Evaluating Power Plant Property Taxes Under Deregulation
THREE FACTORS (em RESTRUCTURING, TECHNOLOGY AND environmental controls (em now create both reason and opportunity for electric utilities to lower their property taxes, which often make up a substantial cost of doing business.
Property tax valuation is fairly straightforward. Most states compute property taxes on fair market value, or what a hypothetical buyer and seller would agree the property is worth, with both parties having knowledge of the relevant facts and neither compelled to buy or sell. Three common approaches are used to estimate fair market value: (1) the income approach, (2) replacement cost less depreciation and obsolescence and (3) the sales comparison approach.
However, changes anticipated in the electric industry will disrupt the traditional connection between property valuation and the utility rate base, the benchmark by which utilities and local governments have calculated property taxes in the past. First, deregulation affects earnings, breaking the traditional ties between rate base and value. Second, advances in gas turbine technology (and greater reliance thereon) will force a re-evaluation of the cost, efficiency and capability of existing plants. Lastly, the prospect of new environmental legislation and regulation, coupled with deregulation, means the end of the captive market (ratepayers) through which to recover any required compliance or abatement costs.
And while these changes promise future adjustments in tax assessments, they also affect investor expectations, and hence value, today. Buyers and sellers look to the future; they discount the present value of assets to reflect expectations. If a utility should wait to act until the expected effects actually occur (i.e., the plant is actually shut down, redispatched or mothballed to reflect costs, markets or rules), then it is fair to say that the utility will have been paying excessive property taxes throughout many of the years preceding the impact.
Eyeing the Future:
Anticipating Changes in Property Value
How will property tax valuation evolve under deregulation, technology advances and new requirements for environmental compliance?
RESTRUCTURING. First, deregulation and rising competition force a re-evaluation of generating assets. In a deregulated market, %n1%n rate base and a permitted rate of return will no longer accurately predict the income a property will earn. Rather, without regulation, a competitive market for electricity will develop, as it developed in the natural gas industry.
In the short term, the marginal operating costs of plants will determine the market price of electricity. In the long term, the total costs of plants with the most efficient technology will determine the market price. Table 1 shows how the revenue and income would differ between a regulated market and a competitive market for a hypothetical nuclear plant and a hypothetical coal-fired plant.
Under regulation, the nuclear facility returns a higher income to investors than the coal-fired plant because of its higher rate base. It also provides higher total revenue to the investor because its higher operating costs and higher yearly depreciation charges are collected in rates.
In a competitive market, total revenue will equal market price multiplied by the total output of the plant. The revenue earned by the two plants will be equal, but their costs will