Item G-6: Commissioner James Danly Concurrence in Part and Dissent in Part Regarding Panhandle Eastern Pipe Line Company, LP and Southwest Gas Storage Company

Commissioner James Danly Statement
December 16, 2022
RP19-78-000
RP19-78-001
RP19-1523-000
RP19-257-005
(consolidated)

I dissent from the today’s order[1] because the majority has decided to reverse the Initial Decision[2] permitting Panhandle Eastern Pipe Line Company, LP (Panhandle) to extinguish its excess accumulated deferred income tax (ADIT).  That reversal is not the product of reasoned decision making and therefore runs afoul of the Administrative Procedure Act.

The majority’s argument is as follows:  Panhandle’s excess ADIT cannot be extinguished because it was “organized as a corporate tax paying entity on January 1, 2018, and on the date that the tax rate reduction . . . came into effect, an [excess ADIT] balance . . . was created,”[3] and that “Panhandle then transferred the [excess ADIT] to Account No. 254,”[4] which the majority then declares is “not subject to the same normalization restrictions that ADIT balances have and need not be extinguished under these circumstances.”[5]

However, these facts are not unique to corporations.  The same could occur for a Master Limited Partnership (MLP), which the Commission has found must extinguish excess ADIT from their cost of service.[6]  For instance, until March 15, 2018, MLPs would have recovered an income tax allowance.  The change in the individual income tax rate in the Tax Cuts and Jobs Act would have given rise to excess deferred taxes that would have triggered Commission and Internal Revenue Service normalization requirements.  The MLP would have then reclassified the excess ADIT in Account No. 254, and like the corporation, the MLP would have been on “notice”[7] (as defined by the majority) that it had to credit EDIT in future cost of service.  The mere fact that the entities organized as MLPs, as compared to corporations, at the time of the Tax Cuts and Jobs Act, is not a defensible distinction.[8]

Moreover, the majority’s insistence that excess ADIT is “not subject to the same normalization restrictions that ADIT balances have” is simply not true.[9]  Section 154.305 of the Commission’s regulations—titled “Tax Normalization”—defines excess ADIT to be part of the normalized income tax component.[10]  The reduction to rate base by excess ADIT in Account No. 254 is governed by section 154.305(c) of the Commission’s regulations.[11]  Simply put, excess ADIT is part of the income tax allowance component.  The placement of excess ADIT in Account 254 does not change that fact.[12]  As the Commission explained in SFPP, L.P.,

where there is no income tax allowance in Commission rates, there is no basis for the “matching” function of normalization and no liability for the deferred taxes reflected in ADIT.  In the absence of ADIT, there is no ADIT adjustment to rate base or amortization allowance to be reflected in cost-of-service rates.[13]

In sum, once Panhandle became an MLP the “premise of tax normalization,” and the basis for crediting excess ADIT, were “wiped out.”[14]

While I concur with the remainder of today’s order, I have concerns with some of its findings.  The order finds that, “Panhandle’s vague assertions that eliminating ADIT from the equity component of the capital structure is prohibited retroactive ratemaking are without merit.”[15]  However, in SFPP, L.P. v. FERC the court states, “FERC could neither refund the ADIT nor continue to remove it from rate base without violating the rule against retroactivity.”[16]  Are these consistent?  I acknowledge that the order requires ADIT to be eliminated from cost-of-service rates, and that including ADIT to determine the equity component of capital structure would affect the rate of return and in turn affect the cost of service.  However, I would find it helpful if parties requesting rehearing would address the language in SFPP, L.P. v. FERC or provide other arguments for whether ADIT should be eliminated from the equity component of the capital structure.

Our decision here is not without consequence.  Panhandle had stated its capital structure was 62.94% equity and 37.06% debt,[17] which Trial Staff found “in line with capital structures that the Commission has approved in other cases.”[18]  Commission staff has informed me that by “requir[ing] Panhandle to remove ADIT from the equity component of Panhandle’s capital structure and reverse its write-off of EDIT,”[19] the capital structure will be closer to 50% equity and 50% debt.

I understand that gas pipelines often have higher equity ratios (as did Panhandle) to maintain investment credit ratings and access capital markets.[20]  Commenters in the record for the Commission’s Inquiry Regarding the Commission’s Policy For Determining Return on Equity explained why that is the case, stating that “[c]redit rating agencies encourage gas pipelines to maintain lower [debt-to-earnings before interest, taxes, depreciation, and amortization (EBITDA)] ratios”[21] and that “[t]he higher the ratio, the greater the risk that a company may be deemed non-investment grade.”[22]  To manage debt-to-EBITDA ratios, pipelines must often propose “a capital structure that is weighted heavier in equity than in debt.”[23]  Put differently, those commenters argue that a 50% equity-50% debt capital structure could affect a pipeline’s ability maintain investment grade ratings.  There is tension between this practice and the Supreme Court’s holding in Federal Power Commission v. Hope Natural Gas Co.[24]  A pipeline’s “return . . . should be sufficient to assure confidence in the financial integrity of the enterprise, so as to maintain its credit and to attract capital.”[25]

For these reasons, I concur in part and dissent in part.

________________________

James P. Danly

Commissioner