Northwestern Bell Telephone Co. v. Iowa State Commerce Com'n, 86-1701

• Decision Date: 17 February 1988
• Docket Number: No. 86-1701,86-1701
• Citation: 419 N.W.2d 712
• Parties: NORTHWESTERN BELL TELEPHONE COMPANY, Appellant, v. IOWA STATE COMMERCE COMMISSION, Appellee, and Office of Consumer Advocate, Intervenor-Appellee. OFFICE OF CONSUMER ADVOCATE, Appellant, v. IOWA STATE COMMERCE COMMISSION, Appellee, and Northwestern Bell Telephone Company, Intervenor-Appellee. NORTHWESTERN BELL TELEPHONE COMPANY, Appellee, v. IOWA STATE COMMERCE COMMISSION, Appellant, and Office of Consumer Advocate, Intervenor.
• Court: Iowa Supreme Court

Page 712

419 N.W.2d 712

80 A.L.R.4th 267

NORTHWESTERN BELL TELEPHONE COMPANY, Appellant, v. IOWA STATE COMMERCE COMMISSION, Appellee, and Office of Consumer Advocate, Intervenor-Appellee.

OFFICE OF CONSUMER ADVOCATE, Appellant, v. IOWA STATE COMMERCE COMMISSION, Appellee, and Northwestern Bell Telephone Company, Intervenor-Appellee.

NORTHWESTERN BELL TELEPHONE COMPANY, Appellee, v. IOWA STATE COMMERCE COMMISSION, Appellant, and Office of Consumer Advocate, Intervenor.

No. 86-1701.

Supreme Court of Iowa.

Feb. 17, 1988.

Rehearing Denied Mar. 11, 1988.

James R. Maret, Gary D. Stewart, Alexis K. Wodtke and Leo J. Steffen, Jr., Des Moines, for Office of Consumer Advocate.

Susan Allender, Patrick J. Nugent, and David J. Lynch, Des Moines, for Iowa State Commerce Comn.

Robert F. Holz, Jr. of Davis, Hockenberg, Wine, Brown, Koehn & Shors, Des Moines, and William K. Schaphorst, Des Moines, for Northwestern Bell Telephone Co.

Considered by McGIVERIN, C.J., and HARRIS, LARSON, CARTER, and NEUMAN, JJ.

CARTER, Justice.

This is an administrative appeal of a utility rate order issued by the Iowa State Commerce Commission (the commission), now the Utilities Board of the Department of Commerce. Northwestern Bell Telephone Co. (NWB), the Office of Consumer Advocate (OCA), and the commission each appeal from a decision in the district court which affirmed in part and reversed in part a utility rate decision of the commission dated October 4, 1983.

OCA's appeal contends that the commission's order improperly determined NWB's deferred federal income tax liability and improperly failed to require NWB to prove that the compensation paid its officers and employees was reasonable. OCA urges that the district court erred in not correcting these matters on judicial review. The NWB appeal contends the district court erred by: (1) affirming the commission's decision to use a double leverage capital structure for NWB without a proper offsetting adjustment for the capitalization of the long lines department of AT & T, and (2) altering the commission's original order determining not to reduce the rate base by the average amount of accrued but unpaid interest. The commission's appeal asserts that the district court erred by reversing that portion of the commission's order involving customer premise equipment costs.

On December 15, 1982, NWB filed proposed tariff revisions representing an increase in general rates for intrastate telephone service of 8.2% or $49.7 million annually. On June 23, 1983, following an investigation, the commission approved a stipulation which would allow NWB to collect, subject to refund with interest, an interim rate increase of $12.4 million annually. Hearings were held April 18 through May 12, 1983. On October 4, 1983, the commission issued its decision determining that the tariffs filed by NWB were unjust, unreasonable and, therefore, unlawful.

The commission prescribed two sets of rates for NWB's intrastate telephone service. The phase I rates covered the period from before June 8, 1983, the date NWB deregulated its inside wiring and customer premise equipment. The phase II rates covered the period after June 8. The commission determined that an increase in rates sufficient to produce revenue of $377,876,000 for phase I and of $290,838,000 for phase II was reasonable. The commission ordered NWB to file revised tariffs to correspond with this order. The commission also directed NWB to refund to its customers, with interest and associated sales tax, all sums collected in excess of the rates authorized by the commission.

NWB and the OCA each filed an application for rehearing which the commission denied. The district court, on NWB's application, stayed the commission's order and allowed NWB to continue to collect interim rates.

I. Standard of Review.

When reviewing commission decisions, the district court functions in an appellate capacity to apply the standards outlined in Iowa Code section 17A.19(8) (1985). On appeal, we apply those standards in determining whether our conclusions are the same as those of the district court. Northwestern Bell Tel. Co. v. Iowa State Commerce Comm'n, 359 N.W.2d 491, 495 (Iowa 1984). Moreover, this court can only consider assigned grounds of error under section 17A.19(8). Michigan Wisconsin Pipe Line Co. v. Iowa State Bd. of Tax Review, 368 N.W.2d 187, 192 (Iowa 1985).

To decide the issues raised herein, we must determine whether the commission's decision was the result of an error of law or "unsupported by substantial evidence in the record made before the agency when that record is viewed as a whole." Iowa Code § 17A.19(8)(e), (f) (1985); see Taylor v. Iowa Dep't of Job Serv., 362 N.W.2d 534, 537 (Iowa 1985). We separately consider the several issues raised on appeal in accordance with these standards.

II. Deferred Tax Liability.

OCA's appeal urges that the district court should not have altered the commission's determination accepting NWB's computation of a reserve for deferred federal income tax liability. In order to be eligible for an accelerated depreciation deduction, NWB must use, for rate-making purposes, a normalization method of accounting. This requires crediting a reserve account for the amount that NWB's current federal income tax liability is reduced as a result of accelerated depreciation.

The commission originally concluded that NWB's deferred federal income tax liability equaled 41.63% of the difference between the accelerated depreciation deduction and the straight-line depreciation deduction. This was based on the commission's conclusion that Treasury Regulations section 1.167(1)-1(h)(1)(iii) permits the deduction of state income taxes calculated using straight-line depreciation in the calculation of federal income tax liability. NWB challenged this determination in its petition for judicial review and, based on a private letter ruling of the Internal Revenue Service, the commission conceded in the district court that its determination of this issue had been in error.

The district court reversed the commission's order on this issue and held that NWB was allowed to use the statutory deferred tax rate of 46% rather than the 41.63% rate ordered by the commission. OCA argues on this appeal that the original commission order was correct in its application of Treasury Regulations section 1.167(1)-1(h)(1)(iii) and that the IRS letter ruling does not represent a proper interpretation of the applicable federal tax law. We reject this contention.

For rate-making purposes, we believe the issue presented concerning the components of the deferred tax liability is one of operative fact rather than an issue of law. This involves a determination of how the federal tax regulations are actually being applied to the particular taxpayer by administrative authorities, acting in their official capacity, rather than a finite determination of what this court believes the federal law to be. Judged by this standard, we believe that the district court, at the commission's urging, acted properly in accepting the private letter ruling of the Internal Revenue Service as the best evidence of how the federal tax law was in fact being applied for purposes of determining NWB's deferred tax liability. See Iowa-Illinois Gas & Elec. Co. v. Iowa State Commerce Comm'n, 412 N.W.2d 600, 611-12 (Iowa 1987).

III. Wage and Salary Adjustment.

OCA also contends on appeal that the commission acted improperly in allocating the burden of proof on OCA's challenge to NWB's wage and salary expenses. OCA requested a twelve to fifteen percent downward adjustment to NWB's wage and salary expense claiming that the amount proposed was unreasonable.

All parties to the appeal agree that NWB had the burden of proof as to the reasonableness of its wage and salary expenses once these matters had been placed in issue at the commission hearing. Misallocation of the burden of proof by an administrative body is an error of law which may require reversal. Peoples Memorial Hosp. v. Iowa Civil Rights Comm'n, 322 N.W.2d 87, 92 (Iowa 1982).

A review of the record indicates certain language in the commission's order which, if viewed in isolation and out of context with other pertinent language contained therein, indicates that OCA was required to prove that the challenged salaries and wages were unreasonable. Notwithstanding this language, our reading of the entire commission order in light of the record convinces us that the commission considered all of the evidence presented, determined that it preponderated in favor of the reasonableness of the challenged compensation, and made a clear and unequivocal finding that the challenged wage and salary expenses were reasonable. Given this circumstance, we refuse to conclude that the burden of proof was misapplied to OCA's prejudice.

The references in the commission's order to a failure of OCA to produce proof on the compensation issue was, we believe, intended to convey the commission's belief that certain abstract theories proposed by OCA in attacking the reasonableness of NWB's wages and salaries required evidentiary support. We find no basis for overturning the order of the commission and the district court on the salary issue.

IV. Refusal to Adjust Double Leverage Capital Structure.

NWB appeals that portion of the district court's order approving the commission's determination not to adjust the double leverage capital structure of NWB and its parent company, AT & T, with respect to the capitalization of the long lines department of the parent company.

Under the double leverage approach, the equity of the subsidiary is reconstituted into the equity, debt and preferred stock of the parent. In rate-making, this determination of the composition of the capital structure of the utility is vital because equity is more expensive than debt. The earnings on equity are taxable to a utility, but interest on debt is a deductible expense. Use of the double...