Did a utility-owned LLC include transition charges and interest earned while temporarily investing those receipts in taxable capital or taxable earned surplus?

Plain-English summary

The proposed LLC would exclude its transition-property transactions, transition charges, and related temporary-investment income from both taxable capital and taxable earned surplus.

Senate Bill 7 allowed an electric utility to obtain a Public Utility Commission financing order authorizing transition charges to recover stranded costs, other costs, and regulatory assets. The utility's rights to impose, collect, and receive those charges could be transferred or pledged as "transition property."

TXU Electric proposed creating a wholly owned Delaware LLC qualified to do business in Texas. The LLC would issue bonds secured by transition property and pay the proceeds to TXU Electric for that property. Its only revenue would be transition charges plus interest and dividend income earned while the charge proceeds were temporarily invested before bond payments.

The Comptroller read Section 39.311 as expressly excluding the described transfer and ownership of transition property and receipt of transition charges from the LLC's taxable capital and taxable earned surplus. It also excluded the related temporary-investment interest and dividends.

Currency note: The letter applies the taxable-capital and earned-surplus franchise tax that Texas replaced with the margin tax effective January 1, 2008. Confirm the current version of Section 39.311 and current margin-tax treatment.

What this means for you

Electric utilities and securitization entities

Under the law applied in this letter, the exclusion followed a tightly limited entity engaged exclusively in transition-property securitization. Its revenue consisted solely of transition charges and temporary investment returns on those receipts.

Tax professionals

The holding rests on Section 39.311's express reference to franchise tax and the specific transition-property transactions authorized by a PUC financing order. Different revenue streams or activities were not addressed.

Common questions

Q: Were the transition charges included in taxable capital or taxable earned surplus?
A: No. The Comptroller excluded the described transition-property transactions and transition charges from both bases.

Q: What about interest and dividends earned before bond payments?
A: Those temporary-investment returns were also excluded on the facts presented.

Q: Did the LLC conduct other business?
A: No. The letter says it would engage exclusively in the transition-property securitization transactions described.

Citations and references

• Senate Bill 7, 76th Legislature, Chapter 39, Subchapter G - transition financing orders, transition charges, transition property, and transition bonds
• Section 39.311 - franchise-tax exclusion applied by the Comptroller

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=FIT
• Opinion: https://star.comptroller.texas.gov/view/200001270L

Original ruling text

January 13, 2000

Dear **:

You have requested a ruling regarding the applicability of Texas franchise tax
to a proposed transition property securitization transaction undertaken
pursuant to Senate Bill 7, passed by the 76th Legislature.

Senate Bill 7 (the "Act") provides for the restructuring of the electric
utility industry and sets forth provisions for the industry's transition from a
regulated to a competitive electric market. Pursuant to Chapter 39, Subchapter
G, of the Act, electric utilities may request the Public Utility Commission to
adopt a financing order allowing the utility to impose transition charges to
recover its stranded and other costs and regulatory assets. An electric
utility's rights under such a financing order, including the right to impose,
collect, and receive transition charges authorized in the order, may be
transferred to an assignee or pledged to secure financing; the transferred or
pledged rights become "transition property."

The Act specifically provides that transition property constitutes a present
property right for purposes of contracts concerning the sale or pledge of
property. Pursuant to a financing order, an electric utility or its assignee
may issue transition bonds that are secured by or payable from transition
property. The transition bonds are retired by use of proceeds from the
transition charges.

TXU Electric proposes to create a Delaware limited liability company ("LLC")
qualified to do business in Texas, of which TXU Electric will be the sole
member. Over a period of time, LLC will issue one or more series of bonds
secured by the transition property and will remit the bond proceeds to TXU
Electric in payment for the transition property.

LLC will have the following sources of income: (i) the transition charges; and
(ii) interest and dividend income generated through the temporary investment of
the transition charge proceeds (referred to in your letter as the "Interest")
from the time of collection until quarterly or semiannual payments on the
bonds.

LLC will engage exclusively in the above-described transactions relating to the
securitization of the TXU Electric transition charges. In this regard, the
gross revenues of LLC will consist solely of the transition charges and the
"Interest", as described above.

LLC will be engaged solely in transactions involving the transfer and ownership
of transition property and the receipt of transition charges. You have asked
if LLC will incur Texas franchise tax liability for taxable capital or taxable
earned surplus purposes.

The exemption from taxation provided in Section 39.311 expressly references
franchise tax and transactions involving the transfer and ownership of
transition property and receipt of transition charges within a financing order
of the Public Utility Commission. As such, it appears that transactions
involving the transfer and ownership of transition property and the receipt of
transition charges as described in Section 39.311 will be excluded from the
computation of taxable capital and taxable earned surplus for LLC. Accordingly,
the "Interest" generated by LLC's temporary investment of the transition charge
proceeds as described above will be excluded from the computation of taxable
capital and taxable earned surplus for LLC.

This response is based on the facts presented in your letter. If the facts
change or if there are additional relevant facts, the response may change.

If you have additional franchise tax questions, please write me or call me at
1-800-531-5441. My extension is 3-3958.

Sincerely,

Teresa Comer
Tax Policy Division

cc: Karey W. Barton, Director of Tax Policy
Bryant Lomax, Manager, Tax Policy