Federal Tax Incentives Affecting Coal and Nuclear Power Economics
Natural Resources Journal
Federal Tax Incentives Afec ting Coal and Nuclear Power Economics
Duane Chapman 0
0 Duane Chapman, Federal Tax Incentives Af ecting Coal and Nuclear Power Economics , 22 Nat. Resources J. 361 (1982). Available at:
Federal Tax Incentives Affecting Coal
and Nuclear Power Economics**
The subject of electricity generation, taxation, and resource use is of
growing interest. Two articles on these topics have appeared recently in
this Journal. I
This paper analyzes the effect of federal corporate income tax incentives
on coal and nuclear power development. It estimates (1) the magnitudes
of tax incentives in relationship to utility costs, (2) the relative magnitudes
of benefits going to coal and nuclear facilities, and (3) the influence which
the time paths of tax payments and after-tax net income have upon possible
incentives for premature construction and excess capacity.
The corporate income tax system continues to evolve. Hence this
analysis provides a picture of the economic impact of income taxation as it
affected the coal-nuclear decision at a specific point in time, 1980. The
relative stability of the corporate income tax environment in the period
between 1975 and 1981, however, lessens the importance of this
qualification. 2 In this six-year period, coal generation has increased by 40%
and nuclear generation has increased by 220%. 3
I. CORPORATE INCOME TAXES
Reference to detailed income tax accounts and notes in annual reports
for three large upstate utilities in New York and the three large. private
*Professor of Resource Economics, Department of Agricultural Economics, Comell University.
**This paper is based upon research sponsored by the Office of Research and Development of
the U.S. Environmental Protection Agency through the University Research Group on Energy, and
by the California Energy Commission. The work of Kathleen Cole on the coal analysis is
acknowledged and appreciated, as is the assistance of Lucrezia Herman and Joseph Baldwin in manuscript
preparation and editorial revision.
1. Chung, Church, & Kury, Taxation of Electricity Generation: The Economic Efficiency and
Equity Bases for Regionalism Within the Federal System, 20 NAT. RES. J. 877 (1980); Morgan &
Olson, Nonneutral Features of Energy Taxation, 20 NAT. RES. J. 853 (1980).
2. Between 1975 and early 1981, the only revisions of modest significance in investment
incentives arose from 1978 legislation. The amount of tax at its highest rate was lowered from 48%
to 46%, this rate being the fifth step and applying to taxable income exceeding $100,000 (I.R.C.
§ 11 (b) (West Supp. 1981)). The maximum investment tax credit was increased to 11.5% (§46(a)(2)
(West Supp. 1981)), and a phased-in limitation on the proportion of tax liability which can be offset
by the investment tax credit was introduced (§ 46(a)(3) (West Supp. 1981)). In 1975, new restrictions
had been placed on use of the flow-through method by State Regulatory Commissions. This is noted
in the text in Section 11following.
3. U.S. DEP'T OF ENERGY, MONTHLY ENERGY REVIEW 64 (April 1981). While coal
generation continues to increase, nuclear generation has declined from its recent 1978 maximum
(Id.). While the number of planned and operating reactor units declined from 236 in 1975 to 171
in early 1981, the number of new plants planned (96) is greater than the number of plants licensed
for commercial operation (75); Id at 74.
utilities in California illustrates the role of federal corporate income tax
incentives in the determination of actual current tax liability and payment.
Each group has undertaken major construction programs.4 In the last seven
years for which information is available, the New York utilities reported
negative current federal income tax payment. 5 The sum of actual positive
payments and refunds received from recalculating earlier returns literally
is less than zero. The California utilities for the five years 1975-1979
reported positive current payments seven times and negative payments
or no payments eight times.6
Such individual instances do not necessarily evidence unethical or
illegal tax practices. Quite the opposite is the case. By making maximum
use of appropriate exemptions, deductions, and credits, utility
management succeeds in lowering operating expenses, charging lower rates to
customers, and passing on higher earnings to stockholders.
In addition, these corporate tax provisions apply to every form of
business activity. Tax incentives may affect utilities to a greater degree
because of the greater capital intensity in utilities, but the incentives
summarized here are not peculiar to utilities. Any corporation may take
advantage of these incentives.
A review of the tax reconciliation statements for these utilities from
New York, California, and other states reveals that investment-related
provisions are a major factor in determining utility tax liability. In this
analysis, I have examined the specific effects of AFUDC (allowance for
funds used during construction) income exclusion, interest deductions,
the investment tax credit, accelerated depreciation, and ADR (asset
Depreciation Range) tax lives.7
The allowance for funds used during construction (AFUDC) is intended
to reward utilities for investing in plant rather than in other
incomeproducing activities. It is analogous in concept to interest received on
savings. AFUDC is not an actual cash receipt, but a credit which will
become part of the income-producing rate base. 8 AFUDC has two
components. The first is an equity component, which, in the income statement,
is added to operating income in arriving at income before interest charges.
The second part of AFUDC is the debt component, which reduces actual
interest expense in determining net interest charges. Net income always
includes both the equity and debt components of AFUDC as positive
figures. The significance of AFUDC arises from its inclusion in
accumulated rate base, which is the basis for future rates.
By way of illustration, a nuclear plant with actual construction costs
of $3.45 billion might have an 8.6% AFUDC rate applied to actual plant
expenditures. For a representative $3.45 billion plant having a 10-year
construction period from 1980 to 1990, AFUDC would add $900 million
to the rate base for the plant. 9 Table I illustrates this example. When the
plant begins generating electricity, the hypothetical rate base will equal
$4.35 billion, the sum of actual construction expenditures and the total
AFUDC is excluded from corporate income tax in the year in which
AFUDC is earned during a plant's construction period. When the plant
begins operating, the revenue arising from AFUDC in the rate base is
taxable. The rationale for exclusion of AFUDC itself from taxable income
has no apparent specific source in IRS regulations or in the Internal
Revenue Code. This exclusion may arise out of the definition of income
which specifies that income should be subject to taxation in the year in
which it is realized. to
Interest expense payments are generally viewed in the United States
as ordinary business expenses and are therefore deductible from taxable
income. " However, the other form of capital contribution-stock
equity-incurs tax liability. A dollar of new debt reduces overall tax liability,
but a dollar of new equity does not.
European governments uniformly employ a system of value-added
taxation of corporate revenue.'" Under this system of taxation, taxable value
equals revenue minus cost of goods. Therefore interest, as well as
dividends and wages, is subject to this form of corporate income tax.
During the early years of plant operations, there may be no reduction
in debt principal. Debt-related payments may be entirely for interest
expense. As a consequence, tax deductions for actual interest expense
are usually concentrated in the first half of a new plant's operating life.
Investment tax credit
The investment tax credit is a direct reduction in tax liability. At the
maximum rate, it is equal to 11.5% of qualified investment. 3 Qualified
investments essentially consist of construction costs, excluding land and
structures. AFUDC is not included. Thus, approximately 95% of direct
construction costs amount to qualified investment. The maximum
effective rate, then, is about 10.9% of actual construction cost.' 4
The corporation may take this credit when the plant is placed in service,
or as progress expenditures are made on the construction of the plant.'
The date in Table 1 illustrates the differences in the flow of credit benefits
resulting from the decision to take the credit as progress expenditures are
made rather than when the plant is placed in service. If the corporation
takes the credit when the plant is placed in service, then $376 million is
available in 1990. (The $376 million is simply 10.9% of $3.4479 billion,
the cumulative construction expenditures by 1990.) If, on the other hand,
the corporation takes the credit as construction expenditures are made,
$0.6 million credit is available in 1980, $9.2 in 1981, $33.8 million in
1985, and 10.9% of actual construction expenditures for each of the other
years listed. The sum is of course the same: $376 million. Most utilities,
however, will claim the credit in the earliest possible year in which they
12. see: U.S. GEN. ACCOUNTING OFF., THE VALUE-ADDED TAX IN THE EUROPEAN
ECONOMIC COMMUNITY, ID-81-2 (Dec. 5, 1980).
13. I.R.C. § 46(a)(2) (West Supp. 1981) defines the maximum credit as the sum of the regular
percentage, the energy percentage, and the employee plan percentage. The regular percentage is 10
percent. The energy percentage has been between 10 and 15 percent, but applied only to renewable
energy sources, thus not applicable to coal and nuclear power. The maximum employee plan
percentage is 1.5 percent. The first 1 percent requires that the amount be contributed to an employee
stock ownership plan, and utilization of the remaining 0.5 percent requires this amount and a matching
company contribution be made to the plan.
14. The .109 maximum effective rate is the product of the maximum rate (. 115) and the proportion
of qualifying investment (.95).
15. I.R.C. §46(c)-(d) (West Supp. 1981). Also, excess credit may be carried back three years
or carried forward seven years. § 46(b) (West Supp. 1981).
In this example, current AFUDC is the result of applying the AFUDC rate to the sum of cumulative
construction expenditures at the beginning of the year, cumulative AFUDC at the beginning of
the year, and one-half of the new construction expenditures taking place in the year. The beginning
of year value for, say, 1984 is equal to the end of year value of 1983. Current AFUDC for 1984:
$7.2 = 8.6% ($52.9 + $7.4 + $46.7/2). Accumulated rate base ($4,345.2) is the sum of total
actual construction expenditures and total allowed AFUDC. Source for this illustration is the case
described in Table 2 and later in the text.
have a positive tax liability to which a credit can be applied. This strategy
provides increased available funds by reducing taxes during the
construction period when the need for increased funds is greatest.
For net income determination as well as for rate making, depreciation
expense is defined by the normal straight line basis. The straight line
basis method involves simply assuming that depreciation expense is spread
equally over each year of the plant's life; for a plant with an expected
30-year operating life, annual depreciation expense is equal to 3.33% of
Accelerated depreciation literally speeds up depreciation for tax
purposes. By placing larger deductions in earlier years, accelerated
depreciation shelters significant income in those years from tax liability. The
double declining balance method most effectively maximizes tax
reduction. Under this system, the normal depreciation rate is doubled from
3.33% to 6.67%. This percentage is applied to the undepreciated basis
at the beginning of each year, and yields the amount of current
depreciation for tax purposes. 6
16. I.R.C. § 167(b) (West 1978) and Treas. Reg. § 1.167(a)-I I(c)(1) (1980).
ADR tax lives
The Asset Depreciation Range (ADR) system assigns tax lives to each
class of productive assets. The ADR system allows the nuclear power
industry to base depreciation of plant upon a 16-year tax life rather than
the 30-year expected life. Consequently, the double declining balance
method, applied to a 16-year tax life, yields a 12.5% depreciation expense
rate. After eight of the 16 years have passed, the utility may switch to
normal straight line depreciation for the remaining eight years. This
strategy ensures total depreciation in 16 years.
Arbitrarily short federal tax lives apply similarly to other utility
property. The IRS allows tax lives of 22.5 years for fossil fuel generating
systems and 24 years for transmission and distribution equipment. 7
For a $3.45 billion nuclear plant, the federal depreciation deduction
can amount to $431 million in the first year (i.e., 12.5% of $3.45 billion.)
The comparable normal plant depreciation for rate base investment is a
constant $115 million (i.e., one-thirtieth of $3.45 billion.) The plant is
fully depreciated for federal tax purposes in 16 years, and no further
depreciation expense deductions can be applied to taxable income for the
federal corporate income tax.
The five provisions described above are those with major impact on
after-tax cost, and those five provisions are examined herein. Other
provisions of the Internal Revenue Code also may pertain to this analysis.
These other provisions, which include the repair allowance deduction,
tax-exempt dividends, capitalized expenses, and investment tax credit
contributions to employee stock ownership plans do not affect after-tax
cost as significantly as the five provisions already described.
In general, those states with corporate income tax codes have followed
the federal code. There are four kinds of differences between state and
federal provisions. First, state rates are significantly lower than the 46%
federal rate. For example, the rate is 9.6% in California 8 and 10.5% in
Pennsylvania.' 9 Second, state codes may not provide investment tax credit.
Third, state tax expenses are deductible from federal taxable income, but
federal taxes are not conversely deductible from income taxed by the
state. Finally, minor deviations from the federal code exist in some state
17. The ADR class life system is authorized in I.R.C. § 167(m), (West 1978), and implemented
in INTERNAL REVENUE SERVICE, U.S. DEP'T OF THE TREASURY, DEPRECIATION 36,
Pub. 534 (Nov. 1980). An illustration of the use of minimum tax life and double declining balance
depreciation is given in Treas. Reg. § I. 167(a)-I I(b)(
)(iv) (1980). The switch-over is discussed in
Reg. § 1.167(e)-I(b) (1980).
18. CALIFORNIA FRANCHISE TAX BOARD, CORPORATE TAX FORMS AND
INSTRUCTIONS 2 (1980).
19. PENNSYLVANIA DEPARTMENT OF REVENUE, CORPORATE TAX REPORT
INSTRUCTIONS 6 (1979).
codes. For example, California requires the use of median ADR tax lives
in calculating the California tax, 20 and neither Pennsylvania nor California
permit carry-forwards and carry-backs of tax losses. 21
Not all states impose their corporate income tax on utilities. New York
utilities, for example, are exempt from state corporate income tax, but
they are subject to a sizable gross receipts tax.
The investment incentives are essentially a reduction in tax liability
granted as a reward for increased investment. A recent summary of utility
tax benefits stated that ". . . the tax benefits are to be treated as investment
capital that is supplied, in effect, by the federal government to the utility
through the tax system. "22
The approach used here involves simulating the major economic
accounts and variables over the full planning horizons for representative
coal and nuclear power plants. For a nuclear plant, the planning horizon
is 47 years, consisting of a 10-year construction period, 30 years of
operation, and 7 years of decommissioning.23 For the coal plant, the
41year period consists of a 6-year construction period and 35 years of
The nuclear facility model utilizes 165 variables, 100 of which change
over time. This model and its assumptions are described in detail
elsewhere.2 4 The coal model has been adapted from the nuclear model by
Kathleen Cole in her study of residential and utility energy costs and tax
Although federal corporate income tax treatment is constant throughout
the country, the manner in which state regulatory commissions treat
federal and state tax benefits varies considerably. The two basic approaches
are "flow-through" and "normalizaton" accounting. The flow-through
approach involves immediately capturing tax benefits for utility customers
in the form of lower rates. Under normalization, the tax benefits are in
the first instance fully captured by the company. Then, through reduction
in rate base values, the tax benefits are amortized and deducted from
revenues over the expected operating lives of the facilities which caused
the tax benefits to be created.
Kiefer found that qualifications placed upon use of "flow-through" tax
benefits caused, in the 1975-1981 period, a reduction in the number of
states which allow the flow-through of these benefits for both depreciation
and the investment tax credit. These restrictions preclude the utility from
using maximum tax depreciation and maximum investment tax credit if
the utility's regulatory commission requires flowing-through these
Theoretically, flow-through and normalization accounting can be
defined as producing identical annual equivalent tax benefits for customers. 27
It should not be supposed that, if other factors remained constant,
customers would always be better off with flow-through regulation. However,
many utilities and regulatory commissions have preferred normalization
because, in the short run, it provides greater internal cash flow to finance
The basic concepts can be expressed in these equations, which are
adapted from Kiefer:28
(1) R, = r(RB, - DTA, - ADITC,) + Ds + C, + T, + z(D[
DZ) + RITC,
(2) Y, = R,- Dl - C, - INT,
(3) T, = zY, - ITC,
All annual dollar amounts have "t" subscripts and are represented by
capital letters. Lower case letters signify rates. R = annual revenue
allowed by a state regulatory commission, r = the allowed rate of return,
RB = the rate base, DTA = the deferred tax account, ADITC =
accumulated deferred investment tax credit, Ds = normal straight line
depreciation, T = actual current corporate income tax expense, z = the
tax rate, Da = accelerated depreciation for tax purposes, RITC =
investment tax credit value considered by the state commission for revenue
determination, Y = taxable income, C = annual fuel and operating cost,
INT = interest expense, and ITC = actual investment tax credit.
Prior to the enactment of the Internal Revenue Code of 1954, most
corporations apparently used straight line depreciation over expected
operating lives for tax purposes as well as for net income determination. 2 9
The 1954 Code made accelerated depreciation generally available.30 Later
amendments introduced and then expanded the investment tax credit and
the incentive arising from ADR-shortened tax lives. There have also been
several amendments intended to discourage flow-through regulatory
treatment and encourage normalization. 3 ' Equations (1), (2), (3) can be used
to represent (a) pre-1954 practices, (b) flow-through regulation, and (c)
Under normalization, the deferred tax account for accelerated
depreciation shows the cumulative tax benefit from utilizing accelerated rather
than straight line depreciation. It is:
) DTA, = z I
(da - d,)K,
where d4 is the percentage accelerated depreciation in year j and d is the
percentage straight line depreciation in year j. K represents the original
depreciable basis which may approximate construction cost. Original rate
base equals the sum of AFUDC and construction cost. Original rate base
equals the sum of AFUDC and construction cost (i.e. RBo = K +
AFUDC). Accelerated depreciation will yield the greatest deductions in
early years if the double declining balance method is applied to the
minimum ADR tax life, and a switchover is made to straight line
depreciation for the last half of the tax life.
In this exposition, I shall assume that the regulatory commission views
the investment tax credit as credit available in the first year of operation.32
The investment tax credit is then amortized on a straight line basis over
n years, the expected operating life of the facility:
) ADITC, = RITC, (n + 1 - t)/n.
Equations (1) through (
) can be solved to express normalized revenue
as a function of the non-tax terms:
) R, =
[RB, - DTA, - ADITC,] + D, + C, - -NTt
In the flow-through approach, the SRC (state regulatory commission)
captures tax benefits for customers as those benefits become available.
In this case, RITC equals zero. Now, under flow-through treatment, ITC
is deducted from taxes and (because RITC is now zero) is subtracted
from the revenue requirement.
31. An excellent summary of this legislation as applicable to utilities is in KIEFER.
32. However, in the simulation discussed in the next section, the model claims investment tax
credits as payments are made for construction. Although it complicates the development in the text
above, it will in general be the preferred timing because credits become available earlier.
Also, flow-through accounting requires that DTA, = 0 and ADITC,
= 0. Also, because DTA is not calculated, (Da - Ds) is removed from
equation (1). Thus, the basic equation for flow-through accounting is
) R, = rRB, + D + C, + T,.
This equation can be solved for the non-tax terms as
) R, = C, + (rRB, + D, - zD, - zINT, - ITC,) / (I - z).
Finally, the basic revenue equation for the pre-1954 period without
present tax benefits is identical to equation (
) R, = rRB, + D, + C, + T,.
), representing the no tax benefit case, results again from
setting DTA, = ADITC, = RITC, = 0 and Da - D, in equation (1). In
equations (2) and (3), there is no accelerated depreciation or investment
tax credit, so Dt = D1 and ITC, = 0.
The derived revenue equation for the pre-1954 period is uniquely
) R, = D, + C, (rRB, - zINT,) /(1 - z).
) and (
) are the methodological basis for the
investigation of relative coal and nuclear power costs.
The use of flow-through or normalization regulations in the forms
shown here by any individual state appears unlikely. In particular, the
restrictions placed upon flow-through of incremental tax benefits means
that a SRC will commonly modify either approach.
Pennsylvania data may be used for an interesting initial application of
these methods to coal and nuclear power cost. I assumed that the
investment tax credit is normalized, but at 10% rather than 11.5%. The
upper 1.5% is assumed to be allocated to utility employee participants
in a stock ownership plan. I assume also that the tax benefits which arise
from accelerated depreciation are flowed through to customers, but that
the incremental tax benefits arising from the use of ADR-shortened tax
lives are normalized. In general terms, I assume that the accelerated
depreciation tax benefits in the 1954 Code are flowed through. The 1971
amendments which formalized the short ADR tax lives, however, required
these benefits to be normalized.
Pennsylvania applies a 10.5% corporate net income tax. Hence, the
effective tax rate is z = .105 + .46(1 - .105), or .5167. (Recall that
the state tax is deductible from the federal tax.)
Major cost assumptions for the hypothetical coal and nuclear facilities
are shown in Table 2. The capital cost data are actual reported costs as
Economic Assumptions in Coal and
Nuclear Power Cost Analysis
1. Capital structure for new plants
50% debt at 12% interest
35% common stock equity at 14% after-tax return
15% preferred stock equity at 12% after-tax return
8.6% AFUDC rate
2. Construction period
Nuclear power: 10 years
Coal power: 6 years
3. Capacity, electrical
Nuclear plant: 1,000 MWe
Coal plant: 850 MWe
4. Capacity factor
Nuclear plant: rises, stabilizes, and declines; average is 60%
Coal plant: 65%
5. Operating life
Nuclear plant: 30 years, 1990-2019
Coal plant: 35 years, 1987-2021
6. Fuel cost
Nuclear plant: about .8 C/kWh in 1980 dollars
Coal plant: $1.266/mBtu in 1980 and 10,600 Btu/kWh
7. Operations, maintenance, insurance and administration cost
Nuclear plant: operations and maintenance: $26.7 million in 1990
administration and insurance: 1.5% of initial rate base
Coal plant: 7.6 mills/kWh in 1980 dollars
8. Capital cost
Nuclear plant: $1150/kW in 1978 dollars
Coal plant: $ 670/kW in 1978 dollars
10. State and Federal income taxation
Federal corporate income tax rate: 46%
Pennsylvania corporate income tax rate: 10.5%
Note: The Federal rate is actually 46% on taxable income above $100,000 and rises to this
rate in 5 steps.
Source: see Text
experienced by New York utilities in reports by them.33 Other data in
Table 2 reflect actual experience (capital structure, coal cost, income tax
rate) or commonly used planning assumptions (construction period,
capacity, capacity utilization factors, operating cost, nuclear fuel cost).34
The nuclear fuel cycle estimate is based upon separate quantity, cost,
and inflation assumptions for each of six stages of the cycle. Each year's
cost is amortized on a production basis for a fuel core with a three-year,
three-batch loading scheme."
IV. TAX SUBSIDIES: COAL AND NUCLEAR POWER COST
My use of accounting terminology is intended to be identical to that
used by the utility companies, the state regulatory commissions, and the
Internal Revenue Service. The concept of "profit" as used here represents
a significant deviation from the usual terminology. I use the word to mean
corporate net income before income tax expense, minus current income
tax expense. In other words, profit is defined as net income after actual
current tax expense.
Timing and magnitude of tax effects
Figures 1 and 2 represent the timing of tax liability and after-tax profit
for hypothetical Pennsylvania coal and nuclear plants. The plants' actual
tax effect is negative in the construction period. Building the plant causes
a major reduction in the utility's current tax liability on income from
At the same time, after-tax profit is high and positive during the
construction period. These effects result from the considerable excess of
AFUDC income and captured tax benefits over interest payments on debt
for each plant.
When profit is accumulated at the stockholder rate of return, the plants
earn a significant total profit during the construction period. Profit
becomes low in the last half of each plant's operating life, while actual
income tax expense reaches its highest levels in this period. The timing
of anticipated profit and tax expenses thus seems to create an artificial
incentive for the premature retirement of an existing plant. Similarly, the
0 0 fn
high profit level and negative tax effect which characterize the
construction period create an incentive for premature construction.
The interaction of the tax system with regulatory revenue policy has
two effects. Plants may be built before needed and retired while still
The overall tax impact of a new plant is very low. The annual tax
payments in Figures 1 and 2 can be expressed as a levelized or annual
equivalent cost. A levelized amount is an amortized present value. It is:
) L =
s(l + s) m
(1 + s)m
(1 + S)'
where s is the stockholder rate of return, m is the length of the planning
period, and T, is actual current tax expense.
The levelized annual tax impact equals $5 million over the full
47year period 1980-2026 for the nuclear plant, and is $6 million for the
coal plant. In other states where a greater proportion of tax benefits may
be captured for customers, the annual levelized tax can be negative.3 6
The after-tax cost as estimated by the levelized cost is 22.0 e/kWh for
nuclear power and 16.8 e/kWh for coal generation, both values being
annual levelized amounts over the respective operating periods.
The approximate magnitude of tax subsidies can be determined by
estimating the annual equivalent cost of electricity generation with the
removal of present deductions and credits. Equation (
) provides the
basis for this calculation. The investment tax credit is eliminated, and
tax depreciation conforms to the straight line depreciation used by the
company and the SRC. Interest deductions are eliminated. AFUDC
continues to be excluded from the determination of taxable income. The SRC
tax allowance is defined to be exactly equal to the sum of actual federal
and Pennsylvania corporate income tax payments. The levelized annual
equivalent cost of power then becomes 32.1 e/kWh for the nuclear plant
over the 1990-2019 period. The tax subsidy of 10.1 e/kWh is 46% of
the cost paid by the utility for nuclear power. The unsubsidized coal
generation cost is 19.8 e/kWh, implying that there is a subsidy equal to
18% of the cost paid by the utility.
Coal and nuclear costs
Table 3 indicates how relative coal and nuclear power costs are affected
by the corporate income tax system. In each state, coal cost without
subsidies (row 3b) was less than nuclear cost without subsidies (row 2b).
The relationship between coal and nuclear costs without subsidies remains
36. Id. at 42.
Coal and Nuclear Power Cost
*New York has a gross receipts tax on electric utilities.
Sources: Chapman 1980 supra note 34; Chapman, Cole, and Slott, Energy Production and Residential
Heating: Taxation, Subsidies, and Comparative Costs (March 1980) (prepared for the U.S.
Environmental Protection Agency, Ohio River Basin Energy Study); and this analysis.
constant regardless of the definition of cost or the financial assumptions
In one state, New York, the tax subsidy received by nuclear power
suffices to make nuclear power appear less costly to the utility than coal
power (compare 2a with 3a). If there were no such subsidies, coal
generation would be less costly.
An examination of the data from Pennsylvania, shown in Table 4,
reveals a similar bias and illustrates the interaction of planning
assumptions and tax subsidies. A recent analysis by Gibbs and Hill Engineers,
and their assumption that the capital cost of nuclear power would be $966/
kWh in 1980 dollars,37 warrants examination. Using the simulation
analysis, nuclear power appears less costly in Table 4. With present tax
provisions, the cost of nuclear power appears to be 16.1 C/kWh in row
2. This cost is less than the coal cost of 16.8 C/kWh in row 1. Nuclear
power now appears to be less costly.
When the tax subsidies are eliminated, however, nuclear power is more
costly: 22.5 C/kWh compared to 19.8 C/kWh for coal generation. Row
3, shown for comparison, repeats the Pennsylvania nuclear case from
Table 3-it has the higher actual experienced nuclear cost.
37. Gibbs and Hill, Inc., Economic Comparison of Coal and Nuclear Electric Power Generation
(Jan., 1980) (prepared for Atomic Industrial Forum, Inc., Public Affairs and Information Program).
Interaction of Planning Assumptions and Tax Subsidies in Pennsylvania
Note: Experienced cost means that data are actual reported construction costs for two nearly
completed nuclear plants and an under-construction coal plant, all in New York.38 Planning cost
for the nuclear estimate is from Gibbs and Hill, and is $851/kW in 1979 dollars, inflated to
$966/kW in 1980 dollars.39 Generating cost is an annual levelized value calculated over the
operating period in the simulation program. Real inflation in coal cost is 1.75% annually, and
real inflation in nuclear investment is 4.1%; both interact with the overall 9% inflation.
Pennsylvania financial and cost parameters are assumed.
The data discussed thus far leads to this conclusion: No utility at this
time would prefer nuclear power to coal on an economic basis if present
corporate income tax subsidies were eliminated.
This paper has focused primarily on the question of tax subsidies and
their effect upon relative coal and nuclear power costs. Other research,
however, indicates that active solar heating receives direct tax subsidies
comparable to those accruing to nuclear power. A home heating system
using active solar heating and electric heat from nuclear power thus
appears to receive larger tax subsidies than any other heating system.40
Operating experience to date has shown that nuclear power is less
costly than coal generation on an after-tax basis for those utilities with
successfully operating nuclear facilities. 41 Utility planners currently
believe that, on an after-tax basis, nuclear power continues to enjoy a
competitive advantage over coal plants. 42
Investigation of investment-related credits, deductions, and exclusions
in the Internal Revenue Code shows that nuclear power has enjoyed a
tax subsidy in excess of that available to coal facilities. This disparity
results from the greater capital intensity of nuclear power.
Based on economic criteria, I conclude that, in the absence of tax
subsidies accruing to nuclear power, no utility would prefer nuclear power
to coal generation. In New York and Pennsylvania, coal power is less
costly without tax subsidies, and nuclear power can be less costly with
Congress generally views these tax subsidies as "investment capital
supplied, in effect, by the federal government to the utility through the
tax system." There is no reason to suppose that economic efficiency
requires these subsidies to promote nuclear power to a greater extent than
coal generation or other forms of energy production or conservation.
The analysis provided here describes the influence of the corporate
income tax system as it generally existed in the period 1975-1981. The
year 1981 may witness the first major revision in investment tax incentives
since 1975. Attention has focused on a further reduction in tax lives.43 It
is expected that changes under consideration would increase the
magnitude of tax benefits accruing to coal and nuclear power generation, and
leave undisturbed the differential advantage held by nuclear power.
4. ANNUAL REPORTS : NEW YORK STATE ELECTRIC AND GAS CORPORATION ( 1974 - 80), NIAGARA MOHAWK POWER CORPORATION ( 1974 -80), PACIFIC GAS AND ELECTRIC COMPANY (1975-79) , ROCHESTER GAS AND ELECTRIC CORPORATION ( 1974 -80), SAN DIEGO GAS AND ELECTRIC COMPANY ( 1975 -79), and SOUTHERN CALIFORNIA EDISON COMPANY ( 1975 - 79 ). 1 have interpreted current tax payment to be synonymous with current tax expense. If current credits have not been reflected in the current tax expense reports, then actual positive current tax payments would be less as well as less common than is assumed here .
5. ANNUAL REPORTS : NEW YORK STATE ELECTRIC AND GAS CORPORATION ( 1974 - 80), NIAGARA MOHAWK POWER CORPORATION ( 1974 -80), and ROCHESTER GAS AND ELECTRIC CORPORATION ( 1974 - 80 ).
6. ANNUAL REPORTS : PACIFIC GAS AND ELECTRIC COMPANY ( 1975 -79), SAN DIEGO GAS AND ELECTRIC COMPANY ( 1975 -79), and SOUTHERN CALIFORNIA EDISON COMPANY ( 1975 - 79 ).
7. Appropriate reference to the Internal Revenue Code and Regulations is given in subsequent discussion .
8. Rate base is the value established by a regulatory commission upon which a utility is allowed to earn an approved rate of return. It is generally the original cost of investment in facilities, plus AFUDC, less accumulated depreciation. It may be increased by inflation adjustment factors, and reduced by deferred taxes and investment tax credit accounts. See: EDISON ELECTRIC INSTITUTE , ELECTRIC UTILITY TERMS 67 ( 1979 ). See also: C. PHILLIPS, THE ECONOMICS OF REGULATION, Chs. 5 and 8 (1969) and A. KAHN, THE ECONOMICS OF REGULATION, Chs. 2 and 4 ( 1970 ).
9. The illustrative data here is taken from the case described in Table 2 and later sections .
10. Treas . Reg. § 1 . 61 - 1 ( 1980 ). See: Bunch, The Tax Effects ofAFUDC: Financial Accounting Aspects , 106 :4 PUB. UTIL. FORT. 26 - 32 (Aug. 14, 1980 ). The example in Table I and in the text has been simplified in that no tax allowance for rate making has been considered as applicable to AFUDC .
11. I.R.C. § 163(a) (West 1978) and Treas . Reg. § 1 . 163 - 1 ( a ) ( 1980 ).
20. CALIFORNIA FRANCHISE TAX BOARD , supra note 18, at 3.
21. CALIFORNIA FRANCHISE TAX BOARD , supra note 18, at 7; PENNSYLVANIA DEPARTMENT OF REVENUE, supra note 19, at 9.
22. HOUSE COMMITTEE ON WAYS AND MEANS, TREATMENT OF PUBLIC UTILITY PROPERTY UNDER THE INTERNAL REVENUE CODE (report to accompany H .R. 6806 , 96th Cong., 2d Sess . ( 1980 )).
23. D. Chapman , Nuclear Economics: Taxation, Fuel Cost , and Decommissioning (Nov., 1980 ) (report of the California Energy Commission) .
24. Id .
25. K. Cole , Tax Subsidies and Comparative Costs for Utilities and Residential Heating in New York (Jan ., 1981 ) (unpublished M.S. thesis , Comell University, Ithaca, New York).
26. D. KIEFER , ACCELERATED DEPRECIATION AND THE INVESTMENT TAX CREDIT IN THE PUBLIC UTILITY INDUSTRY 43-45 (Occ . Paper No. 1, report of the National Regulatory Research Institute , Ohio State University, Apr., 1979 ). The restrictions are defined in I .R.C. § 167 ( 1 ) ( West 1978 ) and §46(f) (West Supp . 1981 ), and in Treas. Reg. § 1. 167(a)-I I(b)(6) (1980) and Treas . Reg. § 9 . 1(a)(2) ( 1981 ).
27. This requires the normalization approach to include an interest charge for the tax benefits which the utility "borrows."
28. KIEFER, supra note 26, at 47.
29. Id ., at 16.
33. NEW YORK POWER POOL, LONG RANGE PLAN 1980 , VOL. I (Apr . 1980 ).
34. D. CHAPMAN , THE ECONOMIC STATUS OF NUCLEAR POWER IN NEW YORK (Feb. 28 , 1980 ) (presented as testimony before the New York State Assembly, Special Committee on Nuclear Power Safety, Hearing: The Economics of Agricultural Power; also printed as Staff Paper No. 80-7 , Department of Agricultural Economics, Cornell University, Ithaca, New York). Also Chapman, Nuclear Economics, supra note 23.
35. See: Chapman, Nuclear Economics, supra note 23 , at 17-23.
38. NEW YORK POWER POOL, supra note 33.
39. Gibbs and Hill, supra note 37.
40. Cole , supra note 25, at 148.
41. L. Reichle, Executive Vice-President of EBASCO Services, Inc., The Economics of Nuclear Versus Coal (Oct. 30 , 1979 ) (presented before the Richmond Society of Financial Analysts , Richmond, Virginia).
42. Not only Reichle holds this view, but similar conclusions are presented by Brandfon, Comparative Costs of Coal and Nuclear Electricity Generation ( 1980 ) (testimony before House Committee on Interior and Insular Affairs, Subcommittee on Energy and the Environment, Hearingson Nuclear Economics , PartVII, 96th Cong., 2d Sess.); and by Rossin & Rieck, Economics of Nuclear Power, 201 SCIENCE 582- 589 ( 1978 ).