20040615Petition for Reconsideration.pdf

BARTON L. KLINE ISB #1526
MONICA B. MOEN ISB #5734
Idaho Power Company
O. Box 70
Boise , Idaho 83707
Telephone: [phone]
FAX Telephone: [phone]
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UTILITIES COr'tr"lISSI0H
Attorney for Idaho Power Company
Street Address for Express Mail
1221 West Idaho Street
Boise , Idaho 83702
BEFORE THE IDAHO PUBLIC UTILITIES COMMISSION
IN THE MATTER OF THE APPLICATION
OF IDAHO POWER COMPANY FOR
AUTHORITY TO INCREASE ITS INTERIM
AND BASE RATES AND CHARGES FORELECTRIC SERVICE.
CASE NO. IPC-03-
IDAHO POWER COMPANY'
PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505
Idaho Power Company (hereinafter referred to as "Idaho Power" or "the
Company ), petitioner herein , pursuant to RP 33 and 331 et. seQ.:.and Section 61-626
Idaho Code , respectfully petitions the Commission for reconsideration of Order No.
29505, dated May 25 2004 , issued in Case No. IPC-03-13 ("the Order
).
The
Company requests reconsideration of Order No. 29505 because those parts of Order
No. 29505, set forth below , are unreasonable, unlawful , erroneous, unduly
discriminatory and not in conformity with the facts of record and/or the applicable law
resulting in a revenue requirement and rates which are confiscatory. This Petition is
based on the following reasons and upon the following grounds:
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page
COMPUTING IDAHO POWER COMPANY'S TAX EXPENSE
FOR THE TEST YEAR USING A 25.240/0 FEDERAL AND A
620/0 STATE TAX RATE IS UNREASONABLE, UNLAWFUL
ERRONEOUS, UNDULY DISCRIMINATORY AND NOT IN
CONFORMITY WITH THE FACTS OF RECORD AND/OR THE
APPLICABLE LAW.
Idaho Power And Staff Computed Income Tax Expense
Differentlv.
There were only two parties to the proceeding that made proposals as to
the calculation of income tax expense for the test year -- Idaho Power and the
Commission Staff.
Idaho Power calculated its test year income tax expense under the
traditional method of using currently enacted statutory income tax rates. The
Company s state income tax rate is the combination of the Idaho rate at 5.9 percent, the
Oregon rate at 0.3 percent and all other states at 0.1 percent, for a total of 6.3 percent.
The state income tax rates were determined by multiplying each state s current
statutory income tax rates by their respective apportionment factor. The state of
Idaho s statutory corporate income tax rate is 7.6 percent and was multiplied by Idaho
Power s state of Idaho apportionment factor of 78 percent, the result being 5.9 percent.
This calculation was followed for the other states in which Idaho Power files an income
tax return and is in conformance with the Commission s prior rulings on the method to
be utilized for computation of state income taxes.
The Company calculated its test year federal income tax expense using
the current statutory federal income tax rate of 35 percent. In order to account for the
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 2
allowable federal tax deduction for state income taxes, the federal percent was reduced
to 32.795 (35 percent multiplied by 93.7 percent (100 percent of income minus 6.
percent for state taxes) = 32.795). The salient point is that the Company utilized the
existing federal statutory rate to compute its federal income tax expense.
Staff recommended abandoning the traditional method of computing
income tax expense and the resulting net-to-gross multiplier for computing the
Company s additional revenue requirement. Staff rejected the use of current statutory
income tax rates and , in their place, Staff proposed (apparently for this case only) that
the Commission use what Staff terms as an average effective tax rate. As explained by
Company Witness MacMahon, Staff proposed to compute Idaho Power s income tax
expense by using an average ratio of Idaho Power s actual above-the-line income tax
expense as a percentage of actual pre-tax book income for each of the past five years
added together and then divided by five. Tr. at 2907-2909.
Specifically, Staff developed a hybrid income tax rate concept by taking
each of the last five years, including the test year, and averaging the ratio of total
income tax expense (current tax, deferred tax, and ITC) for each year over the total pre-
tax book income for each year. The resulting ratio for each year was added up and
divided by five to arrive at an average ratio that applied to the previous five years. This
average ratio was applied to regulatory pre-tax income and the result was labeled
current tax.
Staff's hybrid ratio was used to value the current change in normalized
temporary differences for deferred income tax expense, disregarding the fact that the
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 3
beginning balance in accumulated deferred income taxes was previously established
using statutory tax rates.
The result of Staff's computation was an average federal income tax rate
of 25.24 percent and an average state income tax rate of 5.62 percent, for a total
average composite rate of 30.86 percent. As conceded by Staff witness Holm , the use
of Staff's five-year average was motivated by the non-reoccurring deduction taken on
the 2001 income tax returns with the resulting tax refund paid in 2002. Tr. at 1471 , LL.
6- 7. As noted by Company Witness MacMahon, when the non-reoccurring deduction
was removed from Staff's five-year "average " the computation came out to 39.
percent, which is extremely close to Idaho Power s federal and state combined statutory
income tax rate of 39.10 percent. Tr. at 2909-11.
The Commission at page 33 of Order No. 29505 describes the income tax
rates used by both the Company and Staff as "effective tax rates." The Company
specifically pointed out in its testimony and in its Post-Hearing Brief that even though
both parties use the term "effective tax rates " the underlying definition of the term as
used by Staff and the Company is totally different. The income tax rates used by Staff
and the Company are based upon entirely different assumptions.
The Company used "effective tax rates" to describe the statutorily enacted
income tax rates applicable to the year 2003, taking into account the deductibility of
state taxes. Staff uses the term "effective tax rate" to describe its five-year average
proposal. This difference between Staff's use of the term "effective tax rate" and the
Company s use of the same term was described by Mr. Ripley in his testimony at Tr. p.
2951-52. Staff counsel stated at the time Mr. Ripley testified that Staff did not agree
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 4
with Mr. Ripley s description of the difference between the definitions and Staff would
address the use of the term "effective " in Staff's post-hearing brief. Ultimately, on p. 6
of its brief, the Staff agreed with Mr. Ripley s description of the Company s method. As
a result , there is really no disagreement that Staff and the Company have totally
different definitions of "effective tax rate." The two computations are totally different
and it is not correct to infer that both parties used the term "effective" in the same
context.
The Commission Accepted Staff's Incorrect Calculation Of
Income Tax Expense.
The Commission in Order No. 29505 adopted Staff's recommendation to
use a historic five-year average to calculate the Company s income tax test year
expense. The result of using the historic five-year average income tax rates as
opposed to using the statutorily enacted income tax rates for 2003 decreased the
Company s revenue requirement by $11 504.677. The following table sets forth that
calculation:
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 5
Adjustment to Income Tax Expense
Idaho Jurisdiction
Required Increase
Using StatutoryPer Order Tax Rates
FEDERAL:
Income Before Tax Adjustments
Interest
Net Operating Income Before Taxes
Federal Income Tax Adjustments
Net Operating Income Before State Income Taxes
Total State Income Taxes
Total Federal Taxable Income
Federal Tax Rate
Federal Tax
Current Year s Tax Deficiencies
Total Federal Income Tax
120 394,485
(52 707 641)
686,844
686,844
530,502)
156 342
25.24%
16,193 061
963 652
OREGON:
Net Operating Income Before State Income Taxes
State Income Tax Adjustments
Oregon Depreciation Adjustment
IERCO Taxable Income
Total State Income Tax Adjustments
Income Subject to Tax
Oregon Tax Rate
Oregon Tax
Investment Tax Credit
Current Year s Tax Deficiencies
Total Oregon Income Tax
686 844
(349 687)
732 614
382 927
79,069,771
30%
237 209
095)
234 115
IDAHO:
Net Operating Income Before State Income Taxes
State Income Tax Adjustments
Bonus Depreciation
IERCO Taxable Income
Total State Income Tax Adjustments
Income Subject to Tax
Idaho Tax Rate
Idaho Tax
Investment Tax Credit
Current Year s Tax Deficiencies
Total Idaho Income Tax
686,844
698,903
732 614
40,431 517
108,118,361
62%
076 252
942 763)
781
188,269
OTHER:
Net Operating Income Before State Income Taxes
State Income Tax Adjustments
Bonus Depreciation
IERCO Taxable Income
Total State Income Tax Adjustments
Income Subject to Tax
Other States Tax Rate
Other States Tax
Investment Tax Credit
Current Year s Tax Deficiencies
Total Other States Income Tax
686 844
698 903
732 614
40,431 517
108,118,361
10%
108 118
108 118
TOTAL STATE INCOME TAX 530,502
SUMMARY:
Federal Income Tax
State Income Tax
Deferred Income Tax
Investment Tax Credit
17,156 713
530 502
049,726
(302 286)
Total Income Tax Expense 434
Pre-Tax Difference Resulting from use of 5 Year Average Tax Rates
Net-to-Gross-Multiplier
Revenue Requirement Difference Resulting from use of 5 Year Average Tax Rates
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505
120 394 485
(52 707 641)
686,844
1 ,401 ,888
69,088 732
921 552)
167 180
35.00%
808 513
963 652
772 165
686 844
1,401 888
(349 687)
732 614
784 816
80,471 660
30%
241,415
095)
238,320
686 844
1 ,401 888
698 903
732 614
41 ,833,405
109,520 249
90%
6,461 695
942 763)
781
573
686,844
1 ,401 ,888
698 903
732 614
41 ,833,405
109 520 249
10%
109 520
109 520
921 ,552
772 165
921 ,552
049 726
(302 286)
441
006 503
642
504
Page 6
The Commission s acceptance of Staff's use of a five-year average to
calculate test year income tax expense is premised on an intent to recognize the one-
time tax refund the Company received in the year 2002 based on a change in federal
tax methodology which was permitted by the IRS in the Company s tax return for the
year 2001. The Order characterizes this tax method change as producing an
immediate one-time tax refund or "windfall" for Idaho Power in 2002 of approximately
$41 million. Recognition of this refund is the only reason advanced by the Commission
for departing from its long-standing practice of using statutorily enacted income tax
rates in effect during the test year to calculate a utility s test year income tax expenses.
As explained below, the Commission s decision to accept Staff's hybrid income tax rate
results in retroactive ratemaking and places Idaho Power in violation of the Internal
Revenue Code s normalization requirements.
The Commission Order Violates The Retroactive
Ratemaking quirement Bv Taking Into Account A Past
Event To Proiect Future Income Tax Expenses.
In its Post-Hearing Brief, the Company provides a detailed description of
the legal issues and precedent associated with the prohibition on retroactive
ratemaking. The Company requests that the Commission again review that portion of
the Company s Brief when it is deciding whether or not to grant reconsideration.
It is clear that first Staff, and now the Commission in Order No. 29505
used a past event that will not reoccur to determine the income tax rate to be used in
computing Idaho Power s future income tax expense and resulting revenue
requirement. The Idaho Supreme Court and this Commission have repeatedly refused
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 7
to base future rates on past events. The Commission cannot reduce future rates to
offset a perceived financial benefit that occurred in the past. Such an attempt is clearly
retroactive ratemaking, which this Commission has always stated it cannot and would
not do.
In addition to the Idaho Supreme Court opinion quoted by Mr. Ripley in his
testimony (Utah Power Light v. Idaho Pub. Util. Comm 685 P .2d 276, 107 Idaho 47
(1984)), the Company would again call to the attention of the Commission the
Commission s discussion in the last Idaho Power general rate proceedings concerning
the Pacific Hide clean-up expense (Order No. 25880 issued in Case No. IPC-94-5).
There the Commission , at pages 8 and 9 , ruled that it would not go back in time to
review an event which had occurred in the past to set rates for the future. In spite of
this precedent , this is precisely what Staff recommended and the Commission accepted
in this case when the Commission utilized a hybrid tax ratio to determine income tax
expense for the 2003 test year to set rates for the future.
In support of its decision to use the five-year average income tax rate, the
Commission states that it has not violated the retroactive ratemaking prohibition
because "since these amounts will have to be repaid in the future, our decision to use
the five-year average to approximate this amount does not constitute retroactive
ratemaking." (Order No. 29505, p. 35, LL. 1-8) In addition , the Commission states that:
Because this money (tax refund) was neither a gift nor a grant
of funds, ratepayers are in the worst of all positions because
they: (1) did not share the tax (loan) proceeds Idaho Power
shareholders received in 2002 , (2) will have to repay more than
$41 million in higher tax expense in future years , and (3) could
be subject to a tax deficiency payment if the I RS determines
that Idaho Power did not properly file the 2001 tax return that
resulted from the tax methodology change (loan). This unfair
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 8
outcome constitutes improper ratemaking without an adjustment
to offset the higher tax expense ratepayers will pay in the
future." (Order No. 29505, p. 34, LL. 8-15).
The Commission s above-quoted reasoning and analogies violate a fundamental
principle of utility ratemaking. For the Commission to legally arrive at these findings
and conclusions, the Commission had to find and conclude that the Company
earnings in 2001 , or for that matter 2002, were excessive. The calculation of the
Company s income taxes for the year 2001 with the refund received in 2002 did not
affect the 2003 test year that this Commission has stated it is using in this proceeding.
At pages 3 and 4 of Commission Order No. 29505 , the Commission makes it clear that
it is using a 2003 test year. Accordingly, any funds that the Company received in 2001
and/or 2002 as a part of its income tax expense are not at issue in the year 2003.
The Commission requires that the Company utilize flow-through
accounting (unless prohibited by the Internal Revenue Code) for determining its income
tax expense. Each year, the Company adds assets, and where allowed , flows through
the benefits of tax deductions associated with those assets to customers. That flow-
throua.bJs reported as an increase in the Company s earninqs and reduces revenue
mguirement for that specific year The Commission s contention that the Company
customers will be required sometime in the future to repay a flow-through tax
adjustment in the form of higher taxes in future years is no different than any other flow-
through requirement that this Commission has required and/or authorized.
To selectively single out the refund due to the tax method change
implemented by the Company in its 2001 income tax return is arbitrary and capricious.
There are a number of flow-through tax adjustments that commence each and every
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 9
year. Those flow-through tax adjustments are considered in computing the Company
earnings for the year in which the flow-through occurred in the same manner that the
tax method change that occurred in 2001 and 2002 is considered.
To support its findings and conclusions that the Company s customers did
not enjoy the benefits of the tax refund, the Commission had to determine that the
method change, whether in 2001 or 2002 , resulted in excessive earnings for the
Company. This is the very test that the Idaho Supreme Court and the Commission on
various occasions have stated they will not conduct -- a retroactive determination of the
Company s current earnings based on a past event. Implicit in the Commission
determination to adopt the extraordinary method result of utilizing a five-year average
income tax rate to compute the Company s income tax expense for the test year 2003
is the Commission s conclusion that the Company, taking into account the tax refund
had excessive earnings in 2001 or 2002. The record in this proceeding is devoid of any
evidence to support such a conclusion.
The Commission s characterization of the tax flow-through of the method
change as a loan (because the Company s ratepayers-customers did not share in the
proceeds), highlights the Commission s erroneous position. The Commission in arriving
at this position ignores the colloquy between Staff counsel and Company Witness Gale
at Tr. 1265-66.
Q (Staff Counsel): If the Company had chosen a 2002
test year rather than 2003, would the Company s effective 2002
tax rate of negative 4.1 percent be included in the rate case?
A (John R. Gale): If the Company had used 2002 , the tax
would have become an issue in that case.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 10
Q. Isn t it true that by choosing a 2003 test year, the
Company effectively excluded the customers from sharing in the
tax benefit?
A. No, I don t believe that's true. I think that the tax
deduction coming from the one-time event allowed the Company
to defer the rate case for one year. I think the customers benefit
from that and I think there s ongoing benefits from that one-time
tax change that manifests itself in the test year, so I don t think
the customers were excluded from those benefits.
This testimony clearly demonstrates that the Company s Idaho retail
customers (ratepayers) did enjoy the benefits and share in the refund. Mr. Gale
testimony, and the conclusion drawn from that testimony was not, and cannot be
rebutted. The benefit was received in 2002 and the Idaho retail customers (ratepayers)
benefited.
The Internal Revenue Service Has Indicated That Proposals
Similar To Staff's Are Violations Of The Federal Tax
Normalization Requirements.
In light of the serious consequences that would ensue if the Commission
Order violates the normalization requirements of the Internal Revenue Code , the
Company requests that the Commission again review that portion of the Company
Post-Hearing Brief relating to the federal tax normalization requirements. The only
thing that has changed from the time the brief was submitted is that Witness
MacMahon s critique of the Staff's proposal now has become the Company s critique of
the Commission s Order.
There have been various proposals advanced in multiple utility regulatory
proceedings which attempted to avoid triggering a violation of the normalization
requirements in the federal tax law. The Internal Revenue Service ("Service ) has
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page
consistently ruled that such proposals, whether directly or indirectly affecting the
calculations of income tax expense , would not be accepted.
For example, in Private Letter Ruling 8525156 , the Internal Revenue
Service considered whether it was appropriate to use a consolidated group s effective
tax rate, which was lower than the statutory rate, to determine the current and deferred
income tax expense for ratemaking purposes of the group s regulated utility member.
The Service held that use of the lower effective tax rate would result in an insufficient
amount of deferred federal tax for the utility s difference between straight line and
accelerated depreciation.
The actual federal income tax liability is not determined by an effective
rate. Normalization accounting requires the use of the federal income tax rate provided
in section 11 (b) of the Internal Revenue Code. Also, the Service stated
, "
(BJy
introducing variables other than the difference between the deductions for accelerated
and straight line depreciation , the use of an effective tax rate may produce a deferred
tax adjustment that will be inadequate to meet normalization requirements." This was a
departure from the consistency requirements of normalization.
After determining that using an effective tax rate resulted in the utility not
being in compliance with the normalization requirements of the Code for its depreciation
difference , the Service went on to say
It follows that it will be equally inappropriate to use the effective
tax rates to compute its current income tax expense for
ratemaking purposes. Because deferred tax expense and
current tax expense are simply components of the total tax
expense, when the use of an effective tax rate to compute
deferred tax would violate normalization requirements , its use to
determine current tax expense is no less objectionable. Such
use of the consolidated effective tax rate achieves through
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 12
current tax expense a cost of service reduction that would
violate normalization requirements if achieved through a
reduction of deferred tax expense, and the effect is the same as
if there was a partial flow-through of the benefits of accelerated
depreciation as a result of deferring less than all the difference
between straight line and accelerated depreciation. By either
view, the use of consolidated effective tax rates in the
determination of deferred tax expense or current tax expense
will cause Subsidiary to fail to comply with the normalization
provisions of the Code and the regulations thereunder.
(emphasis added)
Commission Order No. 29505, as it relates to test year income tax
expense, will cause a normalization violation. Despite the Commission s desire
expressed on page 34 of Order No. 29505, LL. 26-27 that it does not want to trigger a
normalization violation , Order No. 29505, unless changed will cause the Company "
run afoul of IRS regulations and jeopardize the Company s use of accelerated
depreciation." (Order No. 29505 , p. 34)
The Company Requests Deferral Of Tax Issue Pending,
Receipt Of IRS Opinion
Idaho Power has requested that the normalization issue be reviewed by
its outside tax counsel and outside auditor, as well as other national accounting firms
and has requested advice as to whether or not they believe a normalization violation of
the Internal Revenue Code has been triggered by Order No. 29505. Copies of their
letters to the Company concerning this issue are included as Attachment 1 to this
Petition. All of these nationally recognized income tax experts have concluded that the
Commission s utilization of an average income tax rate will cause a violation of the
Internal Revenue Code normalization requirements. A violation will cause Idaho Power
to lose the benefit of accelerated depreciation , increasing current tax expense and rate
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 13
base. This violation can be avoided if the Commission amends Order No. 29505 and
implements a revenue increase of $11 ,504 677 (the computation of this amount has
been previously set forth in this Petition).
If the Commission is still not convinced that Idaho Power Company faces
the loss of accelerated depreciation for income tax purposes, the Company should be
allowed to record the above-described revenue deficiency while the Company and the
Idaho Public Utilities Commission request a Private Letter Ruling (PLR) from the
Internal Revenue Service. Pursuit of this PLR is essential to ensure that an inadvertent
violation does not occur during the period of resolution of the issue. The consequences
of a violation are simply too severe for Idaho Power and its customers not to pursue this
course of action.
The revenue deficiency would be recorded monthly, effective May 25
2004, in a regulatory asset account until the Private Letter Ruling is received. When the
Private Letter Ruling is received one of two things would take place:
If the Private Letter Ruling indicates that there is no normalization
violation as a result of Order No. 29505 , the Company will reverse the regulatory asset.
If the Private Letter Ruling verifies that there is a normalization
violation as a result of Order No. 29505, the Commission would grant rates for recovery
of the above revenue deficiency and for recovery of the regulatory asset over a
reasonable period of time. The rates would also provide for interest on the regulatory
asset at the overall cost of capital of 7.852 percent.
To effectuate such a deferral , the Company proposes the following
accounting entries:
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 14
During the deferral period , the Company will record the deferred
regulatory assets with the following entry:
Record the regulatory asset:
DEBIT:Account 182.3 - Regulatory Assets
CREDIT:Account 407.4 - Requlatory Credits
If there is no normalization violation as a result of Order No. 29505
the Company will reverse the regulatory assets with the following entry:
Record reversal of regulatory assets:
DEBIT:Account 407.3 - Requlatory Debits
CREDIT:Account 182.3 - Requlatory Assets
If there is a normalization violation as a result of Order No. 29505
the Company would , based on a new order authorizing the rate tracker, collect and
record the approved revenues and amortize the regulatory assets , over an approved
time period, with the following monthly entries:
Record the approved revenues:
DEBIT:Account 142 - Customer accounts receivable
CREDIT:Account 400 - Operating revenues
By class of customer
Record amortization of the regulatory assets:
DEBIT:Account 407.3 - Regulatory Debits
CREDIT:Account 182.3 - Requlatory Assets
Obtaining a private letter ruling will involve the retention of experts by the
Company and will require the Company to make expenditures for the experts' services.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 15
If the Company is required to obtain a private letter ruling and incur extraordinary costs
such as the fees of tax experts, the Company should be allowed to recover those costs
if the Company is correct in its position that a normalization violation has occurred.
Idaho Power Is Prepared to Submit Additional Evidence
Although the Company believes that the record before the Commission is
clear that the Commission s determination to use a five-year average income tax rate to
calculate the test year income tax expense is retroactive ratemaking and creates a
violation of the Company s tax normalization requirements under the Internal Revenue
Code , the Company is prepared to introduce additional evidence to demonstrate (1)
that the Company s ratepayers (customers) did share in the tax refund received in
2002, (2) that the tax accounting procedures for the 2001 method change were no
different than any other flow-through tax item and have been handled exactly as all
other flow-through tax effects , (3) that each year the Company applies a consistent
income tax treatment to new assets which have been placed in service, and (4) that any
purported future tax deficiency payment for the capitalized overhead method change is
clearly an issue which can be addressed at the time such a contingency actually
occurs.
The Company can also present additional evidence as to how the
deferred tax balance is treated for ratemaking purposes under the Commission
requirements. All of this will provide additional evidence to the Commission if the
Commission believes additional evidence is required.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 16
Summary Of Company s Position Regarding Income
Tax Rates
It is respectfully requested that the Commission modify Order No.
29505 by correcting its test year income tax expense and increasing Idaho Power
Idaho jurisdictional revenues by $11 504 677 or 2.259 percent. Although the Company
believes the record in this proceeding is clear that Commission Order No. 29505
violates retroactive ratemaking standards and creates a violation of the Company
normalization requirements of the Internal Revenue Code , the Company is prepared to
present additional evidence if, in the Commission s opinion, that is necessary.
Idaho Power has requested that the normalization issue be
reviewed by its tax counsel and outside auditors as well as other national accounting
firms and has requested advice as to whether or not they believe a normalization
violation has occurred. Copies of their letters to the Company concerning this issue are
attached. Based upon their advice , if the Commission amends Order No. 29505 and
increases Idaho Power s revenue requirement by $11 504 677, it will not jeopardize the
continued utilization of accelerated depreciation for income tax purposes by Idaho
Power.
Finally, if the Commission is still not convinced that Idaho Power
Company faces the loss of accelerated depreciation for income tax purposes , then it is
respectfully requested that the Commission approve implementation of the deferred
accounting procedure as set forth in this Petition and join Idaho Power Company in the
request for a Private Letter Ruling from the Internal Revenue Service on this issue.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 17
II.
COMMISSION ORDER NO. 29505 PROVIDING FOR A
THREE-YEAR RECOVERY PERIOD OF THE $2.9 MILLION
ADDITIONAL INCOME TAX ASSESSMENT IS
UNREASONABLE, UNLAWFUL, ERRONEOUS, UNDULY
DISCRIMINATORY AND NOT IN CONFORMITY WITH THE
FACTS OR RECORDS AND/OR THE APPLICABLE LAW.
In Order No. 29505 the Commission acknowledged that its prior Order No.
17499 provided that the Commission "would allow the Company to recover as a tax
expense any contingency actually paid in the year that it is paid." (Order No. 17499
, p.
24). Order No. 29505, in overturning this requirement of more than twenty years
simply states that: "This language regarding the method of treatment was clearly not
optimal." While the Commission can change its precedent, it cannot do so arbitrarily
and capriciously to the detriment of any party reasonably relying on such precedent.
If the Commission desires to change its policy, a two-year amortization
period is a more reasonable period. In addition , the Commission should provide the
Company with the right to defer and recover additional tax payments made after the
year 2005. This would provide a reasonable transition from past practices to future
practices. The Company is not requesting a carrying charge if the amortization of the
additional tax payments made for the 1998-2000 audit cycle is for a two-year period.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 18
III.
THE DISALLOWANCE OF LEGAL EXPENSES PRUDENTLY
INCURRED IN THE TEST YEAR IS UNREASONABLE
UNLAWFUL, ERRONEOUS, UNDULY DISCRIMINATORY
AND NOT IN CONFORMITY WITH THE FACTS OF RECORDS
AND/OR THE APPLICABLE LAW.
In Order No. 29505, the Commission denied Idaho Power s recovery of
legal expenses arising from the Company s participation in two FERC cases growing
out of the 2000-2001 energy crisis. The two cases were referred to in the testimony in
the case as the "California Refund Case" and the "Pacific Northwest Refund Case" and
collectively as the "Refund Cases." Staff testified that legal expenses in the amount of
$352 544 Idaho Power incurred in participating in the Refund Cases should be removed
from test-year expenses because these legal expenses were incurred to defend
IDACORP Energy s interests. Tr. at 1520.
On rebuttal , Idaho Power explained that the legal expenses in question
were incurred solely to ensure that Idaho Power would not be precluded from receiving
refunds that might ultimately be ordered by FERC in the Refund Cases. In Order No.
29505 , the Commission found that by incurring the legal expenses in question , the
Company had acted prudently to "ensure that its ratepayers would be able to receive
any potential refunds that may have resulted in these cases." (Order No. 29505, p. 27)
In Order No. 29505 , the Commission went on to urge the Company to continue its
involvement in the cases to protect the interests of the Company s customers and
shareholders. (Order No. 29505 , p. 28)
In spite of the Commission s recognition that the legal expenses incurred
in the Refund Cases were incurred in the test year and were prudent, the Commission
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 19
ordered the Company to remove the entire $352 544 amount from test-year litigation
expense on the grounds that these particular legal fees represented an unusual
expense that would not be repeated in the future. The Commission stated "Denial of
legal expenses for the Refund Cases in this Order in no way minimizes their
importance; it merely recognizes that the regulatory accounting system does not permit
inclusion of unusual expenses in a test year for ratemaking purposes." (Order No.
29505 , p. 28)
Removal of the $352 544 amount is unreasonable , arbitrary and
capricious because, by their very nature, each legal proceeding is unique. The purpose
of creating a test year is to establish a representative level of annual expense. As a
highly regulated , relatively large corporation, Idaho Power is exposed to a continuing
stream of litigation in both the courts and before various regulatory agencies each year.
While one court proceeding or regulatory proceeding may conclude in a test year
inevitably a new proceeding will commence. Because 2003 was the test year accepted
by the Commission and the Refund Cases legal expense occurred in 2003, it is
unreasonable and arbitrary for the Commission to select the litigation expense for the
Refund Cases for exclusion from test-year expenses.
While Idaho Power believes that the total amount of the Refund Cases
litigation expense should be included in the test year expenses, at a minimum the
Commission should treat the $352 544 legal expense amount in the same manner that
it treated the consultant fees the Commission addressed in Section 6 of the Order.
Section 6. Amortization of Unusual Cases, beginning on page 26, the Commission
considered fees paid to consultants in three different cases that were incurred during
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 20
the test year. As it did with the legal expenses for the Refund Cases, Staff
characterized the consultant fees as unusual "in that they are infrequent and will not
occur during a typical year." (Order No. 29505, p. 26).
In the case of consultant fees, however, Staff Witness Holm
recommended that these costs should be included in rates but should be amortized
over five years instead of expensing them all at once. In Order No. 29505 on p. 27 , the
Commission cited the Company s rebuttal testimony in which the Company pointed out
that it retains outside expert services every year and that "these three instances are
indicative of the usual level of expense, not a one-time phenomenon and should be
recovered fully in the test year." (Order No. 29505, p. 27).
In Order No. 29505 , the Commission acknowledged that the outside
consultant fees were legitimate business expenses but are atypical events that do not
carry on from one year to the next.1 The Commission accepted Staff's recommendation
and allowed the Company to recover its consulting expenses over a five-year period.
For the Refund Cases legal fees, rather than disallow the expense, the
Commission should adopt a treatment similar to the one used for consultant fees.
Idaho Power believes that the Refund Cases legal expenses are representative of the
ordinary and usual level of legal expenses the Company incurs annually and should
remain in the test year expenses for recovery. However, if the Commission is unwilling
to include the total amount of the Refund Cases legal costs in 2003 test year expense
it should allow the Company to amortize the costs over a five-year period, including
interest on the unamortized balance. The accounting treatment the Company proposes
It should also be noted that the Commission included an unusual , one-time event, the 2001 tax
methodology change, in its computation of test year income taxes.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 21
to effectuate a five-year amortization of the expenses associated with the Refund
Cases is as follows:
!:&gal Expenses:
CREDIT:407.300 Regulatory Debit
$282 035
$282 035
DEBIT:182.300 Regulatory Assets
To move 4/5 of Refund Case legal expenses to regulatory asset.
CREDIT:182.Regulatory Assets
$70 509
$70 509
DEBIT:407.300 Regulatory Debit
To amortize the balance of the Refund Cases over the next four years.
These entries assume that the Commission will add 1/5 of $352 544
($70 509) back to expense in the 2003 test year. Interest on the unamortized balance
should be included as well.
In the Order the Commission admonished Idaho Power to continue to act
in good faith to participate in the Refund Cases to the extent necessary to protect the
interests of ratepayers and shareholders. Idaho Power has, and will continue to act in
good faith in its participation in these cases.
While the Company agrees that adherence to regulatory accounting
conventions is important to provide continuity and certainty and to prevent arbitrary and
capricious rate making, rigid adherence to regulatory accounting conventions should
not provide a disincentive for the exercise of good faith.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 22
IV.
REMOVAL OF THE CAPITALIZED INCENTIVE PAY AMOUNT
FROM RATE BASE IS UNREASONABLE, UNLAWFUL
ERRONEOUS, UNDULY DISCRIMINATORY AND NOT IN
CONFORMITY WITH THE FACTS OF RECORD AND/OR THE
APPLICABLE LAW.
Idaho Power included amounts in its case for incentive pay provided to its
employees. The incentive pay amounts included in the test year by Idaho Power fall
into two separate categories. The first category consists of incentive payments that
were made in prior years , capitalized in accordance with approved regulatory
accounting conventions and included in the test year rate base. The second category
of incentive pay consists of operating expense for incentive pay as an addition to test
year payroll expenses. The second category anticipates that under normal conditions
the Company would make incentive payments as a part of its total employee
compensation program. Idaho Power is requesting that the Commission reconsider
only its decision to remove the capitalized incentive pay from rate base. The Company
is not seeking reconsideration of the adjustment the Commission made to test year
operating expense associated with incentive pay.
Separate from the issue of whether the incentive payments that were
capitalized and included in the 2003 test year rate base were prudently incurred and are
valid items for current inclusion in the Company s revenue requirement, the Company is
very concerned that the Commission s decision to disallow rate base treatment of these
expenses will have an immediate and substantial impact on the Company s earnings.
Unless modified , the Commission s Order will require the Company to
immediately record a reduction in earnings for the full $7 741 747 amount. Such a
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 23
write-down will have a significant adverse effect on the Company s earnings and exert
continuing downward pressure on the Company s credit ratings. If the Commission
ultimately determines not to reconsider its decision to exclude capitalized incentive pay
from current revenue requirement, at a minimum, to avoid the write-down and the
attendant adverse effects on the Company, Idaho Power requests that the Commission
create a regulatory asset in the amount of $7 741 747 which would be amortized
without interest, over a twenty year period.
The accounting treatment the Company proposes for the establishment of
the regulatory asset and the annual amortization amount is as follows:
~pitalized Incentive
CREDIT:101 Electric Plant in Service
741 747
741 747
DEBIT:182300 Regulatory Assets
To move capitalized incentive from plant to regulatory asset.
CREDIT:182300 Regulatory Assets
$387 088
$387 088
DEBIT:407.Regulatory Debits
To amortize the regulatory asset over a twenty-year period.
These entries assume that the Commission will add 1/20 of $7 741 747
($387 088) to expense in the 2003 test year.
Creating such a regulatory asset would allow the Company to avoid the
immediate write-down of a $7.7 million amount with an annual cost to customers of only
$387 088. Idaho Power believes this would be a reasonable way to mitigate the
adverse effects of the immediate write-down.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 24
THE COMMISSION'S CALCULATIONS OF IDAHO POWER'
REVENUE REQUIREMENT AS SET FORTH IN IPUC ORDER
NO. 29505 CONTAIN COMPUTATIONAL ERRORS IN THE
AMOUNT OF $2 668,367.
On June 11 2004 , Idaho Power filed a "Notice of Computational Errors in
Establishing the Company s Revenue Requirement" with the Commission. Copies were
both e-mailed and mailed to all of the parties. In that Notice, the Company requested
that the Commission consider, and if possible, issue an order on one day s notice
changing the Company s rates to reflect correction of the computational errors identified
in the Notice. At the time of the filing of this Petition , the Commission has not issued an
Order on the computational errors. To avoid any procedural issues , the Company is
including the issue of computational errors as an additional and separate matter for
reconsideration by the Commission.
PUC Order No. 29505 contains computational errors that understate
Idaho Power s Idaho jurisdictional revenue requirement by $2 668 367. Although the
Company contends that the Commission s determination of Idaho Power s revenue
requirement is based upon certain findings and conclusions that are erroneous , the
purpose of this Section is not to discuss the merits of the Company s contentions. They
are discussed in the other sections of this Petition.
The errors contained in the Commission s findings and conclusions in
Order No. 29505 notwithstanding, application of those findings and conclusions
resulted in computational errors in Order No. 29505 that understate Idaho Power
Idaho jurisdictional revenue requirement by $2 668 367. The Idaho jurisdictional
revenue requirement should be increased to $27 997 805 when the Commission
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 25
computational errors are corrected ($25,329 438 + $2 668 367 = $27 997 805). Thus
the Company respectfully requests on reconsideration that the Commission add
668 367 to Idaho Power s revenue requirement authorized in Order No. 29505. The
Company also requests that the Commission allow the Company to defer, with interest
at the rate of 7.8520 , this additional revenue for inclusion in customer rates when any
increase in revenue requirement resulting from the Company s Petition For
Reconsideration in this case is authorized or when the 2005-2006 Power Cost
Adjustment is implemented, whichever may occur first. Deferral of the $2 668 367 at
this time will minimize customer confusion and eliminate the need to prepare prorated
customer bills so soon after the initial implementation of the increased revenue
requirement resulting from this order.
In particular, the Company requests that the Commission correct the
following computational errors Idaho Power has identified in Order No. 29505: (1) the
Company s depreciation adjustment to rate base; (2) the Company s budget to actual
expense adjustment and (3) the Company s pension expense adjustment, all as
described below and as illustrated in Attachment 2 enclosed herewith.
The Company s Revenue Requirement Should Be
Increased Bv $522.228 to Adiust For the Commission
Computational Errors To The Company s Depreciation
AQjustment To Rate Base
With regard to the Company s depreciation, the Commission Staff
incorrectly deducted $2 205 647 from the Company s Electric Plant in Service
Accounts 310-398. Instead , $2 205 647 should have been deducted from the
Company s Accumulated Depreciation Reserve. Correcting this error increases the
Company s Rate Base by $4 411 294 as illustrated on Attachment 2.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 26
Applying the Return on Rate Base of 7.8520/0 to this figure in conformance
with Order No. 29505 results in an increase to the Company s revenue requirement of
$346 375 before application of the net-to-gross multiplier of 1.642. Application of the
multiplier results in a total system increase in revenue requirement of $568,747 and an
Idaho jurisdictional revenue requirement impact of $522 228 as illustrated in
Attachment 2.
The Company s Revenue Requirement Should Be
Increased Bv $371.853 To Ad~ust For The Commission
Computational Errors To The Company s Budget To
Actual Expense Adjustment
The Commission inadvertently omitted $379,967 from the Company
budgeted to actual expense adjustment. In particular, this correction must be made to
the Company s General Plant Maintenance Account , Account 935. The impact on the
Idaho jurisdictional revenue requirement is $371 ,853 as shown on Attachment 2. The
Company s revenue requirement should be increased by this amount to adjust for the
Commission s computational errors to the Company s budget to actual expense
adjustment.
The Company s Revenue Requirement Should Be
Increased Bv $1.774.286 To Adiust For the
Commission s Computational Errors To The Company
Pension Expense Adiustment
The Commission Staff made an adjustment of $9 188,163 to the
Company s Pension Expense , Account No. 926, based on the Commission
determinations in Order No. 29505. Only $7 053 492 should have been deducted from
this Account since part of the test year expense should have been capitalized. The
difference between the Staff adjustment and the correct expense adjustment is
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 27
134 671 as illustrated on Attachment 2. The capitalized amount is a deduction to
Rate Base in the amount of $2 014 489, also illustrated on Attachment 2.
Applying the Return on Rate Base of 7.8520/0 to the capitalized deduction
to Rate Base as provided by Order No. 29505 results in a deduction of $158,178.
Application of the net-to-gross multiplier to this figure produces a total system return
deduction of $259,728. Deducting this amount from the $2 134 671 increase to
expense identified above , results in a pension expense correction of $1 874 943 to the
Company s total system. The resulting impact on the Idaho jurisdictional revenue
requirement is $1 774 286, the amount by which the Company s revenue requirement
should be increased to adjust for the Commission s computational errors to the
Company s pension expense adjustment.
As a result of these computational corrections, the Company s revenue
requirement for the Idaho jurisdiction should be increased by a total of $2 668 367.
($522 228 from the stipulated depreciation adjustment + $371 853 for the adjustment
to budgeted to actual expenses + $1 ,774 286 for the correction to the Company
pension expenses).
VI.
THE COMPANY DESIRES CLARIFICATION OF THE
COMMISSION'S INTENT FOR IMPLEMENTING A DSM
PROGRAM FOR SCHEDULE 19 CUSTOMERS.
In Order No. 29505 , the Commission ordered the Company to "work with
its Schedule 19 industrial customers to develop a DSM program that allows
Schedule 19 customers to determine appropriate energy conservation improvements to
their own facilities and receive matching funds from their contributions to the Energy
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 28
Efficiency Rider Program to install the improvements." (Order No. 29505, p. 63) Idaho
Power is not seeking reconsideration of this portion of the Order. The Company is
seeking clarification from the Commission to ensure that the Company correctly
executes this portion of the Commission s Order.
On page 63 of the Order, the Commission stated:
We note that the Industrial Efficiency Program implemented in
October 2003 is targeted to customers whose load is at least 500
, while customers are required to have at least 1 000 kW of
demand to qualify for Schedule 19 rates. There was no indication
in the record that any of the five industrial efficiency proposals
already approved or under review by Idaho Power were for
Schedule 19 customers.
First, to make sure there is no confusion on the part of the Commission or
customers, the Company wants to clarify that its existing Industrial Efficiency Program
implemented in October 2003, as well as other efficiency proposals targeting industrial
and commercial customers currently under consideration by Idaho Power, are and will
be available to Schedule 19 customers. They are not targeted specifically at
Schedule 19 customers but are available to Schedule 19 customers. It is Idaho
Power s understanding that the Commission , in this portion of the Order, is requiring
the Company to establish a DSM program that would only be available to Schedule 19
customers.
The Order goes on to specify that the DSM program for Schedule 19
customers would allow the Schedule 19 customers to determine appropriate energy
conservation improvements to their own facilities and receive matching funds from their
contributions to the Energy Efficiency Rider Program to install the improvements.
(emphasis added) Idaho Power needs clarification as to the meaning of the italicized
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 29
language. Is it the Commission s intention that the Schedule 19 customers would be
able to fund improvements to their own facilities in an amount equal to their
contributions , or was it intended that the program would provide them with additional
funds from Energy Efficiency Rider receipts to match their contributions? Are the
Schedule 19 customer contributions to be included from May 16, 2002 when the Energy
Efficiency Rider was implemented or from June 1 , 2004 when the Order was issued?
As might be expected , tracking from May 16 , 2002 will be much more difficult.
It is also unclear to Idaho Power as to the role, if any, the Energy
Efficiency Advisory Group ("EEAG") would have in this process. Currently, when Idaho
Power is in the process of developing a DSM program , it reviews that program with the
Energy Efficiency Advisory Group with the intention of receiving input from the EEAG
on program design and scope and ultimately acknowledgment by the EEAG that this
program is a prudent use of Energy Efficiency Rider funds. Once the EEAG has had an
opportunity to review and comment on the DSM program , the Company implements the
program without formally submitting the program to the Commission for its review and
approval.2 Is it the Commission s intent that for this Schedule 19 customer-only DSM
program, that the current EEAG process should not be followed, but instead that Idaho
Power should, in consultation with the Schedule 19 industrial customers , develop a
proposal and formally present that proposal to the Commission for its review and
approval? Does the Commission contemplate issuing an order approving the Program?
If the Commission can provide additional clarification as to its intent for
the Schedule 19 customer DSM program, it will greatly assist the Company in working
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 30
efficiently with its Schedule 19 customers to develop the DSM program required by
Order No. 29505.
VII.
NATURE AND EXTENT OF EVIDENCE AND ARGUMENT
TO BE OFFERED ON RECONSIDERATION
Commission Rule of Procedure 331 requires that Idaho Power state the
nature and extent of evidence or argument it will present or offer if reconsideration is
granted. It is the position of Idaho Power that the evidentiary record before the
Commission and the applicable law requires that the Commission modify Order No.
29055 as set forth in this Petition For Reconsideration. Idaho Power does not believe
that any further evidence is necessary for the Commission to reach that conclusion.
Nevertheless, the Company is prepared to present additional testimony and/or
argument in support of each of the items it has identified as requiring modification set
forth in this Petition.
Subsections E, F and G of Section I of the Petition describe in detail how
the Company proposes (1) to present additional testimony and evidence to address the
Commission s decision to utilize a hybrid income tax rate to determine Idaho Power
test year income tax expense; and (2) the procedure to be followed to implement a
resolution to these issues. As a result , the Company will not repeat that description
here but requests that the Commission refer to those sections in this prayer for relief.
The two exceptions to this process have been the Residential Air Conditioning Cycling Program
and the Irrigation Peak Clipping Program , which have been formally submitted to the Commission
for approval.
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 31
For Sections" through V of this Petition , the procedure, including the
scope and type of evidence and argument the Commission desires to receive, would be
determined by the Commission in the usual manner.
DATED at Boise, Idaho, this 15th day of June, 2004.
BARTON L. KLI N E
Attorney for Idaho Power Company
MONICA B. MOEN
Attorney for Idaho Power Company
(JJa 0--:-
BARTON L. KLINE
IDAHO POWER COMPANY'S PETITION FOR RECONSIDERATION
OF COMMISSION ORDER NO. 29505 Page 32
ATTACHMENT
LETTERS FROM:
Thelen Reid & Priest LLP
Deloitte & Touche LLP
Ernst & Young LLP
PricewaterhouseCoopers LLP
Thelen Reid & Priest LLP
Attorneys At Law
James I. Warren
875 Third Avenue
New York, NY 10022
Tel. [phone]
Fax [phone].603.2072 Direct Dial
212.829.2010 Direct Fax
jwa rren (ill thelen reid. com
www.thelenreid.com
June 14, 2004
Mr. Gene Marchioro
Corporate Tax Director
Idaho Power Company
1221 West Idaho Street
Boise, Idaho 83702
Re:Normalization Consequences of Computing Income Tax Expense Pursuant
To Order No. 29505
Dear Mr. Marchioro:
You have referred us to Order No. 29505 (the "Order ) recently issued by the Idaho
Public Utilities Commission ("IPUC") in Case No. IPC-03-13 and have asked for our opinion
as to the consequences to Idaho Power Company ("IPCO") under the normalization requirements
of the Internal Revenue Code of 1986, as amended ("Code ) and the Regulations promulgated
thereunder of computing the tax expense element of cost of service pursuant to certain provisions
of that Order. As is discussed in greater detail hereinafter, if the Order becomes final and non-
appealable in its current form, it is our opinion that this aspect of the Order should constitute a
violation of the tax normalization rules and IPCO should thereby become ineligible to claim
accelerated depreciation for federal income tax purposes on all public utility property subject to
the jurisdiction of the IPUC from the effective date of the Order. While this opinion is based
primarily on the Order s effect on the computation of the provision for deferred tax expense, we
believe that its effect on the computation of the provision for current tax expense should also
constitute a violation of the tax normalization rules.
STATEMENT OF FACTS
On October 16, 2003, IPCO applied to the IPUC for authority to increase the rates it
charges for the provision of electric service. In its application, IPCO proposed to calculate its tax
expense element of cost of service by applying the 35% federal statutory income tax rate (before
reflecting the benefit of state taxes) to its "regulatory" taxable income (i.its taxable income
reflecting the appropriate regulatory adjustments). As a consequence of this procedure, !PCO
proposed to compute both its current and deferred federal income tax expense at that tax rate.
The Staff of the IPUC ("Staff') offered an alternative method of calculating IPCO's tax expense
element of cost of service. Staff proposed to apply not the federal statutory rate, but a federal tax
NEW YORK SAN FRANCISCO WASHINGTON, DC LOS ANGELES SILICON VALLEY MORRISTOWN, NJ
Mr. Gene Marchioro
June 14 2004
Page 2
Thelen Reid & Priest LLP
rate of 25.24% equal to IPCO's five-year (1999-2003) average effective federal income tax rate
(net of the benefit of state taxes) to its regulatory taxable income.! The effective tax rate for each
of the five years was computed by comparing "above the line" tax expense reflected for financial
reporting purposes to "above the line" pre-tax, financial reporting income. Thus, in all years, the
effective tax rate was unrelated to the level of tax actually paid to the government. As a
consequence of this procedure, Staff proposed to compute both IPCO's current and deferred
federal income tax expense using the 25.24% average effective rate. The IPUC convened
interim hearings, technical hearings, workshops and formal hearings with regard to this
application. On May 25, 2004, it issued the Order, Order No. 29505, in which inter alia
adopted Staffs proposal regarding the computation ofIPCO's federal income tax expense.
LAW & ANALYSIS
GENERAL
A. The Purpose of the Normalization Rules
The ability for utilities (and other enterprises) to claim accelerated depreciation for
federal tax purposes was established by the Tax Reform Act of 1954.2 Government economists
have been uniform in their view that the provision of this benefit is tantamount to the extension
of a loan by the government. For example, Deputy Assistant Secretary of the Treasury (Tax
Analysis) Emil M. Sunley testified before the Oversight Committee of the House of
Representatives Committee on Ways and Means on March 28, 1979 as follows:
Thus, to the extent that taxable income of utilities is measured with
the use of depreciation imputation rules that depart from those usedby regulatory commissions the Federal government is
implementing an interest-free lending program of the type just
described. Prior to the modifications of the tax laws beginning in
1954, there was reasonably close correspondence between the
regulatory and tax rules governing depreciation imputation.
regulated industries, therefore, the post-1954 deviations of tax
rules for income measurement from regulatory norms marked the
introduction of a subsidy program that may only be correctly
accounted for as a source of interest-free loans.
Similarly, Deputy Assistant Secretary of the Treasury for Tax Legislation Daniel !. Halperin
testified before The House of Representatives Committee on Ways and Means on April 15 , 1980
as follows:
Accelerated depreciation is no different than an interest-free loan
from the Government and it should be treated as any other loan
See Exhibit No.1 06, A. Holm, Staff, Schedule 1 , 2/20/04.
Congress authorized accelerated tax depreciation in 1954 in an effort to stimulate capital formation and
thereby promote economic growth, modernization, increased production, and a higher standard of living. See
Rep. 1337, 83rd Congo (1954).
Statement of Emil M. Sunley, Deputy Assistant Secretary (Tax Analysis), Before the Oversight
Subcommittee of the Committee on Ways and Means (March 28, 1979).
Mr. Gene Marchioro
June 14 2004
Page 3
Thelen Reid & Priest LLP
would be with the one exception that this loan is provided at a zero
interest rate so it is not necessary to recover interest costs on this
loan.
Director, Office of Tax Analysis, Department of Treasury, John G. Wilkins testified before the
Subcommittee on Energy Conservation and Power of the House of Representatives Committee on
Energy and Commerce on June 12, 1984 as follows:
When tax depreciation rules permit deductions at a faster rate than
the actual physical deterioration of capital assets, the economic
effect is the deferral of tax liability. The result is the same as if the
Treasury were to extend a series of interest-free loans to the
taxpayer during the early years of the asset's life, which are
repayable in the later years.
While accelerated depreciation was made available to enterprises in all industries
Congress identified a particular problem in the case of rate regulated industries. In these
industries, the nature of the intended capital formation subsidy could be diminished or even
eliminated by operation of the rate-setting process. The depreciation normalization rules
enacted as part of the Tax Reform Act of 1969 6 were intended to prevent the conversion through
the regulatory process of this interest-free loan to utilities into a consumption subsidy. In other
words, the depreciation normalization rules were promulgated to insure that the proceeds of the
loan extended through accelerated tax depreciation remained with the utility and were not passed
on to the utility s customers by virtue of "flow through" ratemaking.7 These rules embody the
philosophy that, because the federal government provided a benefit for a specific purpose, it will
retain jurisdiction over the benefit's disposition and use in furtherance of this purpose.
The Mechanics of the Normalization Rules
The statutory mechanism used to accomplish this goal is embodied in former Code
section 167(1) and Code section 168(f)(2). These sections provide that accelerated depreciation
is only available with respect to public utility property where the utility employs a
nonnalization method of accounting.The term "normalization method of accounting
defined in Code section 168(i)(9). The employment of a normalization method of accounting
requires, essentially, the use of deferred tax accounting for the benefits of accelerated
depreciation. In this regard, the depreciation normalization rules prescribe the extent to which
deferred taxes must be established, the extent to which, once established, they can be used to
offset rate base and the extent to which they can be reversed. It is the recognition of this deferred
tax accounting that mechanically causes the governmental loan to be retained by the utility
Statement of Daniel I. Halperin, Deputy Assistant Secretary (Tax Legislation), Before the House
Committee on Ways and Means (April 15, 1980).
Statement of John G. Wilkins, Director, Office of Tax Analysis Department of the Treasury, Before the
Subcommittee on Energy Conservation and Power of the House Committee on Energy and Commerce (June 12
1984).
Section 441 (a) P.L. 91-172, 91 st Cong., 1
st Sess (1969) added subsection (1) to Code section 167.
See J. Comm. on Taxation Federal Tax Provisions Affecting the Electric Power Industry, JCX-54-
(June 11 , 2001).
Mr. Gene Marchioro
June 14 2004
Page 4
Thelen Reid & Priest LLP
(though the benefits of the availability of the loan is reflected in the reduction in financing costs
supported by customers).
Specifically, Code section 168(i)(9)(A) provides:
In order to use a normalization method of accounting with respect
to any public utility property for purposes of subsection (f)(2)
(i) the taxpayer must, in computing its tax expense for
purposes of establishing its cost of service for ratemaking purposes
and reflecting operating results in its regulated books of account
use a method of depreciation with respect to such property that is
the same as, and a depreciation period for such property that is no
shorter than, the method and period used to compute its
depreciation expense for such purposes; and
(ii) if the amount allowable as a deduction under this
section with respect to such property differs from the amount that
would be allowable as a deduction under section 167 using the
method (including the period, first and last year convention, and
salvage value) used to compute regulated tax expense under clause
(i), the taxpayer must make adjustments to a reserve to reflect the
deferral of taxes resulting from such difference.
THE PROVISION FOR DEFERRED TAX EXPENSE
The Necessity To Ascertain The Tax Deferred
One of the critical theoretical components of the depreciation normalization rules is the
necessity to measure the amount of the governmental loan upon which the rules operate. The
measurement procedure is actually incorporated into the language of the statute itself. Code
section 168(i)(9)(A)(ii) directs the taxpayer to make adjustments to a reserve to reflect the
deferral" of taxes resulting from the difference between its depreciation deduction claimed for
tax purposes and the depreciation deduction that would be allowed were the taxpayer to use its
regulatory depreciation method for computing its tax depreciation deduction. This formulation
very explicitly measures the amount of the loan by reference to the tax deferred. It could have
measured it by reference to the tax anticipated to be repaid in the future or by some other
technique - but it does not. One computes the difference in depreciation deductions and then
calculates the reduction in tax occasioned by the difference - a classic "with and without"
computation. It is self-evident that the tax rate that must necessarily be used to accurately
calculate the tax deferred is the statutory tax rate. The use of any other tax rate will not produce
the quantification of the governmental loan required by the literal terms of the statute.
Interpretations Of The Normalization Rules
On several occasions, the Internal Revenue Service ("IRS") has expressed its view on the
required calculation of the deferred tax requirements under the depreciation normalization rules.
The vehicle for the expression of this view has been the private letter ruling process. A private
letter ruling is issued to a taxpayer who seeks technical guidance from the National Office of the
Mr. Gene Marchioro
June 14 2004
Page 5
Thelen Reid & Priest LLP
IRS with respect to a specific set of facts. By statute, such a ruling is not precedential and is
binding only with respect to the taxpayer to whom it is issued.8 Notwithstanding this limitation
private letter rulings do provide valuable insight into the IRS's analyses and interpretations in
many technical areas.9 One of those areas in which practitioners have come to rely substantially
on such rulings is the interpretation of the normalization rules. The rulings discussed hereafter
are illustrative of the principles applicable to the measurement of the deferred tax requirements
under the depreciation normalization rules.
Private Letter Ruling 9024067 (June 15, 1990)
In PLR 9024067, the issue presented was the calculation of deferred taxes for 1987. The
utility taxpayer contended that the normalization rules required the provision of deferred taxes
computed by reference to the statutory tax rate in effect for 1987 (40%),10 the year in which the
depreciation deductions were claimed. Another party to the proceeding argued that deferred
taxes should be calculated based on a 34% tax rate - the statutory tax rate at which the taxes
deferred would ultimately be paid. The IRS concluded that the taxpayer must use the 40%
statutory corporate income tax rate for 1987. It stated that:
(sJince the reserve will be paid out on the basis of then-current tax
rates and not any former rates, it would not be illogical to conclude
that deferred tax for 1987 should be calculated using the new 34
percent rate. However, such a conclusion would be contrary to the
normalization requirements under the Code and the Income Tax
Regulations. (Emphasis added.
The IRS concluded that the amount of deferred taxes to be accounted for is equal to the
difference between the company actual federal income tax liability computed using an
accelerated method of depreciation and what the company s tax liability would have been using a
straight-line method of depreciation. In each case, the company must necessarily determine its
tax liability using the current year (1987) statutory tax rate of 40%.
Private Letter Ruling 8818040 (February 9, 1988)
In PLR 8818040, the utility taxpayer generated net operating losses ("NOLs ) in years
1985 and 1986. In those years, the statutory federal income tax rate was 46%. The utility
claimed accelerated depreciation in those years but did not record deferred taxes. These NOLs
could not be carried back but, instead, were carried forward and used to offset the utility
taxable income generated in 1987, a year in which the statutory federal income tax rate was
39.95%. The issues presented were (1) whether the depreciation normalization rules
contemplated the establishment of deferred taxes in the year in which the accelerated
depreciation deductions were claimed or in the year that the NOLs were used to offset taxable
income and (2) whether deferred taxes should be established at the tax rate in effect when the
accelerated depreciation deductions were claimed (46%) or at the tax rate in effect when the
Code section 6110(k)(3); Code section 61100)(3).
See, Rowan Companies v. United States 452 U.S. 247 (1981).
The actual tax rate for calendar year 1987 was 39.95%. In the ruling, the rate was apparently rounded.
Mr. Gene Marchioro
June 14, 2004
Page 6
Thelen Reid & Priest LLP
utility used the NOLs (39.95%). The IRS concluded that the establishment of deferred taxes in
1987, the year in which the NOLs were used to offset taxable income, and at the statutory rate
then in effect (39.950/0) was consistent with the normalization rules.
The fact that no deferred taxes were provided in the year in which the depreciation
deductions were claimed is entirely consistent with the characterization of accelerated
depreciation as a mechanism to extend a loan. The loan was not, in fact, extended until tax was
actually deferred in 1987. Moreover, the use of the 1987 statutory tax rate further supports the
loan analogy. The amount of the loan was a function of that year s tax rate.
Private Letter Ruling 8903080 (January 23,1989)
In PLR 8903080, the IRS addressed the situation in which depreciation deductions were
claimed in two years in which NOLs were produced and the NOLs were carried back to offset
taxable income in an earlier year. The statutory income tax rates for the years in which the
depreciation deductions were claimed and the NOLs produced were 39.95% and 34% while the
tax rate for the year to which the NOLs were carried was 46%. The IRS ruled that the provision
of deferred taxes at the higher rate in effect in the year to which the NOLs were carried was
consistent with the normalization requirements. This conclusion is, once again, consistent with
the premise that the amount of the loan extended was the tax deferred by virtue, of the offsetting
of the NOL carrybacks against the earlier year s taxable income, thereby producing a 46%
benefit.
The importance of these private letter rulings is that each one of them supports the notion
that accelerated depreciation is to be treated as a governmental loan extended when and to the
extent of income tax actually deferred. Though the circumstances differed, the conclusions of
each was consistent with that underlying perspective. Based on these rulings, it can be surmised
that the IRS is fully in concert with the analytical framework in which the benefits of accelerated
depreciation are treated as a loan.
Conclusion as to the Provision for Deferred Tax Expense
The use of a tax rate to establish the deferred tax expense component of cost of service
other than the one that accurately measures the tax deferred as a result of claiming accelerated
tax depreciation should not be deemed consistent with the requirements of the depreciation
normalization rules. The use of a 25.24% five year average federal income tax rate for this
purpose should, therefore, be violative of these rules. While we understand that there may be a
considered rationale for the IPUC adopting the use of this tax rate, the tax statute operates
mechanically. Consequently, the validity or non-validity of the rationale is simply not relevant
to the tax outcome.
IlL THE PROVISION FOR CURRENT TAX EXPENSE
General
Independent of the Order s effect on the calculation of the provision for deferred tax
expense, its effect on the calculation of the provision for current tax expense should likewise
Mr. Gene Marchioro
June 14, 2004
Page 7
Thelen Reid & Priest LLP
constitute a nonnalization violation. There are two bases for this conclusion. One relates to the
inconsistent estimates and projections" language of the nonnalization statute and the other
relates to the interdependence of the provisions for current and deferred tax expense.
Inconsistent Estimates and Projections
Code section 168(i)(9)(B)(ii) provides:
Use of inconsistent estimates and projections. The procedures and
adjustments which are to be treated as inconsistent for purposes of
clause (i) shall include any procedure or adjustment for ratemaking
purposes which uses an estimate or projection of the taxpayer s tax
expense, depreciation expense, or reserve for deferred taxes under
subparagraph (A)(ii) unless such estimate or projection is also
used, for ratemaking purposes, with respect to the other 2 such
items and with respect to rate base.
The thrust of this provision is that the regulatory process cannot "mix and match" the
elements of ratemaking that are relevant to the preservation of the integrity of the governmental
loan provided by accelerated depreciation. The treatment of the provision for current tax
expense in a way that is inconsistent with the treatment of the provision for deferred tax expense
appears to run afoul of this provision.
One way in which such an inconsistency might occur is where the reversal of deferred
taxes is not properly reflected in the computation of current tax expense. Generally, in the early
years of an asset's life, tax depreciation exceeds regulatory depreciation, a govemmentalloan is
thereby extended and the nonnalization rules operate (through the requirement of deferred tax
accounting) to insure that the utility retains the loan proceeds. In the later years of the asset'
life, the converse is the case. Regulatory depreciation exceeds tax depreciation and the
governmental loan is repaid. The reversal of deferred tax reserves during this period
memorializes the loan repayment. However, the reversal of the deferred tax reserve itself
represents only one aspect of the larger transaction. It represents a reduction in the governmental
obligation. The provision for current tax expense must be increased by a like amount. This
increase represents the actual repayment (or imminent repayment) of the loan. The reversal of
deferred taxes when not accompanied by a corresponding increase in current tax expense
converts" the loan into a customer grant. The normalization rules are constructed to prevent
exactly this. Those rules mandate that the proceeds of the loan must remain with the utility while
the utility s customers receive a reduction in financing costs. This inconsistency between the
treatment of current and deferred tax expense effects a direct flow ~hrough of the benefits
accelerated depreciation to consumers. This situation is accommodated by the statutory
provision set out above.
Interdependence Of Current And Deferred Income Tax
Expense
The nonnalization rules embody a general operating principle to the effect that one
cannot accomplish indirectly that which one is prohibited trom accomplishing directly. This
Mr. Gene Marchioro
June 14, 2004
Page 8
Thelen Reid & Priest LLP
principle is explicitly stated in the regulations applicable to investment tax credit. Regulations
section 1.46-6(b)( 4) states:
(4) Indirect reduction to cost of service or rate base. (i)
Cost of service or rate base is also considered to have been
reduced by reason of all or a portion of a credit if such
reduction is made in an indirect manner.
While the regulations describing the depreciation normalization rules do not contain an
analogous provision, the two sets of rules are interpreted by the IRS and assumed by
practitioners in the area to share this principle. In fact, the IRS has explicitly applied this
principle to reductions in current tax expense. In these situations, the IRS has reasoned that
deferred tax expense and current tax expense are simply components of total tax expense. Thus
when one imposes an adjustment on current tax expense that could not be imposed upon deferred
tax expense without violating the depreciation normalization rules, the mere fact that the
adjustment is to current tax expense will not avoid the violation. I I For this purposes, current and
deferred tax expense are considered fungible.
Conclusion as to the Provision for Current Tax Expense
An average effective tax rate derived from five years of effective tax'rates (themselves
computed by reference to financial reporting, not tax, results) bears no necessary relationship
whatsoever to the tax liability that may be due upon the reversal of previously provided
accelerated depreciation-related deferred taxes. We believe that the depreciation normalization
rules require that the provision for current tax expense accommodate this liability. Moreover, the
first portion of this letter concludes that the calculation of deferred tax expense using such an
average effective tax rate should violate the depreciation normalization rules. Applying the
principle described in immediately preceding paragraph, the calculation of current tax expense
using such a rate should stand on no sounder footing. In light of the above, we believe that the
provision of the Order relating to the calculation of the provision for CUITent tax expense should
give rise to a violation of the depreciation normalization rules.
CONSEQUENCES
VIOLA TION
OF A DEPRECIATION NORMALIZATIONIv.
utility that does not use a normalization method of accounting for public utility
property is not entitled to claim accelerated depreciation with respect to any such property
subject to the jurisdiction of the commission implementing the violative rate order.I2 In such a
case, depreciation may be claimed on tax returns only to the extent of those levels of
depreciation reflected for regulatory purposes. In short, under the normalization system, if the
governmental loans extended through use of accelerated depreciation are not treated in the
11 See PLR 8711050 (December 15, 1986); PLR 8525156 (March 29, 1985). Note that the particular
adjustments addressed in these rulings (consolidated tax adjustments) were later determined by the IRS not to
violate the depreciation normalization rules because the sources of the adjustments were not regulated operations
(they were non-regulated affiliate corporations). However, this in no way diminishes the importance of the
principle in situations in which the adjustment is not attributable to non-regulated operations.
12 See Treas. Regs. sections 1.167(1)-1(h)(2)(ii), example 5 and 1. 1 67(l)-3(a).
Mr. Gene Marchioro
June 14 2004
Page 9
Thelen Reid & Priest LLP
statutorily-designated fashion, no further loans are extended. The reduced level of tax
depreciation deductions occasioned by violation would, in most instances, significantly
increase the taxes payable by a utility. Since customers benefit from tax-related governmental
loans (through the reduction of rate base by accumulated deferred income taxes), their absencemay be costly.
The simple model appended to this letter provides some sense of the extent of this cost.
It presumes an asset which costs $1 000, has a 40 year regulatory life and would be eligible for
20 year MACRS depreciation for tax purposes (the model ignores 50% bonus depreciation).
Using a 35% federal tax rate and IPCO's cost of capital as reflected in the Order (7.852% pre-
tax), the model demonstrates that, by forfeiting entitlement to accelerated depreciation
customers would, over the life of the asset, forego a rate reduction of approximately $380. This
rate reduction would have a present value of about $159 (at a 5% discount rate). Assuming a
$200 million annual capital budget for assets of this type, the present value cost of a single year
of forfeiture would approximate $32 million. Factoring in 50% bonus depreciation would
increase this cost.
CAVEATS
The opinions herein are bas~d on the Code and the Regulations promulgated thereunder
each as amended from time to time and as in existence as of the date hereof, and on existing
administrative and judicial interpretations thereof. Legislation enacted, administrative action
taken, administrative interpretations or rulings, or judicial decisions promulgated or issued
subsequent to the date of this letter may result in tax consequences different from that which is
anticipated by our opinions herein. Additionally, the opinions herein are not binding on the IRS
or any court, and there can be no assurance that contrary positions may not be taken by the IRS.
The opinions herein speak only as of the date hereof, and we have no obligation to advise
you of any changes in law that occur after the date hereof. The opinions herein are limited to the
matters expressly stated herein, and no opinion or other statement may be inferred or implied
beyond the matters expressly stated herein. We understand that you will deliver a copy of this
letter to the IPUC in connection with your petition for reconsideration of the Order, and that the
IPUC shall be entitled to rely on the opinions contained herein. With the exception described
the preceding sentence, the opinions herein are solely for your benefit and may not be quoted
showed to, or relied upon by any other person, without our prior written consent.
Very truly yours
~ ~
t~~ LL.P
THELEN REID & PRIEST LLP
NY #601227 v2
Thelen Reid & Priest LLP
IDAHO POWER RA TE MODEL
RA TE REDUCTION DUE TO ACCELERA TED DEPRECIA nON PER $1 000 OF PLANT COST
ASSET COST $1,000
TAX LIFE MACRS 20 YRS
BOOK LIFE 40 YEARS
COST OF CAPITAL 852% AFTER TAX
YEAR TAX DEP BK DEP TAX DEP BOOK DEP DEF TAX ADFIT PRE-TAX COST RATE
RATE RATE OF CAPITAL REDUCTION
$13.$8.$4.$4.10.49%$0.46
219 $25.$8.$16.$20.10.49%$2.
677 $23.$8.$14.$35.10.49%$3.
177 $21.$8.$12.$48.0.49%$5.
713 $20.$8.$11.$59.10.49%$6.
285 $18.$8.$9.$69.10.49%$7.
888 $17.$8.$8.$77.10.49%$8.
522 $15.$8.$7.$84.10.49%$8.
4.462 $15.$8.$6.$91.10.49%$9.
4.461 $15.$8.$6.$98.10.49%$10.
462 $15.$8.$6.$105.41 10.49%$11.
4.461 $15.$8.$6.$112.10.49%$11.
4.462 $15.$8.$6.$119.0.49%$12.
4.461 . $15.$8.$6.$126.10.49%$13.
4.462 $15.$8.$6.$132.10.49%$13.
4.461 $15.$8.$6.$139.0.49%$14.
4.462 $15.$8.$6.$146.10.49%$15.
4.461 $15.$8.$6.$153.46 10.49%$16.
4.462 $15.$8.$6.$160.0.49%$16.
4.461 $15.$8.$6.$167.10.49%$17.
231 $7.$8.$0.$166.10.49%$17.44
$0.$8.$8.$157.10.49%$16.
$0.$8.$8.$148.10.49%$15.
$0.$8.$8.$140.10.49%$14.
$0.$8.$8.$131.10.49%$13.
$0.$8.$8.$122.0.49%$12.
$0.$8.$8.$113.10.49%$11.
$0.$8.$8.$105.10.49%$11.
$0.$8.$8.$96.0.49%$10.
$0.$8.$8.$87.10.49%$9.
$0.$8.$8.$78.10.49%$8.
$0.$8.$8.$70.10.49%$7.
$0.$8.$8.$61.10.49%$6.43
$0.$8.$8.$52.10.49%$5.
$0.$8.$8.$43.10.49%$4.
$0.$8.$8.$35.10.49%$3.
$0.$8.$8.$26.10.49%$2.
$0.$8.$8.$17.10.49%$1.
$0.$8.$8.$8.10.49%$0.
$0.$8.$8.$0.10.49%$0.
TOTAL 100 100 350 350 $379.
NPV AT 5%$158.
Deloitte Deloitte & Touche LLP
Suite 1800
101 South Capitol Boulevard
Boise, JD 83702-7718
USA
Tel: [phone]
Fax: [phone]
www.deloitte.com
June 14, 2004
Mr. Gene W. Marchioro
Corporate Tax Director
Idaho Power Company
1221 West Idaho Street
Boise, Idaho 83702
Dear Gene:
The purpose of this letter is to analyze the application of the normalization requirements of the Internal
Revenue Code ("IRC"), the Treasury regulations issued thereunder, and relevant private letter rulings
PLRs ) to the computation of regulatory tax expense and accumulated deferred tax reserves (rate
base) in the rate order issued by the Idaho Public Utilities Commission ("IPUC") to Idaho Power
Company ("Idaho Power ) on May 25 2004, in its 2003 General Rate Case. As part of the rate order
the IPUC provided that Idaho Power would recover the cost of its current and future year income tax
expense using a five-year blended average effective state and federal tax rate rather than using the
combined statutory rates for the test year, 2003.
Summary
We believe that if the final rate order becomes effective without correction, there is a significant risk
that the IRS would hold that violations of the normalization requirements with respect to deferred
taxes related to book/tax depreciation differences will have occurred. As such, we believe that Idaho
Power would be subject to the IRS notification requirements provided in the nonnalization rules and
may become subject to the sanctions upon violation of the normalization requirements. As you know
compliance with (or, conversely, violation of) th~ normalization requirements is established in the
regulated books of account of a utility as well as in setting its revenue requirement, not by the
positions taken in its tax returns.
The economic consequences of violating the normalization requirements are severe and are reflected
in the tax returns and tax liabilities of a utility. The normalization regulations require utilities that
believe that they have violated the normalization requirements to notify the IRS to initiate the
determination of whether a violation has occurred. This is a process apart from the filing of a tax
return with an IRS Service Center or requesting a private letter ruling ("PLR") from IRS National
Office. Sanctions for violation of the normalization requirements with respect to deferred taxes
attributable to depreciation involve the prospective loss of the right to use accelerated tax depreciation
(e.
g.,
modified accelerated cost recovery system ("MACRS"), including 30 percent and 50 percent
bonus" depreciation). As a result of the prospective use of book/regulatory depreciable lives and
methods for tax purposes, the revenue requirement in subsequent rate cases would increase relative to
the amount that would be computed had compliance with the normalization rules been maintained.
Member of
Deloitte Touche Tohmatsu
Mr. Gene W. Marchioro
Corporate Tax Director
Idaho Power Company
June 14, 2004
Page 2
The remainder of the letter is organized as follows:
Overview of the Normalization Requirements
A. The Reason for Normalization...............................................................................
B. Normalization Mechanics... ...................................................... ............................. 2
C. Compliance with the Depreciation Normalization Requirements .........................
D. Sanctions and Notification Requirements upon Violation of the
Depreciation Normalization Requirements............................................................
E. Normalization Guidance ...............
......... ............. ........ .......... ............ """""""
.,..... 5F. Ratemaking Impact of a Violation of the Depreciation
Normalization Requirements ...............
.... ....... ....... ........"......... """""""""
...... .,... 5
Specific Normalization Requirements
A. Adjustment to the Deferred Tax Reserve and Computation of
Deferred Tax Expense during the Test Year.......................................................... 6
B. The Consistency Requirement ............................................................................... 7
C. Current Tax Provision. ...
............... ........ ............ ....... ............... ........ ....
..... .............. 8
Appendix .............. .......................
.... ................... ........................... ...... ....... ......
Attached
Overview of the Normalization Requirements
The Reason for Normalization
IRC Sections 167 and 168 (as well as many others) are provisions affecting the calculation of taxable
income (and, in turn, federal income tax liability) employed by Congress to provide broad-based
capital formation subsidies. These provisions relate to the calculation of the tax deduction for
depreciation. In the case of companies subject to cost-based regulation, the benefits bestowed by
Congress to all businesses are susceptible to being extracted from the businesses and transferred to
their customers through the rate-setting process, thereby partially or entirely frustrating Congress
intent in enacting the capital formation incentives in the first place. The normalization requirements
the Internal Revenue Code were enacted as part of The Tax Reform Act of 1969. The normalization
requirements were, and remain, a construct necessary to prevent these subsidies ITom being diminished
or eliminated by operation of the rate-setting process.
The normalization requirements can be described as effecting a sharing of Congressionally-
promulgated tax incentives between utilities and their customers. With respect to depreciation, the
normalization rules prescribe that the "zero-cost" funds produced by claiming accelerated depreciation
be retained by the utility. However, they allow the benefit of the provision of these funds to the utility
to be reflected as a reduction in the financing costs the utility charges to its customers.
Normalization Mechanics
The normalization rules relevant to the recent Idaho Power rate order govern the ability of rate-
regulated public utilities to utilize accelerated depreciation methods (including shortened recovery
periods) for federal income tax reporting purposes. The eligibility to use accelerated tax depreciation
Mr. Gene W. Marchioro
Corporate Tax Director
Idaho Power Company
June 14, 2004
Page 3
for public utility property is based on the treatment of depreciation and the associated deferred taxes in
setting rates and in the regulated books of account.
IRC Section 168(f)(2) provides that public utility property is not eligible for accelerated depreciation
under the modified accelerated cost recovery system ("MACRS") unless the taxpayer uses a
normalization method of accounting. Fonner IRC Section 168( e )(2) provides that public utility
property is not eligible for accelerated depreciation under the accelerated cost recovery system
ACRS") unless the taxpayer uses a nonnalization method of accounting. Fonner IRC
Sections 167(l)(1)(A) and 167(1)(2) provide that pre-1981 public utility property is not eligible for
accelerated depreciation for pre-ACRS property unless the taxpayer uses a normalization method of
accounting or certain other conditions are satisfied.
Pursuant to IRC Section 168(i)(9)(A)(i), in order for a rate-regulated public utility to avail itself of the
accelerated tax depreciation benefits, it is required to compute income tax expense for purposes of
establishing its cost of service for ratemaking purposes and reflecting operating results in its regulated
books of account using a depreciation method that is the same as, and a depreciation period that is no
shorter than, the method and period used to compute its depreciation expense for such purposes.
Additionally, under IRC Section 168(i)(9)(A)(ii), a public utility is required to establish and adjust a
reserve account for the cumulative difference between federal income tax liability for a given year and
the amount of federal income tax liability that would have been incurred had the amount of
depreciation expense used in the calculation of cost of service and in the regulated books of account
also been deducted on its federal income tax return. This deferred tax reserve represents the amount of
future taxes that will become due and payable as the book/tax depreciation differences reverse in
future periods.
Compliance with the Depreciation Normalization Requirements
The Treasury regulations set forth pursuant to the normalization requirements of the Internal Revenue
Code provide guidance as to how taxpayers may establish compliance with the normalization
requirements pertaining to deferred taxes associated with book/tax depreciation differences. The
requirements must be satisfied in setting rates (i.derived in reference to a test year) as well as in the
regulated books of account (i.in all years).
The regulations that establish compliance in computing cost of service for ratemaking purposes
(Regulation Section 1.167(1)-(h) (4)) provide that the presumption that the nonnalization requirements
are satisfied does not apply in any case where there is an expression of intent (regardless of the manner
in which such expression is indicated) by a regulatory body with jurisdiction to set rates of a taxpayer
indicating that the policy of the regulatory body is in any way inconsistent with the nonnalization
method of regulatory accounting. Similarly, the presumption is not satisfied if a decision by a court
having jurisdiction over such regulatory body is in any way inconsistent with the nonnalization
method of accounting.
The regulations that establish compliance in the regulated books of account (Regulation
Section 1.167(1)-(h)(3)) relate to the reflection of operating results and adjustments to the reserve for
deferred taxes in the operating books of account. In the case of a rate-regulated utility that files
periodic financial statements with its public utility commission(s), compliance is tested by reference to
the most recent periodic report(s) for a period beginning before the end of the taxable year and which
Mr. Gene W. Marchioro
Corporate Tax Director
Idaho Power Company
June 14, 2004
Page 4
was (were) filed with the public utility commission(s) before the due date (determined with regard to
extensions) of the taxpayer s federal income tax return for such taxable year. Failure by a taxpayer
properly reflect operating results or to adjust the deferred tax reserve in its regulatory books causes a
violation of the normalization requirements even if the period is not referenced in the setting of rates.
Sanctions and Notification Requirements upon Violation of the Depreciation
Normalization Requirements
The penalty for violating the normalization provisions of former IRC Section 167(1), former IRC
Section 168(e)(3) and/or present IRC Section 168(i)(9) involves the loss of the utility company
ability to claim accelerated depreciation (both accelerated methods and shorter lives) on a prospective
basis from either the date of the nonconforming rate order of the commission or the beginning of such
year, depending on the applicable depreciation system for the affected public utility property. For the
sake of simplicity, this letter will consider the loss of the right to use accelerated depreciation for all
vintages of property and systems of depreciation to occur as of the beginning of the year of violation.
Upon a normalization violation, the utility would be forced to use the straight-line method for tax
purposes and lives for tax purposes based upon facts and circumstances, which would typically be the
lives used for regulatory accounting purposes. This sanction (i.the prospective loss of the right to
claim accelerated depreciation) applies both to property in service as of the date of the violation as
well as property placed in service after the date of the violation but before the issuance of a
nonviolative rate order. Depreciation under the normalization sanctions for assets placed in service
prior to the year of the violation applies to the remaining basis of plant as of the beginning of the year
of violation. Even if the violation is subsequently corrected, there is no mechanism in the regulations
to allow the taxpayer to resume accelerated depreciation on its public utility property placed in service
prior to the time that compliance with the normalization requirements resumes.
The date of a violation of the depreciation normalization requirements is determined under Regulation
Section 1.167(l)-I(h)(5). Under these provisions, a normalization violation by virtue of an
inconsistent method of regulatory accounting occurs upon a change in method of regulated accounting
(with or without a rate order), "an order by a regulatory body or court that such method of accounting
be changed, or an interim or final rate determination by a regulatory body which determination is
inconsistent with the method of regulated accounting used by the taxpayer immediately prior to the
effective date of such rate determination." Unlike the sanction and notification requirements with
respect to investment tax credit normalization pursuant to Regulation Sections 1.46-6(f)(3), (7), (8)
and (9), a depreciation normalization violation may occur even if a utility has not exhausted its appeal
and litigation rights.
Although Idaho Power is filing a petition for reconsideration of the final rate order issued May 25
2004, Idaho Power would be in violation of the normalization rules on June 1 2004, the effective date
of rates, and would be subject to the sanctions for violation beginning January I , 2004, if the effective
date of rates with respect to the treatment of income taxes in the 2003 general rate case is not delayed.
If the IPUC stays the order of May 25 2004, with respect to the disputed federal income tax matter
until the normalization issue is resolved (e.by IRS private letter ruling), a normalization violation
would either not occur (assuming that the new rates conform with the IRS ruling) or would occur upon
the effective date of the new rates (if the new rates are inconsistent with the IRS ruling).
Mr. Gene W. Marchioro
Corporate Tax Director
Idaho Power Company
June 14 2004
Page 5
Under Regulation Section 1. 167(l)-1(h)(5), once a method of accounting in violation of the
normalization requirements has been put into effect, inc1uding if set into effect via an interim rate
order, the utility must notify the District Director of the IRS having jurisdiction over the taxpayer of
the violation within 90 days of the effective date of the change in method, the order or the
determination. For a violative order effective on June 1 2004, the notification must be made by
August 30, 2004. The regulations provide that, if the District Director consents in writing, the time for
assessment of tax resulting from the violation may be extended. Thus, if the date of the normalization
violation is earlier than the date Idaho Power has exhausted its rights to appeal the final rate order of
May 25 2004, Idaho Power may consider this option to delay the incremental tax resulting from the
sanctions upon violation of the normalization requirements with respect to depreciation. If Idaho
Power is ultimately unsuccessful in correcting the violative rate order, amended tax returns must be
filed, as necessary, to pay the tax liability associated with the loss of the right to use accelerated
depreciation from the beginning of the year of the date of the normalization violation. Interest on the
tax deficiency would also be due.
Normalization Guidance
Treasury regulations and private letter rulings issued by the IRS constitute the main source of guidance
in the form of the application of the normalization requirements to specific regulatory accounting
situations. Given the lack of guidance by the courts with respect to the application of the
normalization rules and the very limited guidance for these matters provided by Treasury in the form
of regulations and published rulings, taxpayers and regulators have been forced to rely on the IRS'
private letter ruling process. Although IRC Section 61106)(3) provides that private letter rulings may
not be used or cited as precedent by taxpayers other than those to whom they are issued, private letter
rulings provide guidance to utilities and regulators in the ratemaking process. Normalization private
letter rulings represent the IRS's current position on particular ratemaking procedures/adjustments
often constitute the only published guidance on a particular issue, and provide a determination of
whether implementation of the ratemaking procedure/adjustment at issue would result in a
normalization violation, thus subjecting a utility and its ratepayers to the associated penalties.
Ratemaking Impact of a Violation of the Depreciation Normalization Requirements
As described above, violation of the normalization requirements with respect to deferred taxes results
in prospective disqualification of the right to use accelerated depreciation for tax purposes for all
public utility property of the taxpayer owned at the time of the violation or subsequently acquired.
This sanction adversely impacts the cash flow of a rate-regulated utility that does not comply with the
normalization rules. Capital investments in depreciable property no longer result in interest-free loans
from the government measured by the amount of deferred income tax liabilities. In addition, deferred
tax liabilities related to property placed in service prior to the date of the violation will reverse more
rapidly (i.the interest-free loans are repaid sooner) than otherwise "scheduled" had the utility
continued to be eligible to use accelerated depreciation for tax purposes (i. e.to comply with the
normalization requirements).
The example in the Appendix illustrates the impact of a normalization violation with respect to
deferred taxes on a revenue requirement.
Mr. Gene W. Marchioro
Corporate Tax Director
Idaho Power Company
June 14, 2004
Page 6
The loss of the right to use accelerated depreciation for tax purposes also tends to increase a utility'
revenue requirement. For book/tax differences for which nonnalization is practiced, the accumulated
deferred income tax reserve reduces rate base. As described above, cessation of use of accelerated
depreciation (in Year 4 of Scenario 2 of the example in the Appendix) prevents deferred tax liabilities
related to property additions from originating and accelerates the reversal of property-related deferred
tax liabilities existing prior to the time of the violation. If deferred tax liabilities decrease, rate base
increases on a dollar-for-dollar basis (line U of the example). Increased rate base results in a higher
allowed return (line V). The revenue requirement would increase (line Y) by the amount of the
incremental allowed return (line V) plus the amount of the tax gross-up with respect to the equity
component of the incremental allowed return (line X).
Specific Normalization Requirements
Adiustment to the Deferred Tax Reserve and Computation of Deferred Tax Expense
during the Test Year
Regulation Section 1. 167(1)-(h)(l) and (2) provide guidance as to the calculation of the deferred tax
reserves required under IRC Section 168(i)(9). IRC Section 168(i)(9)(A) (and its pre-MACRS
predecessors) states:
In order to use a nonnalization method of accounting with respect to any public
utility property for purposes of subsection (f)(2)-
(i) the taxpayer must, in computing its tax expense for purposes of establishing
its cost of service for ratemaking purposes and reflecting operating results in its
regulated books of account, use a method of depreciation with respect to such
property that is the same as, and a depreciation period for such property that is no
shorter than, the method and period used to compute its depreciation expense for
such purposes; and
(ii) if the amount allowable as a deduction with respect to such property differs
from the amount that would be allowable as a deduction under Section 167 using
the method (including the period, first and last year convention, and salvage value)
used to compute regulated tax expense under clause (i), the taxpayer must make
adjustments to a reserve to reflect the deferral of taxes resulting from such
difference.
Regulation Section 1. 167(1)-1(h)(l)(iii) provides that "(e)xcept as provided in this subparagraph, the
amount of Federal income tax liability deferred as a result of the use of different method of
depreciation under subdivision (i) of this subparagraph is the excess (computed without regard to
credits) of the amount the tax liability would have been had a subsection (1) method been used over
the amount of the actual tax liability." Regulation Section 1. 167(1)-(h) (2) (i) provides:
(t)he taxpayer must credit the amount of deferred Federal income tax
detennined under subparagraph (l)(i) of this paragraph for any taxable
year to a reserve for deferred taxes, a depreciation reserve, or other reserve
account. . .. With respect to any account, the aggregate amount allocable
Mr. Gene W. Marchioro
Corpora te Tax Director
Idaho Power Company
June 14, 2004
Page 7
to deferred tax under Section 167(1) shall not be reduced except to reflect
the amount for any taxable year by which Federal income taxes are greater
by reason of the prior use of different methods of depreciation under
subparagraph (1)( i) of this paragraph.
In PLR 9024067, the IRS addresses the computation of deferred tax expense and the related
adjustment to the deferred tax reserve in a situation in which the statutory tax rate in effect for the test
year differed from the expected statutory tax rate in the tax years during which the underlying
reversals of the book/tax differences were expected to occur. The federal income tax rate expected to
be effective for the future years had already been enacted (but had a prospective effective date).
Specifically, the ruling addresses whether the test period (1987) statutory tax rate of 40 percent or the
expected future statutory tax rate (1988 and beyond) of 34 percent should be used in computing
deferred taxes for 1987. The taxpayer argued that the current 40 percent tax rate should be used
because this rate would be applied to compute the actual liability the company would owe under the
statute. Other parties argued the future 34 percent tax rate should be used because that is the rate
expected to apply at the time that the deferred tax liabilities would ultimately be paid.
The IRS ruled that the company would violate the normalization requirements if it used the 34 percent
tax rate to compute deferred taxes for the 1987 test year. The IRS relied upon Regulation
Section 1. 167-1(h)(I)(iii) as well as the consistency requirements (described below) in its analysis.
The IRS also held that use of the 40 percent statutory tax rate would comply with the normalization
requirements.
Similarly, in PLR 8525156, the IRS ruled that the use of the consolidated effective tax rate of a group
of companies, which included regulated and unregulated members, to determine the current and
deferred tax expense for ratemaking purposes would be a violation of the normalization requirements.
In the ruling, the taxpayer, a regulated utility, requested a rate increase from the state regulatory
commission and advocated using the statutory rate in effect at the time to compute both current and
deferred income tax expense. The regulatory commission argued that the appropriate tax rate to use
was the consolidated income tax rate of the group of companies as that was, in effect, the rate the
taxpayer would use to compute its actual tax liability as many of the nonregulated member companies
had tax losses which would offset the utility's taxable income.
The IRS stated that the normalization regulations under Regulation Section 1.167(l)-1(h)(1)(iii)
require that deferred taxes be computed using an "actual" tax rate rather than a consolidated effective
tax rate. Although "actual" rate is not specifically defined in the regulation, the regulation examples
clearly indicate that the actual rate is the statutory rate in effect at the time. Further, the IRS notes that
if there was any doubt that the "actual" rate noted in the regulation above meant the statutory rate, any
misconception is clarified by Regulation Section 1.167(1)-(h)(2) which clearly states that the only
adjustments to be made to the deferred tax reserve are for the use of different depreciation methods
asset retirements , or expiration of the depreciation period - there is no mention of adjustment for
effective rates of a consolidated group. Therefore, the IRS ruled that the use of a consolidated
effective tax rate to compute deferred income tax for ratemaking purposes would be a normalization
violation.
Mr. Gene W. Marchioro
Corporate Tax Director
Idaho Power Company
June 14, 2004
Page 8
Given the IRS rationale in these rulings, we believe that there is a significant risk that the IRS
would hold that use of the five-year blended average effective rate rather than the statutory tax rate
in effect for 2003 to compute Idaho Power s deferred tax expense and the related adjustment to
the deferred tax reserve would violate the normalization requirements set forth in Regulation
Sections 1.167(1)-(h) (1 )(iii) and 1.167(1)-(h)(2).
The Consistency Requirement
Although Congress has provided guidance in the Internal Revenue Code as to the applicability of the
normalization requirements, it also recognized that it could not foresee all possible ratemaking procedures
that might undermine the purpose of these rules. Accordingly, in response to various ratemaking
procedures, including a ratemaking situation that existed in the state of California in the 1970s, Congress
enacted as part of the normalization provisions what is commonly referred to as the "consistency
requirement." This provision requires that a ratemaking authority use an estimate or projection of a
regulated company s tax expense, depreciation expense, and reserve for deferred taxes that are all
consistently determined with respect to each other and with respect to rate base. The consistency
requirement is presently contained in IRC Section 168(i)(9)(B). Its predecessors include IRC
Section 168(e)(3)(C) prior to the Tax Reform Act of 1986 and IRC Section 167(1)(5) prior to the
Economic Recovery Tax Act of 1981. IRC Section 168(i)(9)(B) provides that a normalization violation
occurs if the taxpayer, for ratemaking purposes, uses a procedure or adjustment inconsistent with such
requirements. Congress granted Treasury broad regulatory authority in IRC Section 168(i)(9)(B)(iii) and
its predecessors to identify such procedures/adjustments.
IRC Section 168(i)(9)(B)(i) (and its pre-MACRS predecessors) provides that a normalization method
of accounting does not exist if for ratemaking purposes a procedure or adjustment is used which is
inconsistent with the requirements ofIRC Section 168(i)(9)(A).IRC Section 168(i)(9)(B)(ii) provides
that the procedures and adjustments which are to be treated as inconsistent for purposes of IRC
Section 168(i)(9)(B)(i) include "any procedure or adjustment for ratemaking purposes which uses an
estimate or projection of the taxpayer s tax expense, depreciation expense, or reserve for deferred
taxes. . . unless such estimate or projection is also used, for ratemaking purposes, with respect to the
other 2 such items and with respect to rate base." The ACRS normalization rules of former IRC
Section 168(e)(3)(C)(ii) include an identical consistency requirement. The pre-ACRS consistency
requirement of former IRC Section 167(1)(3)(G) is provided by reference to the applicable provision
ofIRC Section 168.
In PLR 9024067 (described above) the IRS also held that the computation of deferred tax expense and
the related adjustment to the deferred tax reserve violated another aspect of the normalization
requirements, the consistency requirement. The IRS ruled that the same tax rate (i. e.the statutory
rate) must be used in computing both major components of the tax provision -- current income tax
expense and deferred income tax expense.
Given the IRS rationale in this ruling, we believe that there is a significant risk that the IRS would
hold that use of the five-year blended average effective rate rather than the statutory tax rate in effect
for 2003 to compute Idaho Power s current and deferred tax expense and the related adjustment to the
deferred tax reserve would violate the consistency requirement of the normalization rules.
Mr. Gene W. Marchioro
Corporate Tax Director
Idaho Power Company
June 14, 2004
Page 9
Current Tax Provision
In PLR 8525156 (described above), the IRS expanded its analysis of the use of a consolidated
effective tax rate to compute deferred taxes to address the application of the normalization
requirements to a total tax provision, including current income tax expense. The IRS also ruled that
where use of a consolidated effective tax rate would trigger a normalization violation with respect to
deferred taxes, it would be inappropriate to use the consolidated rate for current tax expense as current
tax expense and deferred tax expense are components of total tax expense. If current tax expense was
computed using the consolidated rate, the effect would be a partial flow-through of the benefits of
accelerated depreciation. The IRS position is that the same tax rate (i.the statutory rate) must be
used in computing both major components of the tax provision -- current income tax expense and
deferred income tax expense. Thus, use of the consolidated effective tax rate in determining deferred
tax expense or current tax expense would violate the normalization requirements.
Given the IRS rationale in this ruling, we believe that there is a significant risk that the IRS would
hold that use of the five-year blended average effective rate rather than the statutory tax rate in effect
for 2003 to compute Idaho Power s current and deferred tax expense would violate the normalization
requirements.
This letter is a summary of federal income tax consequences related to the application of the
normalization requirements to the computation of regulatory tax expense and accumulated deferred tax
reserves (rate base) in the rate order issued by the IPUC to Idaho Power on May 25 2004, in its 2003
General Rate Case and is based on the assumed facts described herein. It is not intended to be a
formal opinion of tax consequences, and, thus, may not contain a full description of all the facts or a
complete exposition and analysis of all relevant tax authorities. The conclusions contained in this letter
are based on our understanding of the facts, assumptions, information, and documents referenced
herein and current tax laws and published tax authorities in effect as of the date of this letter, which are
subject to change. If the facts and assumptions are incorrect or change or the tax laws change, the
conclusions and recommendations would likewise be subject to change. Deloitte & Touche LLP
assumes no obligation to update the letter for any future changes in tax law, regulations, or other
interpretations and does not intend to do so. Unless otherwise specified, all section references are to
the Internal Revenue Code of 1986 or the Treasury regulations thereunder, both as amended through
the date of this letter.
This letter is not binding on the IRS or the courts and should not be considered a representation
warranty, or guarantee that the IRS or the courts will concur with our conclusions. Only the specific
tax issues and tax consequences described herein are covered by this letter; no other federal, state, or
local laws of any kind were considered and are beyond the scope of this letter. This letter is intended
solely for the information and use of the Boards of Directors and management of IDA CORP, Inc. and
Idaho Power Company.
Mr. Gene W. Marchioro
Corporate Tax Director
Idaho Power Company
June 14 2004
Page 10
Please call Brady Panatopoulos at [phone] or Dave Yankee at [phone] at your
convenience to discuss this important matter.
Very truly yours
!J~ i lPudA-L
DELOITTE & TOUCHE LLP
Brady Panatopoulos
David J. Yankee
Attachment
Scenario 1 - Asset without a basis difference, not eligible for bonus depreciation, compliance with normalization requirements
Book Basis 100 000
Tax Basis 100 000
Book Life
Tax Life
Book Method
Tax Method MACRS
Federal Income Tax Rate 35%
Federal/State Tax-on-Tax Gross-up Factor 1.642
Allowed Return (Blended)10%
Equity Portion of Capital Structure 50%
Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10
Book Depreciation (AlC)10,000 000 000 000 000 000 000 000 000 000
Tax Depreciation 000 000 200 520 520 760
Book/Tax Difference (K. - L)(10 000)(22 000)200)(1,520)520)240 000 000 000 000
Cumulative Book/Tax Difference (10 000)(32 000)(41 200)(42 720)(44 240)(40 000)(30 000)(20 000)(10 000)
Deferred Federal Income Tax Liability (N x G)500)(11 200)(14 420)(14,952)(15 484)(14 000)(10 500)000)500)
Scenario 2 - Asset without a basis difference, not eligible for bonus depreciation, violation of the nonnalization requirements during Year 4
Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10
Book Depreciation (AlC)000 000 000 000 000 000 000 000 000 000
Tax Depreciation 000 000 200 114 114 114 114 114 114 114
Book/Tax Difference (P - Q)(10 000)(22 000)(9,200)886 886 886 886 886 886 886
Cumulative Book/Tax Difference (10 000)(32 000)(41 200)(35 314)(29 429)(23 543)(17 657)(11 771)886)
Deferred Federal Income Tax Liability (S x G)500)(11 200)(14 420)(12 360)(10 300)240)180)120)060)
Difference in Deferred Tax Liability (and Rate
Base) - Scenario 1 v. Scenario 2 (0 - 592 184 760 320 880 1,440
Incremental Return (U x I)259 518 576 432 288 144
Incremental Equity Return (II x J)130 259 288 216 144
Tax Gross Up on Equity Return (W x (H-l))166 185 139
Incremental Revenue Requirement (II + X)342 685 761 571 380 190
APPENDIX
i!I ERNST YOUNG Ernst & Young llP
725 South Figueroa Street
Los Angeles, California 90017-5418
Phone: [phone]
www.ey.com
June 14, 2004
Tax Advisor/Client Communication
Gene W. Marchioro, CPA
Corporate Tax Director
Idaho Power Company
1221 West Idaho Street
Boise, Idaho 83702
Analysis of Rate Order under
Federal Income Tax Normalization Rules
Dear Gene:
This letter addresses the potential treatment, under currently applicable U.S. Federal income
tax law, of certain aspects of a May 25, 2004 order (the "Rate Order ) of the Idaho Public
Utilities Commission (the "IPUC") setting rates for the Idaho Power Company ("Idaho
Power" or the "Company ). This letter does not constitute a formal tax "opinion" and is
intended to address only the specific issues discussed herein. Our analysis and conclusions
are based on the facts presented to us and on certain documents we have reviewed in
connection with the Idaho Power rate case. We have assumed the truth and accuracy of all
such facts and of all statements, representations and warranties contained in such documents.
Should the facts deviate from those assumed here, our analysis and conclusions might not be
applicable and might not be relied upon.
Table of ContentsI. Facts ............. .... .... ..............
...,..................... ...... ......... ...... .........., ..... ..... """"""""""'" ...... ............ .............
II. Issues """""""
................ .........., """""""""""""" ........... ............... ..... .......... .... """""'" .............
""""""" 2III. Conclusions.. .... ........
... .... ............... ..... .... ...... ............. ........... ... """""" .... ..... ....... ............ ....................... ....
IV. Discussion.............. ............ ................
""""'" """""'" ...................... """" ""'" ....
....... ........... ......... ....... ...... 3A. The Ratemaking Process............... .......
.......... .................. ........................... ........ ....... """""""" .............
B. History ofN ormalization .
...... .................... ........ ............ """
............. """"'" ................................. .......... 4C. Current Normalization Rules. ....
....... .......................................... ........ ............. ................ .......................
1. Generally......... ....
........ ........ ...... ............ """"""""""""'" """""""""'" ..............
"""""""""""""""""" 42. Inconsistency..........
"""""""""""""""""'" ................ ...................... .............. ......, ..... ................. ..........
3. Rulings/Guidance... ...................... ................ ................
"""'" .... """"" """""""""'"
......... .............. ........ 7D. Application........... .."... ..........................,...... .................................................... .......... ............. ................ 81. Violation of Normalization Requirements ............................................................................ .................. a) Effective Tax Rates. ...........
.................... .... """""""" ...................................... ......................
"""""'" 8b) Inconsistency..... .......................... ............ ............
""""""'" .......... .................... ..... ..... ............... .........
2. Consequences of Normalization Vi olation .... ......................... ............ ............ ................ ........ ....... """'" 9
A Member Practice of Ernst & Young Global
E!/ ERNST YOUNG
Mr. Gene W. Marchioro
Idaho Power Company
Ernst & Young llP
June 14, 2004
Page 2
I. Facts
On October 16, 2003, Idaho Power filed an application with the IPUC for authority to
increase its rates in Ratemaking Case No.: IPC-03-13. Idaho Power calculated its test year
income tax expense using the current statutory Federal income tax rate of 35 percent and
current statutory state income tax rates. Applying the statutory rates results in a Federal
effective tax rate of 32.795 percent, a state effective tax rate of 6.3 percent, and a combined
effective tax rate of 39.095 percent Idaho power subtracted this rate from 100 percent to
derive 60.905 percent net income, and a 1.642 net-to-gross multiplier.
In its Order No. 29505 issued on May 25, 2004 (the "Rate Order ), the IPUC mandated the
use of a five-year hybrid averaging method (the "Five-Year Hybrid Averaging Method " or
the "FYHA Method") to calculate the test year income tax expense. This method requires
adding Idaho Power s effective tax rates (actual above-the-line income tax expense, divided
by actual pre-tax book income) for each of the past five years, and then dividing the amount
by five. Applying the FYHA Method results in a Federal effective tax rate of 25.24 percent
a state effective tax rate of 5.62 percent, and a combined effective tax rate of 30.86 percent
Subtracting this rate from 100 percent derives 69.14 percent net income, and a 1.446 net-to-
gross multiplier.
The Order provides that the IPUC "adopt( ed) Staffs recommendation for a five-year average
for the income tax test year expense to account for the increased taxes ratepayers will pay in
future years" due to the Section 48 (a) adjustmentl The Staff referred to the FYHA Method
as an "adjustment for windfall refund effects" that "will recognize and make ratepayers
whole for the increased taxes they will be required to pay in the future as a result of the one-
time benefit (the Section 481(a) adjustment) taken by the Company.
II. IssuesI. Is there a risk that the Five-Year Hybrid Averaging Method violates the
normalization requirements of Sections I 68(f)(2) and (i)(9)?2. If the Five- Year Hybrid Averaging Method violates normalization
requirements then what are the potential consequences of the violation?
III. ConclusionsI. While it is not free from doubt, we believe that there is a substantial risk that
the Five-Year Hybrid Averaging Method will violate the normalization requirements of
Sections 168(f)(2) and (i)(9).2. If the Five-Year Hybrid A veraging Method violates normalization
requirements, then Idaho Power would be precluded from using the accelerated method of
depreciation for its public utility property.
I Rate Order, p. 34.2 IPUC Staffs Post-Hearing Brief, April 26, 2004, pp. 5-3 All "Section" and "f' references herein are to the corresponding sections of the Internal Revenue Code of
1986, as amended, and the final, temporary, and proposed Treasury Regulations promulgated thereunder.
ill ERNST & YOUNG
Mr. Gene W. Marchioro
Idaho Power Company
Ernst & Young llP
June 14 2004
Page 3
IV. Discussion
A. The Ratemaking Process
The ratemaking process is a means by which the revenue requirements of a utility are
determined. In setting utility rates, public utility commissions generally attempt to allow the
utility to collect enough charges from utility customers to (i) recover operating expenses (the
Cost of Service Element"), and (ii) provide a fair rate of return to investors (the "Rate of
Return Element,,
The Cost of Service Element includes expenses such as labor, fuel, materials, depreciation on
utility plant and equipment, and income tax expense. The Rate of Return Element typically is
computed by multiplying (i) an allowable rate of return (as determined by the public utility
commission) by (ii) the rate base. The allowable rate of return generally is determined with
reference to the utility's weighted cost of borrowing, plus an appropriate return on equity
capital. The rate base is calculated using the original cost of utility plant and equipment, less
accumulated regulatory depreciation and the deferred tax reserve. The deferred tax reserve is
deducted from rate base for purposes of computing the Rate of Return Element because the
reserve is considered to be a no-cost source of capital. Thus, Federal income taxes are an
important factor in determining the rates that a utility may charge its customers because (i)
income tax expense is considered a recoverable cost of service, and (ii) deferred income taxes
reduce the rate base upon which an allowable rate of return is applied.
The determination of the amount of Federal income taxes reflected in the cost of service and
rate base depends, in significant part, on the treatment of depreciation of utility property. The
use of an accelerated depreciation method may potentially be accounted for under either
flow-through accounting or normalization accounting. Flow-through accounting treats the
actual Federal income tax liability of the regulated utility as reported on its tax return as the
utility's tax expense in determining appropriate utility rates. Under flow-through accounting,
the tax benefits of accelerated depreciation are taken into account as they are claimed in
determining utility rates.
Under the normalization method of accounting, the utility's tax expense for ratemaking
purposes is determined by using straight-line depreciation, which spreads depreciation tax
benefits evenly over the life of the property, instead of accelerating the benefits in early
years. The normalization method for accelerated depreciation requires adjustments to actual
Federal income tax liability to arrive at the regulatory tax expense and adjustments to rate
base. The accumulation of the differences between regulatory tax expense and actual Federal
tax liability creates a deferred tax reserve that represents both accumulated Federal income
tax savings and expected future Federal tax liabilities. Normalization accounting is consistent
with generally accepted accounting principles used to prepare financial accounting
statements. As explained further below, the Internal Revenue Code currently requires public
utilities to use normalization accounting in order to qualify for accelerated depreciation.
4 For discussion of the ratemaking process, see generally Joint Comm. on Tax Federal Tax Provisions
Affecting the Electric Power Industry, JCX-67-01 (Sept. 10, 2001), printed in Tax Notes Today, 2001 TNT 176-
19 (Sept. 11 2001).
i!/ ERNST YOUNG
Mr. Gene W. Marchioro
Idaho Power Company
Ernst & Young LLP
June 14, 2004
Page 4
B. History of Normalization
In 1954, Congress added accelerated depreciation provisions to the Internal Revenue Code
(the "Code ) to stimulate the economy by fostering capital formation. Because Federal
income tax expense represents an element of cost of service for ratemaking purposes, some
regulatory agencies treated the reduction in current tax liability resulting from accelerated
depreciation as a current reduction in cost of service and therefore flowed it through to
customers currently as lower rates. This practice, which is known as "flow-through"
ratemaking, meant that accelerated depreciation would provide no investment incentive
except to the extent that lower rates increased consumer demand and created the need for
additional capacity. 5
Congress grew increasingly concerned that the use of accelerated depreciation by public
utilities, coupled with the flow-through of the benefits to ratepayers, resulted, in effect, in a
massive utility rebate by the Federal government to its citizenry.Therefore, in 1969,
Congress added former Section 167(1) to the Code, which allowed utilities to use accelerated
depreciation only if normalization rules were followed. Congress had two principal
objectives in enacting former Section 167(1):
to assure that the deferred taxes derived from accelerated depreciation would be
available to the utilities as investment capital until paid to the Treasury
to avoid the additional loss of Federal tax revenues that it believed would result
because flow-through ratemaking would reduce utility profits.
The normalization rules for public utility property were expanded in 1981 under the
Accelerated Cost Recovery System ("ACRS") with the enactment of Section 168(e)(3),
which was redesignated in 1986 as Section 168(i)(9) under the Modified Accelerated Cost
Recovery System ("MACRS,,
C. Current Normalization Rules
1. Generally
Section 168(t)(2) provides that any "public utility property" does not qualify for accelerated
depreciation if the taxpayer does not use a "normalization method of accounting." Section
168(i)(10) defines "public utility property" as property used predominantly in the trade or
business of the furnishing or sale of (i) electrical energy, water, or sewage disposal services
(ii) gas or steam through a local distribution system, (iii) telephone services, or certain other
communications services if furnished or sold by the Communications Satellite Corporation
or (iv) transportation of gas or steam by pipeline. Additionally, the rates for such furnishing
See R. Rep. No. 97-827, 97th Cong., 2d Sess. (Sept. 16, 1982); S. Rep. No. 97-643, 97th Cong., 2d Sess.
(Sept. 30, 1982).
See Eric M. DeVito, 1 Taxation a/Public Utilities ~ 8.01(2) (2004).
See R. Rep. No. 97-827; S. Rep. No. 97-643. Congress decided to require normalization instead of
prohibiting entirely the use of accelerated depreciation by regulated utilities because the prohibition would'
placed regulated utilities at a competitive disadvantage over nonregulated businesses with respect to their sale of
products or services and their attractiveness to equity investors, resulting in widespread utility rate increases.
See R. Rep. No. 91-413, 91st Cong., 1st Sess. 132 (Aug. 2 1969).
See Pub. L. 99-514, 99th Cong., 2d Sess. (1986).
i!/ ERNST YOUNG
Mr. Gene W. Marchioro
Idaho Power Company
Ernst & Young llP
June , 2004
Page 5
or sale must have been established or approved by a State or political subdivision thereof, by
any agency or instrumentality of the United States, or by a public service or public utility
commission or other similar body of any State or political subdivision thereof.
A "normalization method of accounting," as defined in Section 168(i)(9), has four general
requirements:
Same Depreciation Method/Recovery Period For Ratemaking and Books. First
the taxpayer must use (i) the same method of depreciation to compute both its tax
expense and its depreciation expense to establish its cost of service for ratemaking
purposes and to reflect operating results in its regulated books of accounting, and (ii)
a recovery period that is no shorter than the useful life used in detennining
depreciation for ratemaking purposes.
Deferred Tax Reserve. Second, the difference between the actual tax expense
computed using tax depreciation and the tax expense detennined for ratemaking
purposes must be reflected in a deferred tax reserve. I I
Limitation on Rate Base Exclusion. Third, in determining the rate of return of a
public utility, the public utility commission may not exclude from the rate base an
amount that exceeds the addition to the deferred tax reserve for the period used in
determining the tax expense for ratemaking purposes.
Prohibition on Inconsistency. Finally, the utility may not use an "inconsistent"
procedure or adjustment A procedure or adjustment is inconsistent if it employs an
estimate or projection with respect to a utility's (i) tax expense, (H) depreciation
expense, or (Hi) reserve for deferred taxes, unless such estimate or projection is also
used with respect to the other two items and rate base.
If a taxpayer fails to satisfy any one of these requirements, then it ceases to qualify for
accelerated depreciation, and must compute depreciation using the straight-line method.
9 We have assumed that Idaho Power property qualifies as "public utility property.10 Code ~ 168(i)(9)(A)(i); Treas. Regs. ~ 1. 167(1)-(h)(I)(i)(a). This generally results in depreciation being
determined over a relatively long useful life and using the straight-line method.11 Code ~ 168(i)(9)(A)(ii); Treas. Regs. ~ 1. 167(1)-(h)(I)(i)(b). The amount of Federal income tax liability
deferred as a result of the use of different method of depreciation is the excess (computed without regard to
credits) of the amount the tax liability would have been had a straight-line method of depreciation been used
over the amount of the actual tax liability (determined using an accelerated depreciation method). Treas. Regs.
~ 1.167(1)-(h)(1 )(iii). The taxpayer (i) must credit the amount of deferred Federal income tax for any taxable
year to a reserve for deferred taxes, a depreciation reserve, or other reserve account, and (ii) may reduce such
reserve only to reflect (a) the amount for any taxable year by which Federal income taxes are greater by reason
of the prior use of different methods of depreciation, (b) asset retirements, or (c) the expiration of the period for
depreciation used in determining the allowance for depreciation. Treas. Regs. ~ 1.167(1)-(h)(2)(i).
12 Treas. Regs. ~ 1.167(1)-I(h)(6)(i).
13 Code ~ 168(i)(9)(B)(i)-(ii).
14 Code ~ 168(i)(9)(C).
ill ERNST YOUNG
Mr. Gene W. Marchioro
Idaho Power Company
Ernst & Young llP
June 14, 2004
Page 6
2. Inconsistency
Although the Code authorizes regulations regarding inconsistency,15 no such regulations have
been issued. Commentators have observed that the scope of Section 168(i)(9)(B) seemingly
is quite broad.
The inconsistency provision arose out of disputes in the 1970's between the California Public
Utility Commission and Pacific Telephone and Telegraph ("PT &T") and General Telephone
Company of California (together with PT &T, the "California Utilities 16 The Commission
forced the California Utilities, which had not chosen to apply accelerated depreciation for
Federal income tax purposes, to elect such depreciation method and to flow through the
benefits to ratepayers. The California Utilities protested that flowing through the accelerated
depreciation violated the former Section 167(1) normalization requirements.
After several years of protracted deliberations and litigation, the Commission ordered the
California Utilities to use the "average annual adjustment method" (the "AAA Method") to
account for accelerated depreciation for ratemaking purposes. Under the AAA Method, the
balance of the reserve for deferred Federal income taxes was projected over a period of four
years (the test year and the three subsequent years) based on expected future additions
utility plant and equipment. The average of the reserve for the four years was deducted from
rate base for the test year.
The California Utilities requested rulings from the Internal Revenue Service (the "Service
as to whether the AAA Method was a proper normalization method. The Service ruled in
Private Letter Rulings 7836038 17 and 783604818 that the AAA method constituted a
normalization violation for several reasons, including that (i) the method conflicted with its
regulations defining a normalization method of accounting and providing requirements and
limitations for adjustments to a reserve for deferred taxes, and (ii) the rate base reduction
under the AAA Method exceeded the permissible amount of the exclusion. As a result, the
California Utilities were faced with the dilemma of being disqualified from accelerated
depreciation even though all or a portion of the benefits of such depreciation was reflected in
reduced rates or refunds to customers.
In response to this dilemma Congress enacted Section 168( e )(3)(C), the predecessor to
Section 168(i)(9)(B), which prohibits inconsistent procedures or adjustments. The legislative
history provides, in pertinent part, that the "(t)his provision is intended to make it clear that
California s socalled "Average Annual Adjustment" method (and any other similar method)
of making adjustments for ratemaking purposes does not comply with the normalization
requirements.,,19
15 Code 9 168(i)(9)(B)(iii).
16 See R. Rep. No. 97-827; S. Rep. No. 97-643.17 June 8, 1978.18 June 9, 1978.19 H.R. Rep. No. 97-827; S. Rep. No. 97-643 (emphasis added).
ill ERNST YOUNG
Mr. Gene W. Marchioro
Idaho Power Company
Ernst & Young llP
June 14, 2004
Page 7
3. Rulings/Guidance
In addition to the rulings discussed above, Private Letter Ruling 852515620 provides guidance
regarding the normalization requirements. Therein, a subsidiary, which was a member of an
affiliated group of corporations filing a consolidated return, was the only member to be a
regulated public utility. As a result of net losses and expenses experienced by the
subsidiary s non-utility affiliates, the consolidated taxable income of the group was reduced.
The regulatory commission proposed to require the subsidiary to use a consolidated effective
tax rate rather than the statutory rate for purposes of computing both the subsidiary s current
and deferred tax expense for cost of service purposes. The issue presented in the ruling was
whether the use of the consolidated effective tax rate violated normalization requirements.
The Service recognized that the amount of Federal income tax liability deferred for
normalization purposes involves only two variables: (i) the depreciation deduction for
ratemaking purposes on the one hand, and (ii) the depreciation deduction actually used for
Federal income tax purposes on the other hand. The Service observed that the amount the
deferred tax liability in a given year is
, "
therefore, simply the product of the difference
between these depreciation deductions and the federal income tax rate in effect for the
year.,,21 The Service further explained why normalization requires the use of statutory tax
rates rather than effective tax rates.
Because actual federal income tax liability is not determined by an effective
tax rate, however, normalization accounting requires the use of the federal
income tax rate provided by section 11 (b) of the Code . . . By introducing
variables other than the difference between the deductions for accelerated and
straight line depreciation, the use of an effective tax rate may produce a
deferred tax adjustment that will be inadequate to meet normalization
requirements. . . (Furthermore b )ecause the consolidated effective tax rates
will change year by year, and in each case reflect different variables, (the
s)ubsidiary s additions to the reserve and later reversals from the reserve will
reflect variables in addition to the use in prior years of different methods of
depreciation for ratemaking purposes and income tax purposes
The Service also found it equally inappropriate to use the effective tax rates to compute the
subsidiary s current tax expense for ratemaking purposes, reasoning that the use of effective
tax rates achieves through current tax expense a cost of service reduction that would violate
normalization requirements if achieved through a reduction of deferred tax expense, and the
effect is the same as if there was a partial flow-through of the benefits of accelerated
depreciation as a result of deferring less than all the difference between straight line and
accelerated depreciation.
20 PLR 8525156 (March 29, 1985).21 The use of statutory rates to compute deferred tax liability is further supported by examples in the regulations
which, as mentioned in the PLR, consistently apply the statutory tax rate. See Treas. Regs. ~ 1.167(1)-
(h)(2)(ii), Exs. 1 - 3.22 PLR 8525156 (March 29, 1985).
i.!/ ERNST YOUNG
Mr. Gene W. Marchioro
Idaho Power Company
Ernst & Young LLP
June 14, 2004
Page 8
D. Application
1. Violation of Normalization Requirements
a) Effective Tax Rates
In the case at hand, the FYHA Method mandated by the Rate Order requires adding Idaho
Power s effective tax rates for each of the past five years, and then dividing the result by five.
This method would affect both income tax expense in the Cost of Services Element and the
deferred income taxes in the Rate of Return Element. As Private Letter Ruling 8525156
clearly establishes, normalization requires the use of statutory tax rates rather than effective
tax rates because the deferred tax reserve is simply the product of (i) the difference between
depreciation deductions for ratemaking purposes and Federal income tax purposes, and (ii)
the statutory tax rate, and utilizing effective tax rates would introduce additional variables
and could distort additions and later reversals to the reserve.
Here, the FYHA Method's use of effective tax rates presents similar dangers of distortion as
the method at issue in the ruling, and perhaps even more so due to the FYHA Method'
exposure to effective tax rates over several years, which could introduce even more open
variables than the single year effective tax rate in the ruling. Furthermore, the FYHA
Method's use of effective tax rates could cause a mismatch between the accumulated deferred
taxes, which have historically been calculated at statutory tax rates, and future reversals
which would be determined using effective tax rates. Additionally, because, as in the ruling,
the effective tax rates are lower than the statutory rates, the benefits of higher depreciation
could flow through to Idaho Power s ratepayers faster than allowed under normalization
requirements.
b) Inconsistency
The FYHA Method also presents concerns regarding Section 168(i)(9)(B)'s prohibition on
the use of inconsistent procedures or adjustments. The scope of this prohibition appears
broad, no regulations have yet been issued, and little other guidance is available. Congress
appears to have repudiated multi-year averaging by enacting the predecessor to Section
168(i)(9)(B). The legislative history provides that Section 168(i)(9)(B) was intended to
establish that the AAA Method "and any other similar method" of making adjustments for
ratemaking purposes do not constitute proper normalization methods.
Similar to AAA Method, found to violate normalization requirements in Private Letter
Rulings 7836038 and 7836048, which averaged the deferred tax reserve over four years, the
FYHA Method utilizes multi-year averaging over five years. In light of the lack of clarity on
the scope of Section 168(i)(9)(B), and because the FYHA Method utilizes multi-year
averaging and may constitute a "similar method " the FYHA Method could qualify as an
inconsistent procedure or adjustment. Moreover, the possibility of a mismatch between the
(i) accumulated deferred taxes calculated at statutory tax rates, and (ii) future reversals from
deferred taxes to be determined at effective tax rates would appear to preclude the application
of the Section 168(i)(9)(B) exception for consistent estimates or projections applied equally
to tax expense, depreciation expense, reserve for deferred taxes, and the rate base.
23 H.R. Rep. No. 97-827; S. Rep. No. 97-643.
ill ERNST YOUNG
Mr. Gene W. Marchioro
Idaho Power Company
Ernst & Young llP
June 14 2004
Page 9
In conclusion, while it is not free from doubt, we believe that there is a substantial risk that
the FYHA Method will violate the normalization requirements of Sections 168(t)(2) and
(i)(9) due to the use of either effective tax rates or an inconsistent procedure or adjustment.
2. Consequences of Normalization Violation
According to Section 168(i)(9)(C), if a taxpayer fails to satisfy normalization rules, then it
ceases to qualify for accelerated depreciation, and must compute depreciation using the
straight-line method. Therefore, if the FYHA Method violates normalization rules, then
Idaho Power would be precluded from depreciating its public utility property under an
accelerated depreciation method and would be required to compute depreciation using the
straight-line method. As a result, the normalization violation would create greater tax
liabilities to the Company in the current year and near term years, thereby requiring
additional cash. In addition, the Idaho ratepayers will realize an increased cost for electrical
power because Idaho Power will have a significant reduction in deferred taxes that directly
reduce the rate base.
In light of the likelihood that the FYHA Method may violate normalization, and the severe
consequences to Idaho Power and its customers of a violation, two courses of action are
readily apparent: (i) the IPUC could amend the Rate Order to utilize the test year income tax
calculations submitted by Idaho Power, or (ii) Idaho Power and the IPUC could submit the
issue in a letter ruling request to the IRS pursuant to Rev. Proc. 2004-
Should a letter ruling request be sought, we recommend that the Company and the IPUC
critically evaluate delaying or suspending the Rate Order to ensure that an inadvertent
normalization violation does not occur during the period of resolution of normalization
Issues.
We hope that the above analysis addresses your concerns regarding normalization issues
presented by the Rate Order. If you have any questions concerning this letter, please call
Stephen Day at [phone] or Andrew Miller at [phone].
Sincerely,~T
MJ..J..p
Ernst Young LLP
24 Rev. Proc. 2004-, 2004-1 I.R.B. 1, provides guidance regarding the requirements for ruling requests on
normalization. According to the revenue procedure, a letter ruling request that involves a question of whether a
rate order that is proposed or issued by a regulatory agency will meet the normalization requirements of Section
I 68(f)(2) will not ordinarily be considered unless the taxpayer states in the request whether:
The regulatory authority responsible for establishing or approving the taxpayer s rates has reviewed the
request and believes that the request is adequate and complete; and
The taxpayer will permit the regulatory authority to participate in an Associate office conference
concerning the request. See Rev. Proc. 2004-, Appendix E.
fJR/CEWAIERHOUSF(tnPERS
June 15, 2004
PricewaterhouseCoopers LLP
One North Wacker
Chicago, IL 60606
Telephone [phone]
Mr. Gene Marchioro
Corporate Tax Director
Idaho Power Company
1221 West Idaho Street
Boise, ill 83702
Re:Use of Average Effective Rate in Cost of Service as Normalization Violation
Dear Mr. Marchioro:
Pursuant to your request, this letter analyzes whether the Idaho Public Utility Commission
IPUC") use of a five-year average for the effective tax rate for Idaho Power Company
Idaho Power ) test year income tax expense in its 2003 rate case potentially violates the
normalization requirements of IRC Section 168(i)(9): We conclude that the use by the IPUC
of an effective tax rate below the statutory rate in providing deferred taxes would be a violation
of the tax normalization rules. In support of that conclusion, we analyze the history of the
normalization rules and rulings, apply those rules and rulings to the current factual situation
conclude on whether a normalization violation occurs and describe the impacts of a potential
normalization violation.
UNDERSTANDING OF FACTS
Idaho Power has applied to the IPUC for an increase in its electric rates in the state of Idaho.
Idaho Power has requested the increase in rates using 2003 as a test year. In Order No. 29505
the IPUC agreed with using 2003 actual regulatory account numbers as the starting point for
the test year. However, the IPUC in its final rate order ordered that a five-year average of
Idaho Power s effective federal and state income tax rate should be used to determine the taxes
included in cost of service, as opposed to using the statutory tax rate recommended by Idaho
Power. The effective tax rate used by the IPUC is lower than the statutory rate because of a tax
deduction claimed by the company in a year prior to the test year. The five-year combined
average effective rate is 30.86% (25.240/0 federal, 5.62% state) versus the combined statutory
1 All references to "IRC" are to the Internal Revenue Code of 1986, as amended.
pm EWA7fRl-lou sE(SxJ PE RS
rate of 39.0950/0 (32.7950/0 federal, 6.3% state).2 Idaho Power believes use of the five-year
average effective tax rate violates the normalization requirements of IRC Section 168(i)(9).
ISSUE
For purposes of this letter, we address whether the use of the five-year average effective tax
rate embodied in the IPUC order violates the normalization requirements of IRC Section
168(i)(9), and if so, the impact this will have to Idaho Power.
DISCUSSION
Background of Normalization
Normalization is an accounting and ratemaking concept. Under normalization, a utility s tax
expense for ratemaking purposes is generally detennined by using regulatory, rather than tax,
depreciation. That is, there is consistency between regulatory depreciation expense used for
setting rates and the reduction in tax expense that such depreciation creates. Stated differently,
when a utility normalizes tax depreciation, ratepayers get the. tax benefit commensurate with
the level of regulatory depreciation included in setting rates. For example, if it is assumed that
regulatory depreciation is $100, income tax expense used in setting rates will be reduced by
$35 ($100 of regulatory depreciation expense times the federal tax rate of 35%) to reflect the
tax benefit of $100 of regulatory depreciation. Thus, under normalization, ratepayers' rates
reflect regulatory depreciation and at the same time such rates reflect the benefit from a
reduction of tax expense based on such regulatory depreciation. In addition, the IRC requires
that utilities use normalization in order to take advantage of certain tax benefits. First, in order
for public utility property to be eligible for the more favorable accelerated tax depreciation
allowances under the IRC (that is, more favorable relative to the depreciation methods and lives
used for ratemaking and financial statement purposes), these federal income tax benefits must
be "normalized" in setting rates charged by utilities to ratepayers and in reflecting operating
results in their regulated books of account.
Under present law, the tax benefits of accelerated depreciation are considered to be normalized
only if three requirements are satisfied. First, the tax expense of the public utility for
ratemaking purposes must be computed by using the same depreciation method that is used in
determining depreciation for ratemaking purposes and by using a recovery period that is no
shorter than the life used in determining depreciation for ratemaking purposes (which generally
results in depreciation being determined over a relatively long useful life and using the straight-
2 Of the 6.3% state rate, 5.9% was determined to be related to Idaho state income taxes computed by multiplying
the Idaho statutory rate by the respective Idaho apportionment factor. Oregon income taxes account for 0.3%, and
all other states account for 0.1 %.
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pmCEWA1fRHOUsF(SnPERS
line method). Second, the difference between the actual tax expense computed using tax
depreciation and the tax expense determined for ratemaking purposes must be reflected in a
deferred tax reserve. Third, in determining the return of a public utility, the public utility
commission may not exclude from the rate base an amount that exceeds the addition to the
deferred tax reserve for the period used in determining the tax expense for ratemaking
purposes. In addition, any ratemaking procedure or adjustment with respect to a utility s tax
expense, depreciation expense, or reserve for deferred taxes must also be consistently used with
respect to the other two such items and with respect to rate base.
Regulatory depreciation is usually straight-line and regulatory lives are usually much longer
than the tax recovery periods. Normalization requires that the tax benefits of accelerated
depreciation be allocated to ratepayers as their rates reflect regulatory depreciation. The
mechanical nature of the tax normalization rules is similar to other normalization practices in
setting rates. The benefits of accelerated depreciation are spread over the lives of the assets that
created the benefits rather than decreasing cost of service in the early years of an asset life and
increasing cost of service in the later years. This permits all ratepayers who ' pay rates that
include depreciation on assets to realize a portion of the tax benefits the assets generated. In
effect, normalization complies. with the matching principle, in that ratepayers' rates that include
an amount of depreciation expense also include the corresponding tax benefit related to that
same amount of depreciation expense.
The intent of the normalization provisions of the IRC was to ensure that the capital subsidy of
accelerated depreciation provides an investment incentive for regulated utilities. If the tax
benefits were immediately flowed through to ratepayers, the utility would have no incentive to
invest in property to which such benefits attached and which Congress had sought to
encourage. In essence, the tax benefits not immediately flowed through to ratepayers represent
an interest free loan to the utility from the IRS. This "loan" is repaid by the utility as the tax
benefits reverse in the later years of the regulatory life of the assets.
TheIRC does not require a regulated utility to use a normalization method of accounting. It
does, however, require that a normalization method of accounting be used if a regulated utility
wishes to avail itself of accelerated depreciation. If a normalization method of accounting is
not used, a regulated utility would generally be required to use a straight-line method of
depreciation over the regulatory life of the asset for tax purposes as well as regulatory purposes.
The normalization requirements apply to "public utility property," which is defined in IRC
Section 168(i)(10) to include property used predominantly in the trade or business of the
furnishing or sale of electrical energy, if the rates for such furnishing or sale are established or
approved by a state or political subdivision thereof, by any agency or instrumentality of the
United States, or by a public service or public utility commission or other similar body of a
state or political subdivision thereof.
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pmCEW ERHOusF(txJPERS
The normalization requirements related to accelerated depreciation are found in IRC Section
168, former IRC Section 1673 and the regulations promulgated thereunder, and Section 203(e)
of the Tax Reform Act of 1986.
IRC Section 168
IRC Section 168(t)(2) provides that the depreciation deduction determined under IRC Section
168 (accelerated method and shorter lives than used for regulatory purposes) shall not apply to
any public utility property if the taxpayer does not use a normalization method of accounting.
IRC Section 168(i)(9)(A)(i) provides that in order to use a normalization method of accounting,
a taxpayer must, in computing its tax expense for establishing its cost of service for ratemaking
purposes and reflecting operating results in its regulated books of account, use a method of
depreciation with respect to public utility property that is the same as, and a depreciation period
for such property that is not shorter than, the method and period used to compute its
depreciation expense for such purposes.
Under IRC Section 168(i)(9)(A)(ii), if the amount allowable as a deduction under IRC Section
168 differs from' the amount that would be allowable as a deduction under IRC Section 167
using the method, period, first and last year convention, and salvage value used to compute
regulated tax expense under the normalization requirements described above, the taxpayer must
make adjustments to a reserve to reflect the deferral of taxes resulting from such difference.
IRC Section 168(i)(9)(B)(i) provides that one way the normalization requirements described
above will not be satisfied is if the taxpayer, for ratemaking purposes, uses a procedure or
adjustment which is inconsistent with such requirements. Such inconsistent procedures and
adjustments include the use of an estimate or projection of the taxpayer s tax expense,
depreciation expense, or a reserve for deferred taxes mentioned above, unless such estimate or
projection is also used, for ratemaking purposes, with respect to all three of these items and
with respect to rate base. See IRC Section 168(i)(9)(B)(ii).
Former IRC Section 167 and the Regulations Thereunder
Former IRC Section 167(1) provided that public utilities were entitled to accelerated methods of
depreciation if they used a "normalization method of accounting.Former IRC Section
167(1)(3)(g) defined normalization method of accounting in a manner consistent with that found
in IRC Section 168(i)(9)(A) described above.
Treasury Regulation Section 1.167(1)-1 provides that the normalization requirements for public
utility property pertain only to the deferral of federal income tax liability resulting from the use
From the Internal Revenue Code of 1954, as amended.
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PWCEWA1fRHOUsF(tnPERS
of an accelerated method of depreciation for computing the allowance for depreciation under
IRC Section 167 and the use of straight-line depreciation for computing tax expense and
depreciation expense for purposes of establishing cost of service and for reflecting operating
results in regulated books of account. In addition, under Treasury Regulation Section 1.167(1)-
1(h)(1)(i), the reserve established for public utility property should reflect the total amount
the deferral of federal income tax liability resulting from the taxpayer s use of different
depreciation methods for tax and ratemaking purposes.
Treasury Regulation Section 1.167(1)-1(h)(1)(iii) provides that the amount of federal income
tax liability deferred as a result of the use of different depreciation methods for tax and
ratemaking purposes is the excess (computed without regard to credits) of (1) the amount the
tax liability would have been had the depreciation method for ratemaking purposes been used
over (2) the amount of the actual tax liability. This amount shall be taken into account for the
tax year in which the different methods of depreciation are used.
Treasury Regulation Section 1.167(1)-1(h)(2)(i) requires that the taxpayer credit the amount of
deferred taxes to a reserve for deferred taxes, a depreciation reserve, or other reserve account.
It provides that the agg,I~gate amount allocable to deferred taxes shall ,Rot be.reduced except to
reflect the amount for any tax year by which federal income taxes are greater by reason of the
prior use of different methods of depreciation under Treasury Regulation Section 1.167(1)-
(h)( 1 )(i) or to reflect depreciation used in determining the allowance for depreciation under
IRC Section 167(a).
What all this means is that the amount of deferred taxes that must be provided is equal to the
difference between the actual federal tax liability and the amount the liability would be if the
utility used straight -line depreciation. Thus, assuming that the utility has income that is taxed at
the statutory rate of 35%, the tax benefit of accelerated depreciation will result in deferred tax
at the statutory rate-35%.
Legal Authority with Respect to Using an Average Effective Rate for Cost of Service
In a series of private letter rulings ("PLR"s), the IRS has ruled that use of a rate other than the
statutory rate for recording the deferred tax component of cost of service violates a
normalization method of accounting.4 Several of the rulings show that the IRS has approached
4 Private letter rulings cannot be relied upon as precedent under IRC Section 6110(j)(3), but they do provide
interpretative guidance with respect to the IRS's position on similar facts and circumstances. Private letter rulings
do provide an indication of how the IRS has viewed these issues in the past and are an indication of how the IRS is
likely to view them in the future. Practitioners use them for this purpose all the time. A private letter ruling
provides a detailed interpretation and application of the IRC to a specific set of facts. Generally, another taxpayer
with the same facts should anticipate the same outcome. Moreover, private letter rulings can be used as authority
by taxpayers for the purpose of avoiding a substantial understatement penalty. Under IRC Section 6662, a penalty
is imposed on a taxpayer that has a substantial understatement of tax on its tax return. There is an exception to this
where the taxpayer has "substantial authority" for the position it takes on its return. In determining whether the
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pmCEW ER/-IOUSf(?xJPERS
the tax rate issue consistent! y. Below is a comparison of these rulings to the factual situation at
issue here.
In PLR 8529024 5 the IRS ruled that use of a state tax deduction that is based on straight-line
depreciation for calculating the deferred federal tax liability where accelerated depreciation is
used to determine state income tax. expense for cost of service will constitute a normalization
violation under IRC Section 168(i)(9). In the ruling, the taxpayer utility s state tax commission
required the use of flow through accounting for state income tax savings generated by the
deduction of accelerated depreciation. However, the state commission was attempting to
require the taxpayer to use a normalized state income tax expense for purposes of calculating
the federal income tax expense for ratemaking purposes. The IRS stated in the ruling:
In the rate case now at issue the Commission has notified M that it will use an
amount in the normalization computation for state income tax which will result in
a net effective federal tax rate (lower than the statutory rate of 46 percent) for
recording deferred federal income tax liability and maintaining the deferred tax
reserve balance.
.:.. ~""$. ..,:: '
The IRS reviewed Treasury Regulation Section 1.167(l)-1(h)(1)(iii) outlined above, and ruled
that consistency requires that, for normalization purposes, the state income tax deduction should
be the same whether the computation is the actual federal tax assuming accelerated depreciation
or the federal tax for ratemaking purposes assuming straight-line depreciation. To the IRS, the
use of a hypothetical state tax causes a reduction in the required tax deferral and, in effect
amounts to a partial flow through of the federal tax benefits that result from accelerated
depreciation.
The Idaho Power facts are similar to the facts in PLR 8529024. By requiring use of an effective
rate below the statutory rate, Idaho Power would be recording normalized deferred taxes in cost
of service at something less than the full federal tax. on the difference between the accelerated
and straight-line depreciation. Like the ruling, this would, in effect, lead to the partial flow
through of federal tax benefits of accelerated depreciation and would violate Treasury
Regulation Section 1. 167(1)-1(h)(1)(iii) and IRC Section 168(i)(9).
In PLR 9024067, the IRS ruled that use of a composite statutory rate for 1987, a year in which
the statutory rates changed, was consistent with the normalization requirements of IRC Section
168(i)(9). The Tax Reform Act of 1986 reduced the maximum corporate tax rate from 46
taxpayer has substantial authority, the regulations specifically provide that one of the types of authority that a
taxpayer can rely on is private letter rulings. Treasury Regulation Section 1.6662-4( d)(3 )(iii).
See also PLRs 8523067 and 8525086 which involved the same transaction and analysis as it relates to different
parties.
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pmCEWA1fRHOUsF(?nPERS
percent to 34 percent to become effective in July, 1987 (subsequently increased to 35%). The
taxpayer believed that for 1987 it was required to compute deferred taxes at 40 percent, the
weighted average statutory rate for the year. The taxpayer s state commission staff believed
that the deferred taxes should be calculated at the 34 percent rate that these taxes would
ultimately be paid at on a going-forward basis.
In analyzing the issue, the IRS explained that it was not illogical to conclude that the 34 percent
rate was correct for computing deferred taxes given that the taxes would be paid out at that rate.
However, the IRS explained that the statutory rate was mandated by the normalization
provIsIons:
It is quite clear from section 1.167(l)-I(h)(I)(iii) of the regulations that the
amount of deferred taxes a regulated utility must account for is, in essence, the
difference between a company s federal income tax liability calculated using an
accelerated method of depreciation and the tax liability it would have were it to
use straightline depreciation or similarly nonaccelerated method. A
corporation computes its tax liability using the statutory tax rates under section
11(b) of the code. According to sections 15(a) and (e), for,a.tax year during
which the rates of tax change, the statutory rates are the weighted average or
composite rates.
Therefore, the IRS ruled that the 40% composite statutory rate should be used to calculate
deferred taxes in order for the taxpayer to be in compliance with the normalization rules in IRC
Section 168(i)(9) and Treasury Regulation Section 1.167(1)-I(h)(1)(iii).
Unlike the regulator s argument in PLR 9024067 for use of the 34% tax rate due to the
anticipated reversal of taxes at 34%, the use of the five-year average effective tax rate in this
case to calculate taxes in cost of service does not have even the intuitive appeal of the PLR
because the timing difference will not reverse at the five-year effective rate. That rate does not
reflect the rate deferred taxes will reverse. Thus, unlike the fact pattern in PLR 9024067 in
which the IRS stated that there was some logic to record deferred taxes at the future rate , it is
more clear in this situation that the requirements of Treasury Regulation Section 1.167(1)-
l(h)(I)(iii) will not be met if the five-year effective rate is used to record federal deferred
income taxes for the benefit of accelerated depreciation. Moreover, as this ruling indicates, we
believe that if the IRS were asked to analyze the issue pursuant to Treasury Regulation Section
1.167(1)-I(h)(1)(iii), it would determine that the statutory rate must be used in order for the
utility to be in compliance with a normalization method of accounting.
In summary, Treasury Regulation Section 1. 167(1)-1(h)(1)(iii) requires that the statutory rate be
used to record federal deferred income tax associated with the benefit of accelerated
depreciation. Moreover, the IRS has consistently ruled that use of a statutory federal rate is
required for purposes of calculating deferred taxes as a component of cost of service in order to
be in compliance with a normalization method of accounting under IRC Section 168(i)(9) and
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pmCEW ERHOusF(tnPERS
the accompanying regulations. By using a rate that is substantially below the enacted statutory
rate, Idaho Power would be flowing through a portion of the tax benefits from accelerated
depreciation in violation of the normalization rules as interpreted by the IRS. Thus, Idaho
Power would be forced to depreciate its property for federal income tax purposes using the
same method and life used in depreciating its property for regulatory purposes; i., straight-
line depreciation over longer regulatory lives.
Impact of Normalization Violation
Idaho Power and its ratepayers would face certain economic ramifications if the IRS denies
Idaho Power the benefit of accelerated depreciation under IRC Section 168(1)(2) as a result of a
normalization violation. First, pursuant to IRC Section 168(1)(2), the most obvious
ramification is that Idaho Power would be denied the benefit of accelerated depreciation on all
vintages of fixed assets on its federal and state income tax returns on a going-forward basis.
IRC Section 168 contains the rules for the accelerated recovery through depreciation of
investment in assets. Under IRC Sections 168(b)(2) and (e)(l), utility assets are generally
depreciable on a 150 percent declining balance basis over 20 years.6 As discussed above, IRC
Section 168(1)(2) provides that IRC Section 168 does not apply to any public utility property if
the taxpayer does not use a normalization method of accounting. IRC Section 168(i)(9)(C)
provides that if a normalization method is not used, the depreciation method for public utility
property is, in effect, limited to the straight-line method of depreciation over the book life.
Therefore, the penalty for violating the normalization rules for depreciation is recovery over a
longer life using a less favorable method.
In addition, a normalization violation also would prevent Idaho Power from taking advantage
of enacted provisions providing additional accelerated cost recovery. Section 101 of the Job
Creation and Workers Assistance Act of 2002 added a new subsection to the depreciation
provisions of IRC Section 168 that allows a special additional cost recovery mechanism
(referred to as "bonus depreciation ) for qualified property placed in service after September
, 2001 , and before January 1 , 2005. This provision, which became IRC Section 168(k),
allows a taxpayer to deduct 30 percent of the cost of qualified property in the year the property
is placed in service and depreciate the remaining 70 percent of cost over time under the normal
depreciation rules.
In 2003, the Jobs and Growth Tax Relief Reconciliation Act of 2003 expanded this special
depreciation allowance by allowing an additional first-year depreciation deduction equal to 50
percent of the adjusted basis of certain qualified property. In order to qualify for the 50-percent
additional depreciation deduction, the property must be acquired after May 5, 2003, and before
January 1 , 2005.
6 For example, Revenue Procedure 87-, 1987-2 C.B. 674, places electric utility transmission and distribution
plant in asset class 49., which has a class life of 30 years. This translates into a depreciation life under IRC
Section 168(e)(1) and Revenue Procedure 87-56 of 20 years.
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pm
AIERI-I OU sF(?xJ f RS
Under IRC Section 168(k)(2)(A)(i), property qualifies for these benefits only if IRC Section
168 applies to it. As discussed above, IRC Section 168(1)(2) provides that IRC Section 168
does not apply to public utility property if the taxpayer does not use a normalization method of
accounting. As a result, if Idaho Power violates the normalization rules, any new public utility
property that it places in service in 2004 also will not qualify for these special additional cost
recovery mechanisms. Consequently, Idaho Power will be paying more in federal and state
income taxes in the future as a result of the loss of these depreciation benefits.
Second, Idaho Power will no longer be adding to deferred tax liabilities on account of
accelerated depreciation. Most, if not all, regulatory bodies treat deferred taxes as cost-free
capital. The legislative history of the Tax Reform Act of 1969, the Economic Recovery Tax
Act of 1981 , and the Tax Reform Act of 1986 anticipated and sanctioned treatment of the
deferred taxes as cost-free capital. This is typically accomplished by reducing rate base by the
amount of deferred taxes. As a result of the loss of accelerated depreciation, this rate base
offset will no longer continue to increase, and ultimately, ratepayers will be forced to pay more
as a result of the increase to rate base brought about by the reversal of the deferred tax reserve
with no new increases to the deferred tax reserve. Stated differently, ratepayers will no longer
benefit from the costrfre610an from the federal government that is,genetated by the accelerated
depreciation.
CONCLUSION
If the IPUC requires Idaho Power to use a five-year average effective tax rate to calculate the
taxes to be included in cost of service, it will force Idaho Power to violate the normalization
method of accounting in IRC Section 168(i)(9). The IRS has consistently ruled that using an
effective rate less than the statutory rate causes a reduction in the required tax deferral, and
thus, violates the normalization provisions. As a result of the potential normalization
violation, Idaho Power would lose the benefit of accelerated depreciation on its income tax
returns on a going-forward basis under IRC Section 168(1)(2), and the ratepayers of Idaho will
ultimately pay more for their electric service as a result of the elimination of cost-free capital
and the growing increase to rate base.
CA VEA TS AND LIMIT A TIONS
The conclusions reached in this opinion represent and are based upon our best judgment
regarding the application of federal income tax laws arising under the Internal Revenue Code,
judicial decisions, administrative regulations, published rulings and other tax authorities
existing as of the date of this opinion. This opinion is not binding upon the Internal Revenue
Service or the courts and there is no guarantee that the Internal Revenue Service will not
successfully assert a contrary position. Furthermore, no assurance can be given that future
legislative or administrative changes, on either a prospective or retroactive basis, would not
adversely affect the accuracy of the conclusions stated herein. PricewaterhouseCoopers LLP
(9)
06/15/2004 10: 52 FAX [phone] Pr lcewaterhouseCoopers 14)011
PmCEWAIERHOUSF(aJPERS
undertakes no responsibility to advise any party or shareholder of any new developments in the
application or interpretation of the federal income tax laws.
This opinion does not address any federal tax consequences of the 1ransactions set forth herein
or transactions related or proximate to such transactions, except as specifically set forth herein.
This opinion does not address any state, local) foreign~ or other tax consequences that may
result from any of the transactions set forth herein, or transactions related to such transactions.
We understand that this opinion will be furnished to the Idaho Public Utility Commission in
connection with its rate order issued to Idaho Power Company. This opinion Inay not be relied
upon by any other party to this transaction or in any other transaction without our prior written
consent.
This opinion is based upon the representations, documents, facts, and assumptions that have
been included or referenced herein and the assumption that such infonnation is accurate, true
and authentic. This opinion does not address any transactions other than those described
herein. This opinion does not address any transactions whatsoever if all the transactions
described herein are not consummated as described herein without waiver or breach of any
material provision thereof or if the assumptions set forth herein are not true and accurate at an
relevant times. In the event anyone of the facts or assumptions is incorrect, in whole or in part
the conclusions reached in this opinion might be adversely affected-
* * * * *
If you have any questions or need additional information, please contact me at 312-298-2157 or
Woody Shazpe at 678-419-1035.
Yours very truly,
Robert W. Hriszko
PricewaterhouseCoopers LLP
(10)
ATTACHMENT 2
ATTACHMENT 2
CASE NO. IPC-03-
CORRECTION OF COMPUTATIONAL ERRORS
AND THE RESULTING REVENUE REQUIREMENT IMPACTS
1) Stipulated Depreciation:
Electric Plant In Service - Accounts 310-398
Less: Accumulated Depreciation Reserve
Total Plant
Staff
Adjustment Correction Difference
205,647)205,647
205,647)205,647)
(2,205,647)205,647 411,294
Return on Rate Base of 7.852% per Order No. 29505
Net-to-Gross-Multiplier
Total System Return
Idaho Jurisdictional Revenue Requirement Impact
2) Update to Actuals:
General Plant Maintenance - Account 935
Idaho Jurisdictional Revenue Requirement Impact
3) Pension Expense:
Electric Plant In Service - Accounts 310-398
Return on Rate Base of 7.852% per Order No. 29505
Net-to-Gross-Multiplier
Total System Return
Pension Expense - Account 926
Total System Impact of Pension Expense Correction =
Idaho Jurisdictional Revenue Requirement Impact
379,967
014,489)
(9,188,163)053,492)
346,375
642
568 747
522,228
379,967
371 ,853
014 489)
(158,178)
642
(259 728)
134 671
1 ,874,943
774 286
CERTIFICATE OF SERVICE
I HEREBY CERTIFY that on this 15th day of June, 2004, I served a true
and correct copy of the within and foregoing IDAHO POWER COMPANY'S PETITION
FOR RECONSIDERATION upon the following named parties by the method indicated
below, and addressed to the following:
Lisa D. Nordstrom
Weldon B. Stutzman
Deputy Attorneys General
Idaho Public Utilities Commission
472 W. Washington Street
O. Box 83720
Boise , Idaho 83720-0074
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Randall C. Budge
Eric L. Olsen
Racine , Olson , Nye , Budge & Bailey
O. Box 1391; 201 E. Center
Pocatello, ID 83204-1391
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Anthony Yankel
29814 Lake Road
Bay Village , OH 44140
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Peter J. Richardson
Richardson & 0' Leary
99 East State Street, Suite 200
O. Box 1849
Eagle, ID 83616
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Don Reading
Ben Johnson Associates
6070 Hill Road
Boise , I D 83703
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Lawrence A. Gollomp
Assistant General Counsel
U. S. Department of Energy
1000 Independence Avenue , SW
Washington, D.C. 20585
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Dennis Goins
Potomac Management Group
5801 Westchester Street
Alexandria, VA 22310-1149
Hand Delivered
S. Mail
Overnight Mail
FAX
CERTIFICATE OF SERVICE , Page
Conley E. Ward
Givens , Pursley LLP
601 W. Bannock Street
O. Box 2720
Boise, ID 83701-2720
Dennis E. Peseau , Ph.
Utility Resources , Inc.
1500 Liberty Street S., Suite 250
Salem , OR 97302
Dean J. Miller
McDevitt & Miller LLP
O. Box 2564
Boise, ID 83701
Jeremiah Healy
United Water Idaho , Inc.
O. Box 190420
Boise, ID 83719-0420
William M. Eddie
Advocates for the West
O. Box 1612
Boise , ID 83701
Nancy Hirsh
NW Energy Coalition
219 First Ave. South , Suite 100
Seattle, WA 98104
Brad M. Purdy
Attorney at Law
2019 N. 17th Street
Boise, I D 83702
Michael Karp
147 Appaloosa Lane
Bellingham, W A 98229
Michael L. Kurtz, Esq.
Kurt J: Boehm, Esq.
Boehm , Kurtz & Lowry
36 East Seventh Street, Suite 2110
Cincinnati , OH 45202
CERTIFICATE OF SERVICE, Page 2
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Hand Delivered
S. Mail
Overnight Mail
FAX [phone]
Kevin Higgins
39 Market Street, Suite 200
Salt Lake City, UT 84101
Hand Delivered
S. Mail
Overnight Mail
FAX
Thomas M. Power
Economics Department , LA 407
University of Montana
32 Campus Drive
Missoula, MT 59812
Hand Delivered
S. Mail
Overnight Mail
FAX
BARTON L. KLINE
CERTIFICATE OF SERVICE , Page 3