdrawn from the endowment.

Based on a rate of total return on investment of 8% a year and an inflation rate of 3% a year, the rate of real return is 5% a year. The sustainable rate of withdrawal is obtained by dividing that rate, .05, by one plus the rate of total return, 1.08. The result, rounded, is .0460 (4.60%).