BEFORE THE ARKANSAS PUBLIC SERVICE COMMISSION

Transcription

1 BEFORE THE ARKANSAS PUBLIC SERVICE COMMISSION IN THE MATTER OF THE APPLICATION ) OF SOURCEGAS ARKANSAS INC. FOR ) DOCKET NO. -0-U APPROVAL OF A GENERAL CHANGE ) IN RATES AND TARIFFS ) REBUTTAL TESTIMONY OF KAREN B. WASSENBERG ON BEHALF OF SOURCEGAS ARKANSAS INC. E. Millsap Road Suite 0 Fayetteville, Arkansas 0 Filed: October, 0

2 Table of Contents I. Introduction II. III. A Summary of Bonus Depreciation... SGA s Response to the Recommendation of Mr. Marcus. a. Whether or not to take bonus deprecations is a business decision entrusted to SGA. b. The imposition of a penalty on SGA s ROE as a result of the decision to forego bonus depreciation poses the risk of causing SGA to commit a normalization violation 0 IV. Miscellaneous Rebuttals..

3 Docket No. -0-U I. Introduction Q. Please state your name and business address. A. My name is Karen B. Wassenberg. My business address is 00 th Street, Suite 00, Golden, Colorado, 00. Q. By whom are you employed and in what capacity? A. I am employed by SourceGas LLC as its Senior Tax Director. Q. When did you begin your employment with SourceGas LLC? A. I began my employment December, 0. Q. What are your responsibilities as Senior Tax Director? 0 A. I oversee and direct all tax matters of the SourceGas companies, including SourceGas Arkansas Inc. ( SGA or the Company ). My areas of responsibility include federal and state income, sales and use, and property tax compliance; management of audits; and financial reporting for income taxes. Q. Please state your educational background and professional experience. A. I have Bachelor s degrees from Utah State University in Plant Science and Accounting, and a Master s degree from the University of California, Davis, in Range Management. I was employed by the accounting firm of Arthur Andersen for three years in both audit and tax. Following my time in public accounting, I was the Tax Manager for a silicon wafer manufacturer for ten years. I then entered the energy business as Tax Manager for an

4 Docket No. -0-U 0 electric utility in Portland, Oregon, PacifiCorp (a U.S. subsidiary of ScottishPower at that time), where I was continuously employed from by various successor holding companies of the electric utility and its non-regulated wind energy business. After the acquisition of PacifiCorp by MidAmerican Energy Company in 00, I continued as Tax Manager for ScottishPower Holdings, Inc. After the acquisition of ScottishPower by Iberdrola, S.A., I continued in the role of Tax Manager employed by Iberdrola Renewables Holdings, Inc. In 00, I became the Tax Director at NW Natural Gas Company in Portland, OR. I served in that role until joining SourceGas in December, 0. I am a Certified Public Accountant licensed in the states of Oregon and California. I also have a Certified Global Management Accountant designation from the American Institute of Certified Public Accountants. Q. Have you previously testified before the Arkansas Public Service Commission ( APSC or the Commission ) or any other utility regulatory commission? A. Yes, I previously testified in APSC Docket No. -0-U. Q. What is the purpose of your Rebuttal Testimony in this docket? A. The purpose of my testimony is to respond to the portions of the Direct Testimony of William B. Marcus in this docket related to bonus depreciation. Mr. Marcus testified on behalf of the Arkansas Attorney General. 0 Q. To what comments and recommendations of Mr. Marcus related to bonus depreciation do you wish to respond?

5 Docket No. -0-U A. I wish to respond to Mr. Marcus s recommendation that the Commission impose a reduction in SGA s Return on Equity ( ROE ) of 0 basis points as a penalty for the Company not claiming bonus depreciation in all years in which it was available for eligible assets. II. A Summary of Bonus Depreciation Q. What is bonus depreciation? 0 A. Bonus depreciation, like accelerated tax depreciation in general, was given effect through an act of Congress and was intended to stimulate the economy. The stimulus arises when cash that is not needed to fund a taxpayer s current tax liability is freed up to fund capital expenditures that would not have been made otherwise. However, if a Company is already in a net operating loss position, bonus depreciation does not free up cash to fund additional capital expenditures. Arkansas does not allow bonus depreciation, so the decision whether or not to take it impacts the federal tax return only. Whether or not to elect to use bonus depreciation in a given tax year is one of several tax depreciation decisions that a taxpayer makes annually with respect to the property it places into service. Not all property placed in service in a given year qualifies for bonus depreciation. Under IRS rules, once a taxpayer elects not to claim bonus depreciation for a class of property, the taxpayer cannot revoke the election without IRS consent. Q. Please explain how bonus depreciation relates to a utility s required rate of return. Direct Testimony of William B. Marcus, p. : lines -, p. : lines -0 and p. lines -.

6 Docket No. -0-U 0 A. The taking of bonus depreciation increases a company s Accumulated Deferred Income Taxes ( ADIT ), which in turn results in a decrease to a utility s required rate of return. ADIT refers to the deferred income taxes owed to the government in the future. When tax law allows deductions for tax purposes (such as bonus depreciation) that are greater than the expense taken for book purposes for the same item, taxable income is less than book income. The current taxes owed to the government are lower than the current amount of tax expense for book purposes. When this occurs, a deferred tax liability is recorded on the books to reflect the liability for taxes that will be owed and paid to the government in the future. At such time as the tax deduction for the item is less than the book expense, taxable income will be greater than book income with respect to that item, and the deferred taxes become due and payable to the government. On the other hand, when tax deductions exceed the amount of all items of taxable income, a net operating loss is generated. A net operating loss carryforward is a deferred tax asset that is monetized only at such time as it reduces taxes otherwise payable to the government. Until the time of monetization, deferred tax assets offset deferred tax liabilities in the computation of the net amount of ADIT. The net amount of ADIT owed to the government in the future is a zero-cost source of capital to ratepayers. Q. Does a utility s decision to take bonus depreciation impact the overall level of depreciation associated with an asset or an asset class? 0 A. No. Like accelerated depreciation, bonus depreciation merely affects the timing of the depreciation of an asset or asset class. Neither the total value of the asset, nor the amount of depreciation allowed thereon, is affected.

7 Docket No. -0-U Q. Has the Commission promulgated any regulations, or issued any orders, directing jurisdictional gas utilities to take bonus depreciation? A. No. Mr. Marcus s position is based solely upon his opinion, not on an existing regulatory requirement. Q. Has the Commission previously imposed on a jurisdictional gas utility a penalty of any nature for failing to take bonus depreciation? 0 A. I am not aware of the Commission ever imposing any such penalty. Again, Mr. Marcus s position is based entirely upon his opinion, not on any existing regulatory precedent. As I discuss later in this Rebuttal Testimony, a Commission decision imposing a penalty upon a utility for failing to take bonus depreciation is assumed to constitute a normalization violation under the Internal Revenue Code. The penalty for a normalization violation is substantially greater than the penalty proposed by Mr. Marcus, in that a normalization violation forever precludes the utility from utilizing accelerated depreciation for tax purposes. This result would harm both SGA and its customers. III. SGA s Response to the Recommendation of Mr. Marcus Q. Why is Mr. Marcus s recommendation inappropriate? 0 A. I disagree with Mr. Marcus s recommendation for two primary reasons. First, whether or not to take bonus depreciation is a business decision entrusted to the Company. SGA s decision to forego taking bonus depreciation was reasonable under the circumstances, and therefore prudent. Specifically, the Company evaluated all available information at the time of the deadlines for filing each federal tax return and claimed Modified Accelerated

8 Docket No. -0-U Cost-Recovery System ( MACRS ) accelerated depreciation or bonus depreciation based on the informed judgment of management. The Company should not be penalized for making a prudent decision. 0 Second, the imposition of a penalty on SGA s ROE as a result of a management decision to forego bonus depreciation would place SGA at risk of committing a normalization violation. A normalization violation would severely harm ratepayers from this point forward by permanently removing a zero-cost source of capital. My testimony includes additional reasons for my disagreement with Mr. Marcus s recommendation in Section IV- Miscellaneous Rebuttals below. a. Whether or not to take bonus depreciation is a business decision entrusted to SGA Q. Please explain your position that whether or not to take bonus depreciation is a business decision entrusted to SGA. 0 A. A company is not required to take bonus depreciation simply because it is eligible to take it. The decision to claim or to not claim bonus depreciation is an annual management decision requiring judgment based on the information available at the time the decision is made. A variety of factors are normally considered when determining whether or not to claim bonus depreciation. These factors include: the availability of records to support the deductions claimed, the complexity of the requirements for eligibility for bonus depreciation in any given year, the availability of supporting documentation by the deadline for filing the tax return in which such election must be made, and the Company s net operating loss carryforward position. The Internal Revenue Code stipulates that the tax

9 Docket No. -0-U depreciation used to compute a regulated company s ADIT in the ratemaking process must respect all elections made by the taxpayer, including the election to take or not take bonus depreciation. Therefore, for each of the years bonus depreciation was available, when SGA chose to take or not take bonus depreciation, the Company made a business decision that it was entitled to make. Further, if the Commission were not to respect the Company s depreciation elections in the ratemaking process, the Commission would cause a normalization violation. Q. Why did SGA choose to forego the taking of bonus depreciation? 0 A. In certain years SGA chose to forego the taking of bonus depreciation primarily because it was part of a consolidated group (for tax purposes) that was in a net operating loss carryforward position, which would have only been magnified by electing to take additional accelerated depreciation in the form of bonus depreciation. Specifically, SourceGas Inc. ( SGI ), the consolidated group of which SGA is a part, had a net operating loss carryforward at the end of 00 and 00. Although bonus depreciation was not elected in either 00 or 0, the consolidated group still reported a net operating loss carryforward on its 0 corporate income tax return. Therefore, the Company was not in Internal Revenue Code Section (i)()(a): In general. In order to use a normalization method of accounting with respect to any public utility property for purposes of subsection (f)() (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 (respecting all elections made by the taxpayer under this section) differs from the amount that would be allowable as a deduction under section 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. (Italics added.)

10 Docket No. -0-U a position to use bonus depreciation for the purpose for which it was intended by Congress. Further, SGI did not need to claim bonus depreciation to free up cash to fund capital investment because it was able to obtain other sources of funding for such investment. b. The imposition of a penalty on SGA s ROE as a result of the decision to forego bonus depreciation poses the risk of causing SGA to commit a normalization violation. Q. Please explain the concept of a normalization violation. 0 0 A. Although the normalization regulations are quite complex, generally speaking, any action that passes the benefits of accelerated or bonus depreciation to ratepayers faster or in an amount greater than the related tax benefits are realized by the company taking bonus depreciation is a normalization violation. When accelerated depreciation for tax purposes first became law, Congress included a provision in the legislation requiring the normalization method of accounting be used in order to ensure that the company claiming deductions under the new law received the benefits of accelerated depreciation. If a utility were required to pass through the benefit of bonus depreciation to ratepayers in the ratemaking process, then the intent of Congress would be thwarted. This provision insured that accelerated depreciation would remain a viable means of stimulating the economy when Congress so desired. For a regulated utility, in short, the normalization method of accounting for accelerated depreciation requires the recording of deferred income tax liabilities resulting from the differences between book depreciation-the standard depreciation recorded by the company based on Commission approved depreciation rates, and accelerated tax depreciation-the depreciation a company is 0

11 Docket No. -0-U allowed to take under the Internal Revenue Code. As alluded to above, the normalization method of accounting prohibits passing through the benefits of accelerated depreciation to ratepayers faster than the benefits are realized (i.e.: monetized) by the Company. The intent of the normalization rules was articulated by the Staff of the United States Congress Joint Committee on Taxation as follows: The legislative history relating to the 0 original enactment of the first normalization requirements for accelerated tax depreciation indicates that the normalization rules were designed, in part, to provide regulated utilities with the same tax incentive to invest in new plant and equipment as is provided to taxpayers in nonregulated industries. Congress instituted the penalty for a normalization violation in order to prevent commissions from subverting its intent. An example of a normalization violation in the context of a public utility would be a reduction of the utility s rate base through tax deductions for accelerated tax depreciation, when the utility did not actually claim those deductions on its tax return, or in an amount greater than used to reduce the utility s tax liability to the government. Q. On page, Lines - of Mr. Marcus s Direct Testimony, he declines to impute the use of bonus depreciation on SGA for ratemaking purposes because he is concerned that such imputation could possibly result in a normalization violation. Does Mr. Marcus avoid committing a normalization violation by instead proposing a penalty reduction in SGA s ROE? Applicability of the Normalization Requirements of the Internal Revenue Code to Consolidated Tax Savings Adjustments, JCX--, page.

12 Docket No. -0-U 0 A. No, he does not. While I agree with Mr. Marcus s expressed concern with regard to avoiding a normalization violation, a penalty in the form of a reduction in SGA s ROE would constitute an indirect normalization violation, as it uses an indirect method to produce the same effect as a direct normalization violation would produce. Mr. Marcus declined to impute bonus depreciation on SGA because the effect would be to pass the benefits of the accelerated depreciation that an election of bonus depreciation provides on to SGA s ratepayers without SGA ever receiving the benefits of that accelerated depreciation. In the same vein, reducing SGA s ROE in order to penalize SGA for choosing not to take the maximum amount of bonus depreciation would result in lower rates to SGA s ratepayers, effectively passing on a benefit to ratepayers greater than the benefit SGA realized from bonus depreciation. Under federal regulations, the action of reducing SGA s ROE places the Company at risk of committing an indirect normalization violation. An indirect normalization violation is subject to the same sanction as a direct violation. Q. What effect does the committing of a normalization violation or an indirect normalization violation have on the entity committing the violation? 0 A. If a company violates the federal normalization requirements, it would be limited to using only regulatory (book) depreciation for tax purposes henceforth, meaning that the company could not take advantage of any additional accelerated depreciation, including MACRS depreciation or bonus depreciation, at any time in the future. As explained earlier in my testimony, this would deprive the Company of a source of zero-cost capital, which is

13 Docket No. -0-U extended to the Company in the form of deferred liability for taxes owed to the government (i.e., deferred income taxes). Q. What specific effect would there be on SGA s ratepayers if SGA is found to have committed a normalization violation? A. The effect of a normalization violation would be to risk permanently removing a source of zero-cost capital, thereby increasing the Company s cost of capital and harming Arkansas ratepayers through higher rates. IV. Miscellaneous Rebuttals 0 Q. Are there any other statements made by Mr. Marcus in his Direct Testimony that you would like to address? A. Yes. There are three additional statements Mr. Marcus made that I would like to address. First, he states that, in the context of income tax, SGA ratepayers have been disadvantaged by the Company s association with upstream subsidiaries. Second, he suggests that SGA did not take bonus depreciation due to the tax position of its affiliates. These statements are misleading and based in part on a misunderstanding of the SourceGas companies organization structure for tax filing purposes. Third, Mr. Marcus asserts that ratepayers have been harmed because SGA did not take bonus depreciation every year it was eligible to do so. Mr. Marcus states that had SGA taken bonus depreciation at every Direct Testimony of William B. Marcus, p., lines -. Direct Testimony of William B. Marcus, p., lines -, p., lines - and p. lines -.

14 Docket No. -0-U opportunity, its amount of ADIT, a portion of SGA s zero-cost capital, would have been greater than it was. Q. Please explain how these statements demonstrate Mr. Marcus s misunderstanding of the SourceGas companies organizational structure for tax purposes. 0 A. First of all, as a point of clarification, SGA does not have upstream subsidiaries for tax purposes. (By definition, a subsidiary is not upstream.) SGA itself is a wholly-owned subsidiary of SGI and is included in the consolidated corporate income tax return filed by SGI. For legal purposes, SGI is 00% owned by SourceGas LLC, but for tax purposes, SGI s filing is entirely independent of that of SourceGas LLC. SourceGas LLC and its operating entities in Colorado, Wyoming and Nebraska are instead included in the partnership return filed by SourceGas Holdings, LLC. For additional clarity as to the two income tax filings made by the members of the SourceGas companies affiliated groups, please see Rebuttal Exhibit KBW-, which is attached to my Rebuttal Testimony. 0 What this separation between SourceGas LLC and SGI means is, except as described below, depreciation expense realized by SourceGas LLC through transactions such as the re-depreciation of existing assets in the mountain states is not allocated to SGI or SGA, and therefore has no bearing on SGI s tax elections. When Mr. Marcus suggests that the tax depreciation associated with SourceGas LLC s property in Colorado, Wyoming and Nebraska, and possibly other deductions taken by SourceGas LLC, reduced the tax liability of the filing group which includes SGA, he is incorrect. The Direct Testimony of William B. Marcus, p., lines -, p., lines -0 and p., lines -. Direct Testimony of William B. Marcus, p., lines -.

15 Docket No. -0-U only depreciation expense incurred by SourceGas LLC that is allocated to SGA or any of the other SGI consolidated group companies is the depreciation expense on assets shared by SourceGas LLC and those companies. Therefore, Mr. Marcus is incorrect when he suggests that SGA did not take bonus depreciation due to the tax position of its affiliates. 0 Given that Mr. Marcus s statements regarding the source of SGI s NOLs are based on a misunderstanding of the SourceGas companies tax structure, it does not seem worthwhile to address each possibility he raises. The explanation I have provided above regarding the organizational structure of SourceGas LLC and SGI for tax purposes is sufficient to demonstrate that Mr. Marcus is incorrect to suggest that the activities of SourceGas LLC (the entity I presume he is referring to when he references SGA s upstream subsidiaries ) led to increased depreciation expense or NOL s for SGI. Although SGA did not take bonus depreciation at every opportunity, the depreciation methods used by SGA did result in benefits to its ratepayers. SourceGas Inc. and its subsidiaries are entitled to claim straight-line depreciation on assets placed in service in the current year on each of its annual federal tax returns. Although entitled to 0 claim straight-line depreciation under the Alternative Depreciation System ( ADS ), SourceGas Inc. has consistently claimed higher depreciation deductions allowed under MACRS, and in addition, claimed 0% bonus depreciation in 00. The depreciation deductions allowed under MACRS are substantially higher than the deductions allowed under ADS. The difference between MACRS and ADS depreciation is illustrated in the See instructions to IRS Form, Line 0.

16 Docket No. -0-U table below for the first ten years of life of a distribution pipeline with a MACRS life of 0 years and an ADS life of years: IRS Depreciation Factors: Year 0 Total 0 Year MACRS Year ADS Difference.0 0 This comparison illustrates that an asset depreciated under ADS would be only % depreciated at the end of ten years whereas under MACRS it would be approximately % depreciated. Thus, the asset is being depreciated approximately twice as fast under MACRS as it would be under ADS. Ratepayers have benefitted by SGA claiming MACRS as opposed to ADS depreciation since MACRS increases a company s ADIT, a zero-cost source of capital which in turn results in a decrease to a utility s required rate of return. Q. Does this conclude your testimony? A. Yes.

17 ATTESTATION I do hereby swear and affirm that the foregoing is my Rebuttal Testimony in Arkansas Public Service Commission Docket No. -0-U. /s/ Karen B. Wassenb erg Karen B. Wassenb erg Dated: September, 0

18 CERTIFICATE OF SERVICE I, Matthew A. Greene do hereby certify that I have caused to be served a copy of the foregoing Rebuttal Testimony upon all parties of record in this docket, via electronic mail, this st day of October, 0. 'Ofa,hoz, Matthew A. Greene