June 1, 2007
Entergy May Get Tax Shield From Louisiana for Ratepayer Bonds
By Michael Quint
Entergy Corp., a New Orleans-based power company seeking to recoup hurricane losses, may become the first utility to cut costs on ratepayer-backed bonds by using a tax-exempt subsidiary to collect customers’ monthly payments.
Entergy’s plan requires approval from the Louisiana legislature, state utility regulators and the U.S. Internal Revenue Service. Federal and state tax savings may amount to $230 million over the 10-year life of the bonds, according to the company.
“We are trying to save money for our customers,” said T. Michael Twomey, Entergy’s vice president for regulatory affairs.
The proposed $971 million of ratepayer-backed bonds are expected to receive the highest AAA grades from the three major ratings companies and are backed by a surcharge on monthly bills of 1 million Entergy customers in Louisiana. About $39.8 billion of ratepayer bonds with similar backing have been sold in 13 states since 1997.
Without the tax exemption, the company would have to set a monthly customer surcharge 35 percent higher to pay taxes related to the bonds along with the principal and interest, Twomey said. That’s because monthly payments from Entergy customers to repay the bonds create a tax obligation for the company, which it would pass on to customers.
While the portion of the customers’ monthly surcharge that is for bond interest is a deductible expense for the company even without the legislation, the portion for repaying bond principal wouldn’t be — just like home-mortgage interest is a deductible expense while principal payments aren’t.
The rate surcharge is expected to be between $1 and $3 per month for the average residential customer, Twomey said. The range is wide because of undecided issues such as how to divide the cost between residential and commercial users.
The monthly surcharge would apply to customers of Entergy Louisiana and the Louisiana customers of Entergy Gulf States, both subsidiaries of Entergy. Customers of Entergy New Orleans, which suffered the most severe damage, won’t be affected because that company received federal grants for hurricane repairs.
If the legislature approves the bill, which may happen early this month, Governor Kathleen B. Blanco plans to ask the IRS for an expedited opinion letter, said Jack Hanemann, Entergy’s vice president for governmental affairs. Calls to Blanco’s office weren’t returned.
The state would sell bonds through the Louisiana Public Facilities Authority, with monthly payments from customers going to the not-for-profit Louisiana Utilities Restoration Corp.
Because the exact role of the not-for-profit unit hasn’t been explained to state regulators, it isn’t clear what benefit it might create for the company.
Even without setting up the tax-exempt unit, the $971 million bond sale would benefit the company by allowing it to recover its storm costs quickly, rather than spread them out over 10 years or longer and subject the company to the uncertainty of regulators’ approval of electricity rate increases.
The tax-exempt unit isn’t expected to give the company any extra benefit, said Thomas Catlin, president of Exeter Associates, a Columbia, Maryland, consultant to Stone Pigman Walther Wittmann, a New Orleans-based law firm representing the Louisiana Public Service Commission.
Catlin said the company and regulators have an understanding that the amount of storm recovery costs to be covered by the ratepayer-backed bonds will be based on the utility’s expenses after taxes.
Use of Funds
The company said $732 million of the $971 million bond sale is to pay for expenses such as replacing 29,000 poles, almost 6,000 transformers and 53,000 spans of wire damaged by Hurricanes Katrina and Rita in 2005. The remaining $239 million is to create a reserve fund to pay future storm damages.
The legislation proposed by state Representative Gil Pinac, a Democrat from Crowley, says the restoration corporation deserves tax-exempt status because it performs “an essential governmental function” and “shall be a special purpose public corporation and a political instrumentality of the state.” Calls to Pinac weren’t returned.
If the bonds are an obligation of a political entity, then “they could attract more investors, especially in Europe, because banking rules give favorable treatment to investments in government bonds of any type,” said Joseph Fichera, chief executive of Saber Partners, a New York-based adviser to regulators on other ratepayer bond sales. “Now we have to see if that European demand results in lower interest rates on the bonds.”
Ratepayer-backed bonds have been used or proposed to pay for costs of unwanted power plants not yet paid for by utility customers, pollution control equipment, sudden increases in electricity costs, and hurricane damages.
Many state utility regulators favor the bonds because their AAA rating allows them to sell at a lower interest rate than the utilities’ combined cost of equity and bonds, known as their regulatory cost of capital.
Entergy Louisiana, whose bonds are rated Baa1 by Moody’s, its sixth-highest level, has a regulatory cost of capital of about 11 percent, Twomey said. A sale of ratepayer-backed storm recovery bonds in Florida on May 15 resulted in a cost of about 5.23 percent.