SUPREME COURT OF ILLINOIS
529 N.E.2d 510, 124 Ill. 2d 195, 124 Ill. Dec. 529 1988.IL.1418
Appeal from the Appellate Court for the Third District; heard in the court on appeal from the Circuit Court of Will County, the Hon. Herman S. Haase, Judge, presiding.
JUSTICE MILLER delivered the opinion of the court. JUSTICE STAMOS took no part in the consideration or decision of this case.
DECISION OF THE COURT DELIVERED BY THE HONORABLE JUDGE MILLER
This appeal concerns an order of the Illinois Commerce Commission (the Commission) regarding certain ratemaking questions involving the Citizens Utilities Company of Illinois (Citizens). In 1985 the Commission entered an order deducting $4,253,953 from Citizens' rate base and reducing the company's tax depreciation expense for ratemaking purposes by $403,432. Citizens sought review of those decisions, and the circuit court of Will County affirmed the Commission's order. Citizens appealed, and the appellate court invalidated the reduction in the utility's rate base but upheld the reduction in the company's depreciation expense. (153 Ill. App. 3d 28.) We allowed the joint petition for leave to appeal filed by the Commission and the Village of Bolingbrook, intervenor. See 107 Ill. 2d R. 315(a).
Citizens, a wholly owned subsidiary of the Citizens Utilities Company, provides water service to about 23,000 customers and sewer service to about 22,000 customers in Cook, Du Page, and Will Counties. Citizens is a public utility, as that term is defined in "An Act concerning public utilities" (Ill. Rev. Stat. 1983, ch. 111 2/3, par. 10.3), and therefore the company is subject to the regulatory authority of the Commission. On March 16, 1984, Citizens filed an application with the Commission for an order approving its recorded balance of deferred income taxes as of December 31, 1983, and for other relief. The Village of Bolingbrook and the Water Consumers Association, Inc., were permitted to intervene in the proceeding. Following hearings on the matter before a hearing officer, the Commission entered its order on January 30, 1985. Of relevance here, the Commission reduced the company's rate base by $4,253,953 and reduced the amount of its tax depreciation expense for ratemaking purposes by $403,432. The Commission subsequently denied Citizens' application for rehearing.
Citizens sought review of the Commission's order in the circuit court of Will County. (See Ill. Rev. Stat., 1984 Supp., ch. 111 2/3, par. 72.) There the matter was consolidated with an appeal taken by Citizens from the order of the Commission in a separate case, which involved the company's request for a general rate increase. Following the submission of briefs by the parties, the circuit Judge entered a judgment affirming the Commission's orders in both cases.
Citizens appealed the circuit court's judgment. The appellate court reversed that part of the circuit court's judgment affirming the Commission's order making a $4.2 million reduction in Citizens' rate base. The appellate court believed that the rate base reduction constituted retroactive ratemaking and therefore was invalid. The appellate court affirmed that part of the circuit court's judgment affirming the Commission's decision to reduce Citizens' tax depreciation expense for ratemaking purposes by $403,432 for the 1983 test year. Finally, on a question that is not at issue in this appeal, the appellate court reversed that part of the circuit court's judgment affirming the Commission's decision to deny Citizens a working capital allowance for the test year.
In this appeal the Commission and the Village of Bolingbrook, as intervenor, challenge the appellate court's decision invalidating the $4.2 million reduction in Citizens' rate base; the Commission and the Village do not contest the appellate court's decision concerning the working capital allowance. Citizens challenges, as grounds for cross-relief, the appellate court's decision upholding the reduction of $403,432 in its tax depreciation expense for ratemaking purposes. See 107 Ill. 2d R. 318(a).
In establishing the rates that a public utility is to charge its customers, the Commission bases the determination on the company's operating costs, rate base, and allowed rate of return. A public utility is entitled to recover in its rates certain operating costs. A public utility is also entitled to earn a return on its rate base, or the amount of its invested capital; the return is the product of the allowed rate of return and rate base. The sum of those amounts -- operating costs and return on rate base -- is known as the company's revenue requirement. The components of the ratemaking determination may be expressed in "the classic ratemaking formula R (revenue requirement) = C (operating costs) Ir (invested capital or rate base times rate of return on capital)." (City of Charlottesville, Virginia v. Federal Energy Regulatory Comm'n (D.C. Cir. 1985), 774 F.2d 1205, 1217, citing T. Morgan, Economic Regulation of Business 219 (1976).) The same formula is used by the Commission in ratemaking determinations for Illinois. The revenue requirement represents the amount the company is permitted to recover from its customers in the rates it charges. Ratemaking is done in the context of a test year, which in this case was 1983.
Citizens has what is known in the industry as plant acquired by contract, or contract plant. Plant acquired by contract consists of facilities, such as pumping stations and water mains, that were constructed by a real estate developer and that later were deeded by the developer to the utility company upon completion of the subdivision; generally the utility pays the developer a regular fee based on the rates the utility charges its customers. But because the public utility acquires the contract plant at no cost to itself, contract plant is not included in the company's rate base for ratemaking purposes, and therefore the company does not earn a return on the asset.
The questions presented in this case arise from the different treatment accorded contract plant for tax purposes and for ratemaking purposes. Included in the operating costs component of the revenue requirement formula are certain expenses, such as income taxes. In computing its Federal income taxes, Citizens depreciates its contract plant, and in that way the company is allowed to reduce the amount of income taxes it must pay. But in computing its income tax expense for ratemaking purposes, Citizens has not depreciated its contract plant, and therefore its income tax expense for ratemaking purposes has been higher than its income taxes. Thus, Citizens has claimed, for ratemaking purposes, an income tax expense that is greater than the amount of taxes the company actually has paid the Federal government. It now appears that the higher tax figure was used in establishing the utility's rates for the years 1958 through 1982.
The Commission concluded that Citizens had compiled, as of December 31, 1983, a total of $4,657,385 in tax benefits in connection with the depreciation procedures for its contract plant. The Commission ordered that $403,432 in tax depreciation expense for the 1983 test year be deducted from the company's taxable income, reducing its income tax expense for ratemaking purposes. In addition, the Commission ordered that the balance of the benefits, $4,253,953, be deducted from Citizens' rate base. Both reductions are at issue here. As we have said, the Commission and the Village of Bolingbrook, intervenor, bring this appeal contesting the appellate court's reversal of the $4.2 million rate base ...