Federal Power Commission v. Memphis Light, Gas and Water Division Texas Gas Transmission Corporation v. Memphis Light, Gas and Water Division 8212 486, 72 8212 488

Decision Date07 May 1973
Docket NumberNos. 72,s. 72
Citation411 U.S. 458,36 L.Ed.2d 426,93 S.Ct. 1723
PartiesFEDERAL POWER COMMISSION, Petitioner, v. MEMPHIS LIGHT, GAS AND WATER DIVISION, et al. TEXAS GAS TRANSMISSION CORPORATION, Petitioner, v. MEMPHIS LIGHT, GAS AND WATER DIVISION, et al. —486, 72—488
CourtU.S. Supreme Court
Syllabus

Section 441 of the Tax Reform Act of 1969 does not deprive the Federal Power Commission of the Authority to permit a utility that is subject to its jurisdiction under the Natural Gas Act to change the depreciation method that it uses for purposes of rate-making from accelerated depreciation with 'flow through' of the utility's tax savings to customers to accelerated depreciation with normalization (where the income tax expense allowed in the cost of service is computed on a straight-line depreciation basis) with respect to pre-1970 property as well as replacement property. Pp. 465—474.

149 U.S.App.D.C. 238, 462 F.2d 853 and 865, reversed and remanded.

Samuel Huntington, Washington, D.C., for F.P.C.

Christopher T. Boland, Washington, D.C., for Texas Gas Transmission Corp.

George E. Morrow Memphis, Tenn., for Memphis Light, Gas and Water Div.

Richard A. Solomon, Washington, D.C., for Public Service Comm. of New York.

Mr. Justice DOUGLAS delivered the opinion of the Court.

We granted certiorari in these cases to determine whether § 441 of the Tax Reform Act of 1969, 26 U.S.C. § 167(l), circumscribes the authority of the Federal Power Commission under the Natural Gas Act, 52 Stat. 821, as amended, 15 U.S.C. § 717 et seq., to permit a regulated utility to change its method of computing depreciation for rate-making purposes from 'flow-through' to 'normalization' with respect to property acquired prior to 1970 as well as 'replacement' property.

Since the resolution of this issue depends largely on the background and history of § 441 and the Commission's regulatory powers, a brief review is in order at the outset. Section 167 of the Internal Revenue Code authorized taxpayers, including regulated utilities, to use accelerated or liberalized depreciation in calculating their federal income taxes.1 The Commission re- tained jurisdiction to prescribe the depreciation method to be used by regulated utilities in calculating their federal income tax expense for ratemaking purposes.2 Initially, the Commission required utilities to compute their cost of service, which includes federal income taxes, as if they were using straight-line depreciation. This method, referred to as 'normalization,' was designed to avoid giving the present customers of a utility the benefits of tax deferral attributable to accelerated depreciation. If a utility used accelerated depreciation in determining its actual tax liability, the difference between the taxes actually paid and the higher taxes reflected as a cost of service for ratemaking purposes was required to be placed in a deferred tax reserve account. See Amere Gas Utilities Co., 15 F.P.C. 760.

It soon became apparent that accelerated depreciation in practice resulted in permanent tax savings. Because most utilities had growing or at least stable plant investments, the depreciation allowances from additional and replacement equipment offset the declining depreciation allowance on existing property. Accordingly, the Commission required utilities using accelerated depreciation for tax purposes to use the same method for calculating their cost of service and, thus, to 'flow through' any tax savings to their customers. Alabama-Tennessee Natural Gas Co., 31 F.P.C. 208, aff'd sub nom. Alabama Tennessee Natural Gas Co. v. FPC, 359 F.2d 318 (CA5). Subsequently, the Commission decided that it would impute the use of accelerated depreciation for ratemaking purposes regardless of the method used for computing actual taxes. Midwestern Gas Transmission Co., 36 F.P.C. 61, aff'd sub nom. Midwestern Gas Transmission Co. v. FPC, 388 F.2d 444 (CA7).

When the House and Senate considered tax reform legislation in 1969, both were concerned with the loss of tax revenues that stemmed from the combined effect of accelerated depreciation for computing federal taxes (leading to higher deductions) and flow-through for fixing rates (leading to lower rates and thus lower gross revenues).3 Section 441 of the Tax Reform Act, which added § 167(l) to the Internal Revenue Code, was designed in general to 'freeze' existing depreciation practices.4 As passed by the House, § 441 would have established three rules with respect to existing depreciable property:5

'(1) If straight line depreciation is presently being taken, then no faster depreciation is to be permitted as to that property.

'(2) If the taxpayer is taking accelerated depreciation and is (normalizing' its deferred taxes, then it must go to the straight line method unless it continues to normalize as to that property.

'(3) If the taxpayer is taking accelerated depreciation and flowing through to its customers the benefits of the deferred taxes, then the tax-payer must continue to do so, unless the appropriate regulatory agency permits a change as to that property.'

The Senate bill as passed was similar to that of the House, except that utilities on flow-through were given the right to elect within 180 days 'to shift from the flow-through to the straight-line method, with or without the permission of the appropriate regulatory agency, or with the permission of the regulatory agency to shift to the normalization method . . ..'6 This election was to apply both to new and existing property. In conference, however, it was agreed that this right of election would apply only to property acquired by the utility after 1969 to expand its facilities.7

Thus, as added to the Internal Revenue Code in 1969, § 167(l) distinguishes between two basic types of 'public utility property':8 'pre-1970 property,' which is property acquired by the taxpayer before January 1, 1970 (§ 167(l)(3) (B)), and all other property, referred to as 'post-1969 property' (§ 167(l)(3) (C)). A further distinction is drawn between post-1969 property 'which increases the productive or operational capacity of the taxpayer' (expansion property) and post-1969 property which merely replaces existing property (§ 167(l)(4)(A)). With respect to pre-1970 property, a utility may use (1) straight-line depreciation, (2) the method used prior to August 1969 if it also employs normalization, or (3) accelerated depreciation with flow-through, but only if that method was used prior to August 1969 (§ 167(l)(1)). With respect to post-1969 property, a utility may use (1) straight-line depreciation, (2) accelerated depreciation with normalization, or (3) accelerated depreciation with flow-through if the utility used flow-through prior to August 1969 (§ 167(l)(2)). In addition, under § 167(l)(4)(A), a utility may elect to abandon accelerated depreciation with flow-through with respect to post-1969 expansion property.

The proceedings in issue here involve Texas Gas Transmission Corp., the operator of a major interstate pipeline system certificated by the Federal Power Commission. Although Texas Gas utilized accelerated depreciation with flow-through prior to the adoption of the Tax Reform Act, it filed a proposed rate increase with the Commission on June 27, 1969, based upon 'the proposed discontinuance of the use of liberalized depreciation and the revision to a straight-line method of tax depreciation.' After § 167(l) was enacted, Texas Gas advised the Commission that it intended to exercise the election provided in § 167(l)(4)(A) and sought permission to use accelerated depreciation with normalization with respect to its post-1969 expansion property.9 It also sought assurance, before it made the election, that it would be able to change from flow-through to straight-line or, preferably, accelerated depreciation with normalization with respect to its pre-1970 property and post-1969 replacement property.

The Commission, holding that its authority 'to determine whether a company may effect such a change is not diminished' under the Tax Reform Act, permitted Texas Gas to change from flow-through to normalization for ratemaking purposes. Opinion No. 578, 43 F.P.C. 824, 828, rehearing denied, 44 F.P.C. 140.10 The Commission reasoned that the basis of its decisions in Alabama-Tennessee and Midwestern would no longer be applicable if Texas Gas were to switch to normalization with respect to post-1969 expansion property. In that event, the tax savings resulting from the deferral attributable to accelerated depreciation would not be permanent. Rather, if Texas Gas were required to continue flow-through for all but its new expansion property, it would be faced with a steadily increasing cost of service which would necessitate repeated rate increases. Under these circumstances, the Commission concluded: 'Texas Gas is correct in contending that normalization in computing the tax allowance for rate purposes with respect to its pre-1970 faciities offers more hope for stability of rates for its customers and more assurance that the company can earn its fair rate of return without future rate increases. Further benefits of normalization are that it will improve the company's before tax coverage of interest, thereby enhancing the quality of its securities, and that it will help alleviate present day cash shortages.' Id., at 829—830.

The Court of Appeals, on petitions for review, reversed the Commission's order.11 149 U.S.App.D.C. 238, 462 F.2d 853, rehearing denied, id., at 250, 462 F.2d, at 865. Although the court recognized that the version of the Tax Reform Act passed by the House would have supported the Commission's order, it held that the limited nature of the election provision as finally passed deprived the Commission of authority to permit regulated utilities to abandon flow-through with respect to their existing and replacement property. We reverse and remand to the Court of Appeals for further proceedings...

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