Are the proceeds a utility receives from a PSC-mandated auction of its generating facilities gross earnings under section 186, and how are they treated for section 186-a gross income?

Plain-English summary

Niagara Mohawk Power was required by the PSC's PowerChoice restructuring order to divest its fossil and hydro-electric generating facilities by auction. It asked whether the auction proceeds are gross earnings (section 186) and how they figure into gross income (section 186-a).

Following Con Ed, Central Hudson, and LILCO, the Department held:

• Section 186 gross earnings -- no. "Gross earnings" means receipts from the employment of capital. Being forced by the PSC to restructure and auction its assets is not the employment of capital, so the auction proceeds are not gross earnings and not taxable under section 186. (Because there are no gross earnings, the related "excess over cost" question is moot.)
• Section 186-a gross income -- yes, to the extent of profit. A PSC-supervised utility's gross income includes profits from the sale of property. So the utility has section 186-a gross income equal to the consideration received over the original cost of the facilities, without deducting depreciation, but it may deduct the expenses of sale.
• Aggregate, not facility-by-facility. It is appropriate to treat the divestiture as one transaction: the profit is computed on the aggregate of the facilities sold during the year, not plant by plant. A loss may not be deducted from the utility's other gross income.

What this means for you

Forced divestiture is not employing capital

A PSC-mandated asset auction is a restructuring the utility is compelled to undertake, so the proceeds are not section 186 gross earnings.

Section 186-a taxes the gain, on a no-depreciation cost basis

The gross income is the profit measured against original cost (depreciation is not subtracted), and selling expenses reduce it.

Aggregate the year's sales

Compute the profit on all the facilities sold during the year together, not separately; losses cannot shelter other gross income.

Common questions

Q: Are the mandated auction proceeds gross earnings under section 186?
A: No. The forced divestiture is not the employment of capital, so the proceeds are not gross earnings.

Q: How much is section 186-a gross income?
A: The profit -- consideration over original cost without deducting depreciation -- less expenses of sale.

Q: Are the facilities valued separately or together?
A: Together. The year's divestiture is treated as one aggregate transaction, and a loss cannot offset other gross income.

Citations and references

Statutes, regulations, and authorities:
- Tax Law section 186 (franchise tax; gross earnings)
- Tax Law section 186-a (gross income tax on utilities; profits from sale of property)
- Matter of Consolidated Edison Co. of NY v State Tax Commission, 24 NY2d 114
- Long Island Lighting Company, TSB-A-95(9)C (May 19, 1995)
- Central Hudson Gas & Electric Corporation, TSB-A-98(12)C (July 29, 1998)
- Niagara Mohawk Power Corporation, TSB-A-99(9)C (Jan. 27, 1999)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/corporation_ao_1999.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/corporation/a99_9c.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-99(9)C
Corporation Tax
January 27, 1999

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. C980818A

On August 18, 1998, a Petition for Advisory Opinion was received from Niagara Mohawk
Power Corporation, 300 Erie Boulevard West, Syracuse, New York 13202.
The issues raised by Petitioner, Niagara Mohawk Power Corporation, are:
1. Whether the amounts realized by Petitioner upon the divestiture of its fossil and
hydro-electric generating facilities via auction, constitute "gross earnings" for
purposes of section 186 of the Tax Law, that are subject to the franchise tax imposed
under section 186 of the Tax Law.
2. If the proceeds from such sales are found to constitute "gross earnings" for
purposes of section 186 of the Tax Law, whether only the amount of the auction
proceeds received in excess of the original cost basis of the facilities is considered
"gross earnings" within the meaning of section 186 of the Tax Law.
3. Whether the amounts realized by Petitioner upon the divestiture via auction, of its
fossil and hydro-electric generating facilities constitute "gross income" for purposes
of section 186-a of the Tax Law, that are subject to the gross receipts tax imposed
under section 186-a of the Tax Law.
4. If the proceeds from such sales are found to constitute "gross income" for purposes
of section 186-a of the Tax Law, whether only the amount of the auction proceeds
received in excess of the original cost basis of the facilities, less expenses of sale, are
considered "gross income" within the meaning of section 186-a of the Tax Law.
Petitioner submits the following facts as the basis for this Advisory Opinion.
Petitioner is an investor-owned public utility company incorporated in New York and it is
primarily engaged in the generation, transmission, distribution and sale of electricity and the
distribution of natural gas in New York. It has two sources from which to satisfy the demands for
electricity by its customers: it either produces the electricity itself, in its nuclear, hydro or fossil-fuel
plants, or it purchases electricity for resale from other power producers.
Petitioner is one of several utilities in New York State that are restructuring their corporate
organizations and possibly selling off some of their business enterprises to unrelated third parties

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in order to make their businesses more competitive and to bring down electric rates paid by
customers.
Petitioner's proposed restructuring, described below, is in response to the Competitive
Opportunities Proceeding instituted in 1994 by the New York Public Service Commission ("PSC")
in Case No. 94-E-0952 ("Competitive Opportunities Proceeding"), which endorsed a fundamental
restructuring of the electric utility industry in New York State based on competition in the generation
and energy services sectors of that industry. The PSC enunciated its policy objectives in an order
(Opinion No. 96-12), issued May 20, 1996 ("Generic Order"). The PSC's Generic Order, among
other things, required all the electric utilities subject to the Competitive Opportunities Proceeding
to file a restructuring plan by October 1, 1996, which plan was required to address, among other
things, the structure of the utility, both in the short and long term, a schedule for the introduction of
retail access and a rate plan to be effective for a significant portion of the transition to retail access.
On February 24, 1998, the PSC approved a rates and restructuring plan ("PowerChoice") for
Petitioner aimed at reducing electricity rates for many of Petitioner's current customers and allowing
the customers to choose their energy supplier.
Subsequently, on March 20, 1998, the PSC issued, to Petitioner, Opinion 98-8 (Case 94-E­
0098 and Case 94-E-0099)(the "Order") which, inter alia, approved PowerChoice. The key elements
of the Order include:
(i) approval of Petitioner's Master Restructuring Agreement ("MRA")
(discussed infra),
(ii) a revenue reduction of $111.8 million (exclusive of reductions in the New
York State Gross Receipts Tax) for all customer classes to be phased in over a three­
year period beginning upon the consummation of the MRA,
(iii) a cap on prices to electric customers in years four and five of the five­
year rate plan,
(iv) an allowance for Petitioner to recover stranded costs (including the costs
associated with the MRA),
(v) permission by the PSC to establish a regulatory asset, reflecting the
recoverable costs of the MRA which will be amortized over a maximum of ten years
("MRA Regulatory Asset") (discussed infra),
(vi) an agreement by Petitioner to divest its fossil and hydro-electric
generating facilities within a defined time period and retain its nuclear generating
facilities with a commitment to explore their divestiture at a later date,

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(vii) an agreement by Petitioner to provide its retail electric customers with
the option to choose their supplier of electricity by no later than December 1999, and
(viii) an agreement to allow Petitioner to form a holding company structure
to separate its utility businesses from its unregulated businesses.
As previously stated, the PSC approved the MRA which allowed Petitioner to terminate,
restructure or amend 27 of its power purchase agreements ("PPAs") with 14 independent power
producers ("IPPs"). Seventeen PPAs were terminated.1 All of the IPPs which had their PPAs with
Petitioner terminated, restated, or amended, qualify as QFs. In exchange for terminating,
restructuring or amending the PPAs, on June 30, 1998, the IPPs received from Petitioner
approximately $3.9 billion in cash, 42.9 million shares of Petitioner's common stock (representing
approximately 23 percent of Petitioner's outstanding shares following issuance), and financial
instruments structured as indexed swap contracts. Petitioner will be permitted to recover its MRA
related costs for book purposes over a ten-year period by establishing the MRA Regulatory Asset
which will be amortized ratably.2 Petitioner's rates as contemplated under PowerChoice are designed
to permit recovery of the MRA Regulatory Asset over this ten-year period.
The provision in the Order requiring Petitioner to divest all of its fossil and hydro-electric
generating facilities (the "Facilities") contemplates that the divestiture will occur within a defined
1

As part of the Public Utility Regulatory Policies Act of 1978, Pub. L. 95-617, 92 Stat,
3117 ("PURPA"), Petitioner was required to offer to purchase electricity from qualifying small
power producers and qualifying cogenerators (collectively "QFs"). Pursuant to PURPA, the
Federal Energy Regulatory Commission ("FERC") promulgated regulations which mandated that
a utility purchase electricity from a QF at a rate up to the utility's full forecasted avoided cost.
Avoided cost is the additional cost that the utility would have incurred had it instead generated
the purchased electricity itself or obtained it from another source. Specific implementation of the
QF rules under PURPA was delegated in New York to the PSC. In 1981, the PSC passed the
"Six-Cent Law" establishing six cents per kilowatt as the floor on avoided costs for projects less
than 80 megawatt in size. PURPA and the Six-Cent Law, in combination with other factors,
attracted large numbers of QFs to New York State. Since PURPA and the Six-Cent Law passed,
Petitioner has been required to purchase electricity from QFs in quantities in excess of its
demand and at prices in excess of that available to Petitioner by internal generation or for
purchase in the wholesale market. In order to mitigate the escalating costs of the PPAs,
Petitioner entered into negotiations with the QFs to terminate, amend or restate the PPAs. These
negotiations led to the MRA. On June 30, 1998, the MRA was consummated and Petitioner
terminated 17 of its PPA with QFs.
2

A regulatory asset is created by a regulatory directive to defer an otherwise current
expenditure until such time as the asset is to be charged off per the directive. Such charge off
generally coincides with the rate-recovery period allowed the PSC.

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time period via auction or, absent acceptable bids, via a spin-off or another form of legal separation,
and contemplates Petitioner's commitment to explore divestiture of its nuclear generating facilities
at a late date. Pursuant to the Order, Petitioner has commenced the process of divesting all of its
Facilities, via auction, to one or more potential purchasers. The Facilities represent 4,217 megawatts
of electricity capacity and have a book value of approximately $1.1 billion.
Petitioner states that it is presently and will continue to be subject to tax pursuant to sections
186 and 186-a of Article 9 of the Tax Law.
Discussion
Section 186 of the Tax Law imposes a franchise tax upon every corporation, joint-stock
company or association formed for or principally engaged in the business of supplying gas, when
delivered through mains or pipes, or electricity, "for the privilege of exercising its corporate
franchise or carrying on its business in such corporate or organized capacity in this state". The tax
is three-quarters of one percent on the taxpayer's gross earnings from all sources within New York
State, and four and one-half percent on the amount of dividends paid during each year ending on the
thirty-first day of December in excess of four percent on the actual amount of paid-in capital
employed in New York State by the taxpayer.
When section 186 of the Tax Law was enacted in 1896, it provided for a franchise tax
measured by "gross earnings from all sources within this state". In 1907, the Legislature amended
section 186 by providing a statutory definition of gross earnings. Gross earnings is defined as "all
receipts from the employment of capital without any deduction."
The definition of gross earnings was added to address a 1906 New York State Appellate
Division decision holding that in order to arrive at taxable "gross earnings", the cost of raw materials
used in producing the utility service was to be deducted from the company’s gross receipts. (See
People ex rel Brooklyn Union Gas Co. v Morgan, 114 App Div 266, affd 195 NY 616).
In 1969, the New York State Court of Appeals stated that "the 1907 amendment [of section
186] did not contemplate a substitution of 'capital' or 'gross receipts' for 'gross earnings' as the basis
for taxation. It merely sought to include that portion of capital which the Brooklyn Union Gas Co.
case [supra] required to be deducted from 'gross earnings' to arrive at the proper basis. This is only
that portion of 'gross earnings' which represents the 'employment of capital' to manufacture,
distribute and sell various public utility services." (Matter of Consolidated Edison Co. of NY v State
Tax Commission, 24 NY2d 114, 119). In the Con Ed case, the court determined that the proceeds
received by the company for property damage and insurance claims and from the sale of capital
assets no longer employed in its business, consisting of real property, scrap and used machinery, are
amounts realized from the destruction or confiscation of capital, not from the employment of capital.

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Section 186-a of the Tax Law imposes an excise tax on the furnishing of utility services that
is equal to three and one-quarter percent from October 1, 1998 through December 31, 1999 (three
and one-half percent prior to October 1, 1998 and two and one-half percent on and after January 1,
2000) of the gross income of a utility that is subject to the supervision of the PSC or the gross
operating income of every other utility doing business in New York State. For purposes of section
186-a, a "utility" includes a person subject to the supervision of the PSC and every person (whether
or not such person is subject to such supervision) who sells or furnishes gas or electricity, by means
of mains, pipes, or wires; regardless of whether such activities are the main business of such person
or are only incidental thereto. The word "person" is defined in section 186-a.2(b) of the Tax Law
and includes corporations, companies, associations, joint-stock companies or associations,
partnerships and LLCs.
Gross income, as defined in section 186-a.2(c) of the Tax Law, consists of the following
elements:
1. receipts from any sale made or service rendered for ultimate consumption
or use by the purchaser in New York State;
2. profits from the sale of securities;
3. profits from the sale of real property;
4. profits from the sale of personal property (other than inventory);
5. receipts from interest, dividends, and royalties, derived from sources within
New York State; and
6. profits from any transaction (except sales for resale and rentals) within
New York State whatsoever.
Accordingly, under section 186-a of the Tax Law, a utility subject to the supervision of the
PSC includes in gross income the profits from the sale of real property and the profits from the sale
of personal property, other than inventory. For purposes of section 186-a, the basis for computing
the profit from the sale of real or personal property, other than inventory, is the original cost of the
property, without the deduction for depreciation attributable to such property. If the sale of the real
or personal property results in a loss, rather than a profit, such loss may not be deducted from the
taxpayer’s other gross income.
In Long Island Lighting Company, Adv Op Comm T&F, May 19, 1995,
TSB-A-95(9)C,("LILCO-I") it was determined that in the sale-leaseback transactions presented, the
profit, rather than the entire proceeds, on the sale of equipment (machinery and equipment used in
the production, transmission and distribution of electricity and natural gas, such as an undivided

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interest in one of LILCO's electricity generating plants, or certain diesel generators manufactured
by Colt Industries, together with associated spare parts, accessories and related equipment and
structures) was required to be included in gross income for purposes of section 186-a of the Tax
Law. When determining whether there was a profit or loss on the sale of the equipment, for
purposes of section 186-a, depreciation attributable to the equipment was not deducted from the
original cost. The profit was determined by subtracting from the receipts from the sale of the
equipment, the original cost of the equipment along with the expenses incurred in making the sale.
If the sale of such equipment resulted in a loss, the loss could not be deducted from LILCO's other
gross income.
Petitioner is one of several utilities in New York State being compelled by the PSC to
reorganize their corporate structure and possibly sell off some of their business to unrelated third
parties pursuant to the PSC's Competitive Opportunities Proceeding and the PSC's policy objectives
set forth in the Generic Order (Opinion No. 96-12). With respect to such mandated restructuring,
the Commissioner of Taxation and Finance has issued an advisory opinion to Central Hudson Gas
& Electric Corporation, Adv Op Comm T&F, July 29, 1998, TSB-A-98(12)C. (See also, Long
Island Lighting Company, Adv Op Comm T&F, February 27, 1998, TSB-A-98(3)C ("LILCO-II")
and New York State Electric & Gas Corporation, Adv Op Comm T&F, July 29, 1998, TSB-A­
98(11)C.) The Central Hudson advisory opinion reached several conclusions, including the
conclusion that the sale of electric generation assets pursuant to the auction process, implementing
the petitioner's restructuring agreement that was confirmed by a PSC order, does not represent the
employment of capital, and that the consideration received by the petitioner for the generation assets
does not constitute "gross earnings" taxable under section 186 of the Tax Law. For purposes of
section 186-a of the Tax Law, the petitioner would realize "gross income" to the extent that a profit
is generated from the sale of the generation assets at auction. Following LILCO-I, supra, the profit,
if any, would equal the amount that the consideration received by petitioner as a result of the auction
process exceeds the original cost of the generation assets, without deduction for depreciation.
Expenses of the sale are allowed to be deducted. It is appropriate in this situation to consider the
distribution of the assets as one transaction or sale. Accordingly, the profit would be determined
based on the sale of the aggregate of all the assets, not the sale of each asset separately. If the sale
of the generation assets results in a loss, rather than a profit, such loss may not be deducted from
petitioner's other gross income.
Conclusions
Issue 1. The sale of the Facilities pursuant to the auction process is part of a series of transactions
being entered into by Petitioner as mandated by the PSC pursuant to the Competitive Opportunities
Proceeding and the PSC's policy objectives set forth in its Generic Order (Opinion No. 96-12), and
implemented under the restructuring plan described in PowerChoice and approved in the Order (PSC
Opinion No. 98-8). Through this series of transactions, Petitioner is to divest itself of all of its fossil
and hydro-electric generating facilities (the "Facilities") via auction. Like Con Ed, supra, and
Central Hudson, supra, Petitioner does not employ its capital within the meaning of section 186 of

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the Tax Law for the purpose of being forced to restructure its organization and auction its assets.
Therefore, the amounts received by Petitioner for the Facilities as a result of the auction process are
not receipts from the employment of capital, and do not constitute "gross earnings". Accordingly,
the amounts received from such divestiture of the Facilities via auction pursuant to the Order are not
taxable under the gross earnings tax imposed by section 186 of the Tax Law.
Issue 2. Since the amount received from the auction of the Facilities does not create gross earnings,
this issue is moot.
Issue 3. For purposes of section 186-a of the Tax Law, following Central Hudson, supra, Petitioner
will realize "gross income" to the extent that a profit is generated from the divestiture of all of the
Facilities via auction as mandated by the Order.
Issue 4. For purposes of Issue 3, following LILCO-I, supra, and Central Hudson, supra, the profit
from the divestiture of the Facilities via auction that constitutes gross income under section 186-a
of the Tax Law would equal the amount that the consideration received by Petitioner as a result of
the auction process exceeds the original cost of the Facilities, without deduction for depreciation.
Expenses of the sale are allowed to be deducted. It is appropriate in this situation to consider the
divestiture of the Facilities as one transaction or sale. Accordingly, the profit for the taxable year
would be determined based on the sale of the aggregate of the Facilities during the taxable year, not
the sale of each generating facility separately. If the sale of the Facilities results in a loss, rather than
a profit, such loss may not be deducted from Petitioner's other gross income.

DATED: January 27, 1999

NOTE:

/s/
John W. Bartlett
Deputy Director
Technical Services Bureau

The opinions expressed in Advisory Opinions are
limited to the facts set forth therein.