Public Utility Commission Rules Taxpayer Entitled to Collect Tax Expense, Notwithstanding NOLs | Holland & Knight LLP

A Missouri regulated public utility had net operating losses (NOLs) not attributable to accelerated depreciation, so the normalization rules did not apply. The Missouri Public Service Commission (MPSC) confirmed that tax expense is a hypothetical construct computed by multiplying the rate base by the rate of return and by the statutory tax rate. The MPSC rejected an argument that no tax expense should be recovered where the taxpayer has no current tax liability.

The taxpayer regularly engaged in the acquisition of distressed water systems in need of substantial repairs and upgrades. The company elected out of the Modified Accelerated Cost Recovery System (MACRS) and thus claimed straight line depreciation for both book (regulatory) and tax purposes. Even with the use of slower depreciation methods and longer lives, the taxpayer incurred substantial NOLs from operating expenses.

In its rate case, MPSC staff and public advocate witnesses asserted that because the normalization rules did not apply, and because the taxpayer had no current tax liability because of the NOLs, the taxpayer should not be entitled to recover any tax expense from customers in its rates. The taxpayer’s expert witness testified that tax expense for ratemaking purposes does not depend upon whether there is a current tax liability; rather, it is an artificial construct calculated by multiplying rate base by the authorized rate of return and then by the maximum statutory tax rate (not the effective tax rate).

In late October, the MPSC agreed with the taxpayer and ordered the company to calculate tax expense pursuant to the construct. It also noted that, although the NOLs for the test year were larger than in prior years, this was the methodology the MPSC staff had allowed in those years without objection, and the MPSC staff had not explained why a deviation from that approach was appropriate.

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