Source: https://openjurist.org/411/us/458
Timestamp: 2019-04-23 18:06:16+00:00

Document:
MEMPHIS LIGHT, GAS AND WATER DIVISION, et al. TEXAS GAS TRANSMISSION CORPORATION, Petitioner, v. MEMPHIS LIGHT, GAS AND WATER DIVISION, et al.
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.
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 retained 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).
'(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.
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 consistent with this opinion.
In § 441 of the Tax Reform Act of 1969, Congress dealt primarily with a revenue measure under the tax laws and only indirectly with the regulatory power of the Commission under the Natural Gas Act. We have had before us on numerous occasions cases arising under the Natural Gas Act. In the early case of FPC v. Hope Natural Gas Co., 320 U.S. 591, 64 S.Ct. 281, 88 L.Ed. 333, we emphasized two aspects of the power of the Commission to fix 'just and reasonable' rates under 15 U.S.C. § 717. First, was the desire 'to protect consumers against exploitation,' 320 U.S., at 610, 64 S.Ct., at 291, and second, was the aim to promote the 'financial integrity' of the natural gas companies as measured, not only by revenues sufficient to recover operating expenses and capital costs, id., at 603, 64 S.Ct., at 288, but also by revenues 'sufficient to assure confidence in the financial integrity of the enterprise, so as to maintain its credit and to attract capital.' Ibid. We mention those matters because (1) the treatment of depreciation bears on rates and (2) there is no indication in the legislative history of this tax measure that Congress desired to modify, as respects the precise issue involved here, the broad discretion of the Commission delineated in Hope Natural Gas and in other rate cases.
The lower courts have allowed the Commission broad discretion in determining proper depreciation methods for rate-making purposes. See, e.g., Alabama-Tennessee Natural Gas Co. v. FPC, 359 F.2d 318; Midwestern Gas Transmission Co. v. FPC, 388 F.2d 444.
'Your committee's bill provides that, in the case of existing property, the following rules are to apply: '(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.
The word 'existing' property as used in that Report included 'replacement' property in the mind of the Court of Appeals.
The Senate version of the bill13 would have permitted Texas Gas to shift from liberalized depreciation with flow-through either to straight-line depreciation or with the Commission's approval to liberalized depreciation with normalization. 149 U.S.App.D.C., at 247, 462 F.2d, at 862.
'The House bill provides that in the case of certain listed regulated industries (the furnishing or sale of . . . gas through a local distribution system, . . . and transportation of gas by pipeline) a taxpayer is not permitted to use accelerated depreciation unless it 'normalizes' the current income tax reduction resulting from the use of such accelerated depreciation. . . .
'This rule is not to apply in the case of a taxpayer that is at present flowing through the tax reduction to earnings for purposes of computing its allowable expenses on its regulated books of account. Also, if the taxpayer is now using straight line depreciation as to any public utility property it may not change to accelerated depreciation as to that property.
'The Senate amendment makes the following changes in the House bill: . . . (d) an election is permitted to be made within 180 days after the date of enactment by a company at present on flow-through to come under the rules of the bill . . ..
'The conference substitute (sec. 441 of the substitute and sec. 167(l) of the code) follows the Senate amendment except that the special provision referred to in (e) above is stricken and the 180-day election (item (d), above) is modified to apply to new property and not to replacement property.
From these four paragraphs the Court of Appeals concluded that the second paragraph of the Conference Report prohibits Texas Gas from abandoning liberalized depreciation with flow-through and that the right of election was restricted to post-1969 expansion property only.
The second paragraph, however, as we read it, when it uses the words 'This rule' refers, not to the final bill, but to the initial House bill. That initial bill, as summarized in the House Report, as already noted,15 had somewhat different provisions for depreciation. The first paragraph of the quotation from the Conference Report in our view summarized the House's proposed second rule. The words 'This rule' in the second paragraph, therefore, refer to the House's proposed second rule.16 Only the third paragraph of the excerpt reached the changes made by the Senate. Only the fourth paragraph resolved the differences between the two bills. There is nothing in either the third or the fourth paragraph to indicate that the election authorized by the Conference Report was to limit or replace the three general rules proposed by the House, the third House-proposed rule17 authorizing precisely what the Commission allowed in this case. The second paragraph, read in the context of the Conference Report, does not state that the Commission lacks authority to permit a company on flow-through to abandon it with respect to existing property. It only states that a company on flow-through may remain on flow-through. Thus, it is solely a limitation on the requirement that a company must normalize if it wants to continue accelerated depreciation with respect to pre-1970 property. This is entirely consistent with the structure of § 167(l)(1).
As we read the Reports, the purpose was to forestall switches to faster methods of depreciation, to guard against widespread rate increases, and to avoid putting some utilities at a competitive disadvantage. But the 'freeze' was not put in absolute terms. Shifts from straight-line to accelerated depreciation were outlawed, as were shifts from normalization to flow-through on existing property. We find no trace of a suggestion that the Federal Power Commission was denied authority to determine whether on particular facts the abandonment of flow-through by a utility within the parameter of the Tax Reform Act of 1969 would be in the public interest as envisaged by the Natural Gas Act, even though it might increase rates. The 'freeze' certainly was designed to cover changes to faster methods of tax depreciation but not changes to slower methods of tax depreciation that the Commission might permit.
The Court of Appeals sustained the Commission as respects the post-1969 expansion property of Texas Gas, and reversed it as respects the pre-1970 and post-1969 nonexpansion property. The Court of Appeals did not reach the validity of the Commission's order, assuming the Commission was correct in its reading of the Tax Reform Act of 1969, as we think it was. The Court of Appeals did, however, state that § 167(l) 'should not be construed to prevent' the Commission from finding in 'extraordinary circumstances' that consumer interests 'would be furthered by permitting the abandonment of flow-through.' But it added: 'It is clear, however, that such consumer interests would not be furthered by permitting Texas Gas to abandon flow-through in the circumstances presented by the case at bar.' 149 U.S.App.D.C., at 250, 462 F.2d, at 865. The Commission in its petition for certiorari states that in connection with the main question raised it would argue, if the petition were granted, that its decision on the merits was correct in all respects. And in its brief on the merits it urges us to decide the merits. But by statute23 the Court of Appeals is the tribunal where review must be sought; and we remand the cases to it for proceedings consistent with this opinion. We note in closing, however, that the judgment of the Court of Appeals is reversed in toto. Its holding that the consumer interests were not furthered by the Commission's action is short of the application of the appropriate standard for review. As already noted, under Hope Natural Gas rates are 'just and reasonable' only if consumer interests are protected and if the financial health of the pipeline in our economic system remains strong.
Section 167(a) provides that '(t)here shall be allowed as a depreciation deduction a reasonable allowance for the exhaustion, wear and tear (including a reasonable allowance for obsolescence)' of qualified property. Section 167(b) defines 'reasonable allowance' to include an allowance computed under the declining balance method and the sum-of-the-years-digits method, as well as the straight-line method. Under the declining-balance and sum-of-the-years-digits method, both commonly referred to as accelerated or liberalized depreciation methods, depreciation allowances in the early years are higher than under the straight-line method, but steadily decrease over the useful life of the asset. Under the straight-line method, the depreciation allowance for an asset remains equal over its useful life.
Federal income taxes are properly included as an expense under the cost-of-service ratemaking utilized by the Commission in the regulation of rates for sales of natural gas subject to its jurisdiction under the Natural Gas Act, 15 U.S.C. § 717 et seq. See FPC v. United Gas Pipe Line Co., 386 U.S. 237, 243, 87 S.Ct. 1003, 1007, 18 L.Ed.2d 18.
See H.R.Rep.No.91—413, pt. 1, pp. 131—132; S.Rep.No.91 552, p. 172, U.S.Code Cong. & Admin.News 1969, p. 1645.
See H.R.Rep.No.91—413, pt. 1, pp. 132—133; S.Rep.No.91 552, p. 172.
H.R.Rep.No.91—413, pt. 1, p. 133, U.S. Code Cong. & Admin.News 1969, p. 1783.
S.Rep.No.91—552, p. 173, U.S.Code Cong. & Admin.News 1969, p. 2206.
In Order No. 404, 43 F.P.C. 740, rehearing denied, 44 F.P.C. 16, the Commission announced that as a general policy it would permit utilities making the election under § 167(l)(4)(A) to use accelerated depreciation with normalization with respect to their expansion property. The Court of Appeals, in the same decision under review here, affirmed this order. 149 U.S.App.D.C. 238, 250, 462 F.2d 853, 865. That part of the court's decision is not before us.
'(A) In the computation of its Federal Income Tax allowance for ratemaking purposes as well as for accounting purposes, Texas Gas is permitted to use liberalized depreciation with normalization with respect to its property other than that subject to election under Section 167(l)(4)(A) of the Internal Revenue Code as amended by Section 441 of the Tax Reform Act of 1969. Such election applies to property constructed or acquired on or after January 1, 1970, to the extent it increases the productive or operational capacity of the company and does not represent the replacement of existing capacity. Texas Gas may reflect any such change in its rates, as well as any change in costs arising from its proposed election. In computing its cost-of-service for ratemaking purposes balances in Account 282 (deferred tax reserve account) should continue to be deducted from the rate base.' 43 F.P.C. 824, 831.
Memphis Light, Gas & Water Division, a municipally owned distributor of natural gas and a city-gate customer of Texas Gas, and the Public Service Commission of the State of New York petitioned the Court of Appeals for review of the Commission's Opinion No. 578. Each had filed an application for rehearing before the Commission which was denied in Opinion No. 578—A. Both the Federal Power Commission (in No. 72—486) and Texas Gas (in No. 72—488) petitioned this Court for a writ of certiorari.
H.R.Rep.No.91—413, p. 133, U.S.Code Cong. & Admin.News 1969, p. 1783.
S.Rep.No.91—552, pp. 173—174, U.S.Code Cong. & Admin.News 1969, p. 2206.
'The (Senate) committee amendments, while in most respects the same as the House provisions, differ in one principal area. The amendments permit an election to be made within 180 days after the date of enactment of the bill for a utility covered by this provision to shift from the flow-through to the straight-line method, with or without the permission of the appropriate regulatory agency, or permit it with the permission of the regulatory agency to shift to the normalization method (that is, to come under general rules of the bill).
H.R.Conf.Rep.No.91—782, pp. 312—313, U.S.Code Cong. & Admin.News 1969, p. 2427.
H.R.Rep.No.91—413, pt. 1, p. 133, U.S.Code Cong. & Amin.News 1969, p. 1783.
The second rule, as noted, provided, '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.' Ibid.
The third rule, as noted, provided, 'If the taxpayer is taking accelerated depreciation and flowing through to its customers the benefits of the deferred taxes, then the taxpayer must continue to do so, unless the appropriate requalatory agency permits a change as to that property.' Ibid.
H.R.Rep.No.91—413, pt. 1, pp. 132—133.

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