Taxes in Transmission and Pipeline Tariffs

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Publication February 15, 2017

Some transmission and pipeline companies may have to reduce the rates they charge customers.

The affected companies own interstate transmission lines and oil and gas pipelines and file tax returns as partnerships. Many pipeline companies are organized as master limited partnerships.

The Federal Energy Regulatory Commission issued a “notice of inquiry” in December about its policy of allowing interstate transmission companies and pipelines organized as partnerships to recover income taxes, even though the partnerships do not pay income taxes. FERC issued a policy statement in May 2005 permitting an income tax allowance for all regulated entities — both corporations and partnerships — provided the owners can show that taxes have to be paid on income earned by the company, even if the taxes are at the partner level.

United, Delta, Southwest, US Airways (now part of American Airlines) and several refineries sued FERC challenging a decision to let SFPP, L.P., a partnership that owns a liquids pipeline that carries refined petroleum products in the western United States, charge customers rates that include an income tax allowance even though, as a partnership, the company is not subject to income taxes.

A US appeals court told FERC to take another look at the matter in a decision released in July 2016. The case is called United Airlines v. FERC.

The issue is whether the approach FERC uses to calculate the regulated rates of return for transmission and pipeline companies already take into account taxes, so that any further recovery of taxes would be double counting.

FERC allows interstate pipeline and transmission companies to charge rates that are expected to earn them a reasonable rate of return on rate base as well as to pass through taxes and other operating costs. To determine the appropriate return, FERC looks at what investors are earning on comparable securities in the market. Investors focus on their after-tax returns. A company’s share price in theory reflects the discounted after-tax cash flow that an investor will receive from owning the shares. The discount rate is the return that investors require to make the investment.

FERC said, “Because the return estimated by the [discounted cash flow] methodology includes the cash flow necessary to cover investors’ income tax liabilities and earn a sufficient after-tax return, the Commission’s policy of allowing partnership entities to recover a separate income tax allowance may result in a double recovery.”

It asked for initial comments by March 8 and reply comments by April 7.

Pipeline and transmission customers are hoping that the inquiry will lead eventually to lower charges to move their electricity, oil and gas.


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