Under government regulation, there was little or no advantage for a utility to operate efficiently or to reduce its property tax obligations. However, that has now changed. With deregulation and increasing competition, utilities have aincentive to operate efficiently and reduce property taxes - just like other commercial and industrial taxpayers. As a result, outdated technology reflects functional obsolescence and adversely impacts valuations.
However, historically, gas, electric and telecommunications property was owned only by utilities, immune from competition, but regulated by government. This regulation was the primary factor affecting both property earnings and property value. The most prevalent form of regulation was rate base or cost of service regulation, whereby the utility was allowed an opportunity to earn a market rate of return on the net book value of its historical(rate base) regardless of the efficiency of the property. This resulted in the property tax valuations of utility properties near or above rate bases.
Deregulation Congress began deregulation by removing gas price controls and allowing non-utility generators to sell electricity to utilities. Some state regulatory authorities are now allowing consumers to purchase competitively priced gas and electricity from non-utilities. While the pipeline and other property used to transport gas (pipes) or transmit electricity (poles and wires) remains subject to rate base regulation, we should soon have competitive retail markets for the gas and electric commodities.
For telecommunications, competition from new technology has had even more of an impact than deregulation. In fact, it has arguably made some regulation superfluous as providers with microwave technology are challenging AT&T's long distance dominance. Similarly, wireless, cellular and long distance carriers are challenging local phone utilities.
Deregulation provides significant opportunities to the owners of utility property to obtain property tax relief. No longer will rate base, generally net book value, be a strong indicator of fair market value. As a result, the application of traditional valuation methods will frequently result in far different values than were indicated absent competition. These different values from traditional methods of valuation, will result in significant property tax savings for many utilities.
Valuation consequences Income approach. Projecting income from an allowed return on rate base or regulated prices will be futile. Instead, a property's value will depend on its ability to earn income at market prices rather than "monopoly" rates set by the government. Energy economists can be used to predict gas and electricity prices from analyzing production, transportation and demand characteristics in the market. Telecommunications income forecasts will require predictions of the effects of ever improving computer and related technologies.
Cost approach. Historical net book cost or rate base will no longer serve as a surrogate cost approach. Replacement cost analysis will have to be used by comparing the subject property with new state of the art technology, recognizing not only physical depreciation, but also functional and economic obsolescence. This may become the most significant method to value deregulated utility property.
Sales comparison approach. Market comparables never existed for most utility property because a utility's property was typically dedicated to particular services in its territory and of little use to any other utility in a different territory or other business. Now, however, power plants frequently change hands, with more than 150 sales in the past two years. Active used equipment and refurbishing markets exist for various equipment used by utilities.
Classification consequences Finally, any tax classification scheme that distinguishes between utility and other commercial or industrial property must be examined to determine if it is now illegally discriminating against former utility property. For example, there may no longer be any basis for imposing greater assessment ratios or tax rates upon phone companies than are imposed on cellular companies.
Conclusion Deregulation and increasing competition are dramatically impacting property values and present significant opportunities for property tax savings. Lawyers and appraisers expert in both regulatory changes and industrial property valuation should be consulted to ensure that the historic high property tax burden on utilities does not improperly continue in the new competitive markets. This topic will be the focus of the annual American Property Tax Counsel Seminar in Phoenix, Ariz. on November 12 - 13, 1999.