7.0 Introduction

This chapter focuses on changes in Nebraska's framework of law, governance, regulation and taxation related to retail competition. It contains an examination of the different ownership and governance constructs for Nebraska consumer-owned systems and electric utilities operating in other states. It includes a discussion of the state constitutional provisions and statutes relating to power suppliers in Nebraska and changes that would be needed if the state's policy-makers decided to proceed with restructuring and retail competition. It also includes an extensive discussion of tax law and methods to preserve tax revenue streams.

Nebraska's current law, governance, regulation and taxation provide a framework for consumer-owned systems to operate as non-profit retail monopolies. Accommodation of an expanded wholesale power supply market and transmission reorganization in the region can occur with relatively few changes. Establishment of retail competition, however, would require a comprehensive revision of this framework.

7.1 Control and Ownership In Nebraska

As discussed in previous chapters, electricity is provided at retail in Nebraska by three distinct entities: municipal electric systems, public power districts, and rural electric cooperatives. Municipal systems are created either by authority delegated to cities and villages by state statute or pursuant to home rule charter. Therefore, the operational control of municipal utilities is centered largely within the structure of the municipal government, although actions of the Nebraska Unicameral can and do have a profound impact. Public power districts are public corporations and political subdivisions of the state. As "creatures" of the state legislature, their functions are largely controlled by state statute. Most of the cooperatives operating in Nebraska are private non-profit membership corporations organized pursuant to the general non-profit statutes of Nebraska. However, two are organized under more restrictive provisions for electric cooperatives.

The electric industry in Nebraska is founded on the principles of local control, non-profit operation and consumer ownership. Consequently, the system of governance, and the laws and regulations that apply to electric utilities are all tailored to that structure. While the legislature has adopted very detailed statutes to govern some areas of the industry, it is the locally-elected directors, city council members, or appointed utility board members that establish the policies to guide management and oversee the operations of the utilities. These individuals are elected or appointed to represent the interests of consumers. They set the local electric rates and are directly subject to local perception of how well the utility is functioning. With the exception of oversight in limited areas such as service territory boundaries and approval of construction of major generation and transmission facilities, state regulation of electric utilities has been minimized.

7.1.1 Ownership and Control in Other States

Ownership and control of Nebraska's electric utilities contrasts with that found in most other states where large for-profit, investor-owned utilities dominate the industry. Nationwide these private utilities serve approximately 75 percent of the retail customers and own about the same proportion of the installed generating capacity. Consumer-owned systems typically serve smaller towns or rural areas and operate as distribution systems that purchase power wholesale and resell it to consumers. Investor-owned utilities have historically included integrated generation, transmission, and distribution systems that serve large geographic areas and urban areas. They are governed by boards of directors elected or appointed to represent the interests of the corporation's shareholders. They typically operate under holding company structures that have become increasingly consolidated and larger in terms of customers and geographic area served. They may operate several energy-related or non-energy related businesses under the holding company structure whose main purpose is to provide shareholders with a profit. Given the complexity of these operations, their profit motives, and monopoly service, state regulation has functioned to provide a substitute for competition by regulating rates and operations and offering consumer protection.

All states except Nebraska have a mixed system of consumer-owned and investor owned electric utilities and thus each has a statewide regulatory body to regulate investor-owned electric utilities. In all but eight states, the reach of state regulatory commissions does not extend to rate regulation of municipal or cooperative electric utilities, although other operations and planning may be subject to state regulation. The regulatory framework in most other states is very detailed and covers a very wide range of utility operations and administration.

7.1.2 Limited State Oversight With Open Governance

Nebraska's publicly-owned systems conduct their business in a manner which provides for public meetings, public input, and public access to information. Public power districts and municipal systems are subject to strict statutory mandates on the conduct of open meetings and maintenance of public records. This enhances the system of local governance and control of the state's electric utilities. While these statutes do not apply to cooperatives, membership does carry with it the right to provide input to the board and access to information.

As currently written, the state's Open Meeting Law and Public Records Act would not apply to investor-owned electric utilities operating in the state. Although heavily regulated by state public service commissions in other states, investor-owned electric utilities are free to conduct their business affairs, conduct meetings, and maintain records outside of the purview of the general public. While they are required to make filings with state and federal regulatory agencies, such filings are increasingly being made on a proprietary basis to reflect the emergence of competitive market forces at play in the industry.

Differences in oversight between consumer-owned and investor-owned electric systems can create certain advantages. For example, public power entities can make expenditures for advertising programs as can investor-owned utilities in other states. However, if such programs became noticeably aggressive (and expensive), the public power entities might be subject to public criticism and ultimately state action proscribing such expenditures. Investor-owned utilities on the other hand may spend virtually any sum deemed appropriate by management on marketing initiatives. While state regulatory bodies might disallow such expenditures from recovery in the rate-setting process, investor-owned utilities could continue to undertake such expenditures to the extent that they could be underwritten by the company's stockholders in the form of a reduction of net income.

Similarly, investor-owned utilities can and do expend vast sums on political advocacy while public power entities generally cannot. Investor-owned utilities could spend funds to contribute to political campaigns in Nebraska while public power entities would be clearly prohibited from doing so. Such differences could place public power entities at a severe disadvantage in public policy disputes with investor-owned utilities.

In a competitive retail market, the legal differences between consumer-owned and investor-owned electric systems would need to be addressed to prevent investor-owned utilities from gaining competitive advantages. To avoid the appearance of conflict of interest, public officials who serve on elected statewide regulatory bodies would need to be prohibited from accepting political contributions of any kind from the entities subject to the jurisdiction of the agency on which they seek to serve or from the employees or directors of such entities.

7.1.3 Federal Oversight

It has been noted that orders of the Federal Energy Regulatory Commission apply to "public utilities", which are generally defined as private investor-owned utilities. Under this definition, most public power entities and cooperatives are "non-jurisdictional" and not subject to FERC orders. However, there remains an unanswered legal question regarding whether non-jurisdictional systems could be brought before FERC under section 211 of the Federal Power Act. Also, because public power systems and cooperatives own transmission facilities that are interconnected with jurisdictional utilities, and because many of them are members of regional reliability organizations, such as MAPP, they may be affected by orders of FERC. The FERC is seeking to expand its jurisdiction to cover all transmission-owning entities, including public and cooperative utilities. Consequently, federal oversight may increase in the future.

Currently FERC is working on the promulgation of regulations relating to the voluntary formation of entities known as regional transmission organizations (RTOs) which would operate under the general principle that the transmission function should be operated independently of the generation function. Under proposed rules published by FERC, transmission-owning utilities would voluntarily form RTOs by October 15, 2000 with such entities operational by December 15, 2000. Nebraska's transmission-owning utilities may enter into such entities either with other public power entities in Nebraska or in adjacent states or perhaps with investor-owned utilities in adjacent states. Although legal opinion is somewhat divided, such memberships may require amendment to applicable Nebraska statutes depending on the ultimate requirements of membership.

7.2 Existing Governance and Potential Changes Under Each of the Three Models

7.2.1 Current Structure Governance

The current governance of the state's public power systems varies by type of system. The elected members of the various city councils and village boards control the operations of the utility serving their city, and in some cases territory outside the city limits. In some cities, there is a separate board which oversees the operation of the utility which is appointed by the mayor and/or city council. However, generally the council retains authority for approval of budgets, rates, long-term debt and other important decisions.

More than half of the cities and villages in Nebraska do not operate their own electric system. Two hundred and twenty-two cities and villages franchise or lease their service territory to public power districts, cooperatives or municipal systems.

Public power districts are governed by a board of directors elected from the chartered service territory of the district. Distribution cooperatives are governed by boards of directors elected from and by their members/consumers at their annual meetings. Generation and transmission cooperative's governing boards are comprised of directors chosen by the boards of their member distribution systems.

7.2.2 Need For Change's In Governance Under Current Structure

There are a limited number of instances in which consumers of public power entities are not directly represented on the utility governing body due to residence outside of the corporate limits of a community. There have also been instances where local election officials have had difficulty determining which voters are eligible to vote in public power district elections, in some cases denying ballots to eligible voters or vice versa. Because these problems are not felt to be serious or easily solvable through statutory changes, no areas for change have been identified relating to the governance of existing utility entities in Nebraska under the Current Structure. Modification of the Current Structure, including mergers, divestiture, or establishment of new cooperative or public power entities, would need to examine governance issues to assure adequate consumer representation, access and input to decision-making.

7.2.3 Need for Change In Governance Under Limited Access or Open Access Models

Under both the Limited and Open Access models, customers would continue to receive wire services from their local distribution system even though customers may buy their electric supply elsewhere. Customers of local distribution companies should still be able to run for and vote for the body that governs their utility. However, a statewide regulatory body would need to be in place to augment local control by providing uniform oversight and enforcement of rules, standard, protocols, and consumer protection needed in a competitive market system. It would be important that the statewide regulatory body function in a manner that allows adequate consumer representation and does not undermine local control, particularly over the distribution sector of the industry.

7.3 Existing Regulation and Potential Changes

7.3.1 Existing Regulation

The regulatory structure in all states employs a mixed form of state-and-local regulation of electric utilities. As noted in the Phase I report, in most states served predominately by investor-owned utilities the balance of this control resides at the state level. While the legislatures in these states maintain oversight, direct regulatory control is delegated to a state agency or public utilities commission. It is this entity that has responsibility for rate setting and implementation of uniform requirements ranging from standard record-keeping to approval of forecasts and investments in facilities. Utility regulators in these states have the oftentimes contradictory roles of protecting both consumers and shareholders.

In Nebraska, there is also a mixed local-state system of regulation, but the primary authority is at the local level. Rate-making by the local governing boards is based on non-profit, cost-of-service principles. While the problems and disputes concerning rate-setting and policy making may be similar to those of private utilities in other states, the conflicts can be addressed locally. Additionally, there is recourse to the court system and in some cases to the Power Review Board (PRB). Although this system provides greater opportunities for direct consumer control over rates and policies, it does not establish the same degree of uniformity in utility policies found in other states.

The preeminent authority over Nebraska's electric utilities is the legislature, and secondly the state's courts which interpret and enforce the will of the legislature. Obviously, the Governor can propose policies and legislation that affects the industry and also has the power to appoint agency directors that oversee certain aspects of industry operations, most importantly, the members of the PRB.

There are six primary state agencies that oversee some element of electric utility operations in the state. For the most part their regulatory role is not relevant to the issues involved in restructuring the industry.

The most significant state regulatory agency from the perspective of restructuring and retail competition is the Nebraska PRB. One of the major functions of the PRB is the certification of exclusive service areas at both the retail and wholesale level and the resolution of disputes between power suppliers over service areas. It also has responsibility for approving the construction of generation and major new transmission facilities. The PRB oversees joint planning efforts of electric utilities. As part of this function, the PRB oversees formulation and filing of the Integrated Resource Plan by the Nebraska Power Association.

Unlike regulatory bodies in other states, the PRB does not have jurisdiction over rate-setting, although it may act in an advisory capacity when disputes arise over transmission rates. The operations of the PRB are financed entirely by assessments on the state's power agencies based on their revenues. No state General Fund money is devoted to the agency.

7.3.2 Regulation Under Retail Competition

One of the more ironic facets of the potential introduction of retail competition in Nebraska is the consensus view that it would necessitate the significant expansion of existing statewide regulatory jurisdiction over the industry. The advent of competitive market policies in the telecommunications industry brought with it a radical increase in complaints of consumer fraud and marketing abuses. Complaints against "slamming" (unauthorized switching of service) and "cramming" (unauthorized billing for optional services) have escalated as the competitive communications markets have expanded (See Chapter 1 for discussion of these problems.)

In the current environment, customers with electric service and billing related complaints typically take them directly to the utility for resolution. In addition, an applicant for electric service can file a complaint with the PRB if the applicant and supplier cannot agree on the terms of the service or if alleged pricing abuses have occurred. In a competitive retail environment, consumers will be subjected to telemarketing and other sales methods from companies who may lack a physical presence in the service territory. Consumers will look to a governmental body to resolve billing and service disputes. Although counterintuitive to the notion of "deregulation", retail electric competition will increase the need for a strong statewide regulatory body to monitor the market.

7.3.2.1 Regulatory Agency Issues

The prospect of a significant expansion of regulatory control over electric utilities in the state to address retail competition raises the issue of what agency should be given that role. As already noted, presently the PRB exercises the most significant regulatory authority over the industry. Based on its historic role and current authorities the PRB should be given the initial role to coordinate development of necessary rules, standards, protocols and consumer protections. Additional authority may be required and certainly additional resources would be required to undertake this task being conducted in a similar manner by state regulatory agencies in follow-up to restructuring legislation in other states. However, if retail competition is implemented in Nebraska, the legislature will need to make a determination as to whether the Power Review Board or the Public Service Commission is the most logical agency to exercise expanded authority. (See Chapter 9 for additional discussion on process and the phasing of regulatory involvement.)

7.4 Existing Law and Potential Changes Under Each of the Models

7.4.1 Overview of Constitutional Provisions Pertaining to Existing Power Suppliers

It is a common misconception that Nebraska's public power tradition is enshrined in the state constitution. There are only two constitutional provisions specific to the power industry. The first is found in section 8, Article XI of the Nebraska Constitution that establishes the payment in lieu of taxes (PILOT) and gross receipts taxes that must be paid by public power districts. This provision is discussed in more detail later in this chapter. The second is contained in section 7 of Article XV, which provides that the use of water for power purposes is a public use and may never be alienated.

However, there are a number of other constitutional provisions that address political subdivisions generally or are otherwise relevant to the subject of restructuring the electric industry in this state. The Nebraska power industry has been greatly influenced by how these provisions have been interpreted in decisions of the Nebraska courts - particularly the Nebraska Supreme Court.

There are a number of key constitutional provisions that affect certain sectors of the power industry in Nebraska. Article VIII, section 2 provides that the property of political subdivisions of the state shall be exempt from taxation to the extent that property is used for a public purpose. This section applies to municipal utilities and public power districts, although the districts are subject to the in-lieu-of-tax and gross receipts taxes for revenues within incorporated areas. This property tax exemption is not shared by co-ops that operate in the state. Also, customers outside of incorporated areas may not be subject to PILOT and gross receipts taxes. These are inconsistencies in taxing provisions between entities that may need to be addressed under an open access structure.

Article XI, section 1 of the Nebraska Constitution prohibits municipalities and other political subdivisions of the state, like power districts, from becoming a subscriber to the stock of any private corporation or association. This limitation does not apply to cooperatives, however. In the context of restructuring, this provision has already presented obstacles to some Nebraska suppliers as they have explored alliances with other suppliers through the formation of energy services companies, a fairly common response to restructuring pressures in other states. While it would not prevent political subdivisions from forming another public entity under the Inter-local Cooperation Act, it does present an obstacle to certain public/private partnerships. This section of the constitution has been interpreted to prohibit any political subdivision from acquiring any proprietary or ownership interest in any private corporation, whether it issues stock or not.

Another constitutional provision that affects certain elements of the electric industry in Nebraska is Article XIII, section 3, which provides "[t]he credit of the state shall never be given or loaned in aid of any individual, association, or corporation . . .". The purpose of this section is to prevent the state or any of its political subdivisions from extending the state's credit to private entities. In a nutshell, the state or a political subdivision like a public power district, may not become a surety or guarantor of the debts of a private entity.

This provision has caused problems for some power suppliers attempting to promote economic development in their service areas. For example, in 1997 the legislature enacted LB 658, part of which amended existing law to make it clear that the state's public power districts had the authority to participate in an economic development loan program administered by the U.S. Department of Agriculture. This program allows power suppliers to apply for loan funds from USDA and pass them through to private enterprises that wish to locate or expand business operations in or near their service area. However, the USDA requires the power supplier to guarantee repayment of those loan funds to USDA. The USDA has determined that because of this requirement, the state's public power districts may not constitutionally participate in this program under Article XIII, section 3 of the state constitution.

The state's cooperatives are eligible to participate in the program and some have taken advantage of it. In addition, municipalities are given broad authority in section 2 of Article XIII to use tax and other revenues to promote economic or industrial development projects. This authority includes owning, leasing and developing real and personal property for manufacturing or industrial enterprises. Revenue bonds may even be issued for these purposes. If tax revenues are to be used for an economic or industrial development project, the approval of a majority of the voters is required. Consequently public power districts are at a disadvantage when it comes to industrial and business recruitment when compared to cooperatives and municipalities. A constitutional amendment would likely be necessary to put power districts on a par with other power suppliers when it comes to providing economic development assistance.

There are a number of other constitutional provisions that are relevant to the general issue of restructuring. It is interesting to note that the issue of restructuring the electric industry in Nebraska is not entirely new to the legislature. In 1965 it enacted LB 764, known as the "Grid Bill", the purpose of which was to require the consolidation of all public power districts serving 15 or more counties. The systems primarily affected by the bill were the Platte Valley Public Power and Irrigation District, Loup River Public Power District, and Consumers Public Power District. The history surrounding that legislation is beyond the scope of this chapter. However, there are a number of constitutional issues that arose from this legislation that need to be kept in mind as the legislature considers the subject of restructuring.

LB 764 was challenged in court by a number of parties and ruled unconstitutional by the Nebraska Supreme Court on a number of grounds. Article 12, section 1 of the Nebraska Constitution provides in part:

The court held that this section applied to public as well as private corporations and the Grid Bill was an attempt to create a single public corporation by a special act rather than a general law. Therefore it was unconstitutional. The court stated:

LB 764 was also found to be unconstitutional on other grounds. Because: (1) it excluded the voters of Douglas and Sarpy counties from being eligible to vote for or serve on the board of directors of the newly created entity; (2) the Loup and Platte districts actually had property in those counties; and (3) the Omaha Public Power District was at least potentially a member of the grid system; the Court found the act granted special privileges to voters residing outside of those two counties and created an arbitrary classification. Therefore it also violated Article I, section 16, and Article III, section 18 of the constitution. On the classification issue the Court stated:

Additionally, because the bill had been drafted in such a way that only certain individuals would qualify for the initial gubernatorial appointments to the board of the newly formed district, LB 764 violated Article IV, section 10 of the state constitution. This section grants the governor the exclusive power to make appointments to offices created by the legislature when the appointment or election is not otherwise provided for, and clearly states that the legislature is prohibited from making any such appointment. As this case illustrates, care must be taken in fashioning any restructuring legislation in order to avoid violating general constitutional principles.

Part of the decision held that the grid bill violated Article XII, section 1 of the constitution because it was an attempt to create a public corporation by a special act was overturned in 1979. However, in order to be a "general act" any restructuring legislation must "operate alike on all persons or localities of a class" and any classification must have a reasonable basis rather than be purely arbitrary.

7.4.2 Overview of Statutory Provisions Pertaining to Existing Power Suppliers

There are a number of key statutory provisions that govern the electric industry in the state. The most basic are the enabling statutes for the various types of power suppliers. Statutes governing municipal electric utilities can be found in chapter 15 (primary class), chapter 16 (first class), chapter 17 (second class cities and villages), chapter 18 (applicable to all), and chapter 19 (applicable to some classes). The enabling statutes for public power districts are primarily contained in chapter 70 of our state statutes. (Many of the provisions in chapter 70 also apply to the other types of power suppliers.) Most of the state's cooperatives are organized under the general non-profit corporation statutes contained in chapter 21. However, two are organized under the more restrictive provisions for electric cooperatives contained in chapter 70.

It is these enabling statutes that contain the legislative authority for the state's power suppliers to perform certain functions. As will be discussed in greater detail below, the powers granted to the various types of power suppliers in Nebraska differ greatly. Public power districts and cooperatives organized under chapter 70 are more restricted in the activities they can engage in than municipal utilities. Municipals were not created for a single purpose but to offer a broad spectrum of community services and infrastructures. By contrast, public power districts were enabled for a limited purpose and consequently the laws that enable the two differ significantly. Cooperatives organized under chapter 21 have much broader powers than any other type of power supplier.

Generally speaking, the state's courts have recognized that public entities engaged in a proprietary activity have all the usual powers of a corporation organized for public purposes, so the activity may be carried out in a successful and profitable manner. This carries with it the power to conduct its business in the same manner in which a private corporation would. However, public power districts and many municipalities are also subject to "Dillon's Rule". This rule of statutory construction generally provides that political subdivisions of the state created by legislative act are functionally limited to those activities expressly specified in their enabling statutes, those necessarily or fairly implied from their express powers, and those essential, not merely convenient or desirable, to carry out their express purposes.

Consequently, these public entities may not enter in to lines of business other than providing electric service unless they have been given the authority to do so by the legislature. Dillon's Rule is applicable to those municipalities that derive their powers from specifically enumerated statutes. It does not apply to cooperatives since they are not political subdivisions. However, even a private corporation like a cooperative may be limited by their enabling statutes. For example, cooperatives organized under chapter 70 are generally limited to providing electric service, while co-ops organized under chapter 21 can engage in any lawful business authorized by their articles of incorporation.

As discussed in Chapter 5, it is important for consumer-owned entities to acquire equal authorities for the provision of multiple services, and in their ability to form business relationships. This will require fairly significant amendments to the statutes, particularly those which apply to power districts and the chapter 70 cooperatives.

Contrary to popular belief, there is no explicit legal prohibition against the construction, ownership, or operation of a generating facility by a private for-profit entity in Nebraska. It should be noted, however, that chapter 70 does contain a declaration that it is the policy of the state to provide electric service at as low a cost as possible, consistent with sound business practices, and " in furtherance of such policy, electric service should be provided by nonprofit entities . . .". While this article of chapter 70 deals with the arbitration of wholesale rate disputes, rather than the approval of new generation facilities, it clearly states a preference for nonprofit entities at the wholesale level.

This issue was addressed in a 1996 Attorney General's opinion that concluded that in spite of the policy statement in 70-1301, it did not appear that private ownership of generation facilities was prohibited in Nebraska. The Attorney General concluded that because other sections in chapter 70 referred to "all suppliers of electricity, including" the public providers operating in the state, there was no basis for ruling that private entities were prohibited from owning generation facilities in the state.

It should be noted that while Chapter 70 article 13 may state a preference for non-profit providers at the wholesale level, this language has never been construed to prohibit wholesale purchases from for-profit private providers. Such transactions have occurred in the past in Nebraska and are anticipated in the future as competition increases at the wholesale level with improved access to transmission facilities in the region.

While a private power supplier can legally construct a power generation facility in the state, such a venture would require the prior approval of the Nebraska Power Review Board.

A private entity would presumably be held to the same standard for approval that would apply to a public power provider. The PRB would have to find that the proposed facility would serve the public convenience and necessity "and that the applicant can most economically and feasibly supply the electric service resulting from the proposed construction or acquisition, without unnecessary duplication of facilities or operations". Whether this standard would present any special problems for a private entity provider or if all of the output would be exported are unsettled questions. This issue has not been addressed by the PRB or the state's courts.

In the absence of an agreement with the owners of affected transmission facilities private electric generation facilities constructed in Nebraska with the intent to serve out-of-state customers would also require prior approval by the Power Review Board. Such facilities would have implications for the integrity of the electric power grid used to serve Nebraska customers (MAPP currently plays a key role on this issue).

It should be noted there does not appear to be any statutory authority for a private company to exercise the power of eminent domain for the construction of a generating facility. Consequently, the acquisition of land for such a facility would have to be on a willing-seller basis.

There do not appear to be any legal impediments to having for-profit entities owning and operating transmission assets within the state of Nebraska. Black Hills Power and Light Corporation, for example, currently owns and operates transmission facilities in Nebraska. A private company may also have the ability to condemn property for transmission facilities.

While providing wholesale service or operating transmission facilities in Nebraska appears to be permissible, an investor-owned utility wishing to provide retail service under our existing laws would face serious obstacles. Current law prohibits such potential suppliers from providing retail service to customers already located within a public power agency's service area. All suppliers of electricity must file maps with the PRB indicating their service areas under their agreements with adjoining electric suppliers. In the absence of an agreement, the electric supplier must file a statement explaining why it has not entered into agreements with its adjoining suppliers and showing what it claims to be its service area.

The Power Review Board may only grant approval of encroachment into an existing service area if the desired customer "cannot or will not be furnished adequate electric service by the supplier in whose service area the customer is located, or that the provision thereof by such supplier would involve wasteful and unwarranted duplication of facilities."

There is a potential for an investor owned utility to serve customers currently being served by a municipal utility. Such a "takeover" would require approval of 60 percent of those voting on the issue prior to execution. Three significant financial considerations would seem to argue against the practicality of such an effort. Unlike public power utilities, private entities generally cannot issue tax-exempt debt, must pay federal income taxes on any profit from all sales of electricity, and would need to provide a return to equity investors in order to attract capital. These considerations would require significant increases in the price of electricity and thus would complicate the success of the public approval process. Existing law would further complicate the approval process by placing strict limitations ($1 per customer) on promotional expenditures incurred by any private person seeking to influence the purchase, lease, or acquisition of municipal electric utility assets. Although these limits could be challenged in court, they still complicate the private acquisition of public utilities.

Many public power entities, pursuant to existing Nebraska law, have issued bonds and notes secured by either the revenue or assets of the entity. These bonds contain covenants that place limitations on the sale, lease or other disposition of the properties of the entity. Accordingly, the alienation of property of such entities could cause the bonds and/or notes to be in violation of the covenants and cause the outstanding obligations to be deemed due and payable. There could also be tax implications to such an action.

An investor-owned utility would not have the option of purchasing the facilities of a public power district under existing law that provides:

However, it could purchase the facilities of a cooperative provided the co-op facilities had not been obtained from a power district. Depending on the bylaws of the co-op, it might take a two-thirds vote of the members to approve such a sale.

A final complicating factor is that there is also a risk that a privately-owned generating, transmission or distribution facility would be subject to condemnation by an existing public power entity. It is interesting to note that any such condemnation by a city would require approval of its voters while no public vote would be required before a power district could condemn privately-owned facilities. Sixty percent approval would be required if the election was a special election, whereas only a majority vote would be required if the question was submitted at the general election.

Contractual agreements between existing public power entities and private power entities could enable private parties to play an enhanced role in the delivery of electrical energy services in Nebraska. For example, a public power utility could contract with a private entity to construct or operate some or all of the critical functions of a new or existing generation facility. Such relationships exist today and could be expanded in the future.

Existing law allows a power district to sell its facilities to a municipality, another power district, or a cooperative having a retail service area, although in some cases a sale to another power district would have to be approved by sixty percent of the district's voters. Existing law would not allow that property to be sold to a generation cooperative or a private for-profit company even if that was desired by the district's consumers. Consideration should be given to statute changes that would provide consistency in sale of assets by municipalities, power districts and cooperatives. The current statutes that place limitations on promotional expenditures for sale of public systems should also be updated to make it clear that publicly owned systems may use public funds to inform voters of the impacts of such a sale.

In addition to the changes already discussed, there are a number of potential changes that could be made to the current structure to enhance the operations of the state's public power systems to the benefit of their consumers. The issue of whether to merge or consolidate local distribution systems is, and should remain, a matter to be decided by the local governing bodies of the utilities. They are best positioned to evaluate the impacts of a merger or consolidation on rates, debt and equity, and customer service.

The state can help facilitate these actions however. The consolidation of Northeast Nebraska Rural Public Power District and Wayne County Public Power District in 1998 revealed numerous gaps in the statutes concerning merger and consolidation that need to be filled to smooth the path for future "combinations". It has also been suggested the state could offer incentives for future mergers by, for example, paying the costs of merger studies. However, the cost of these studies have not been a major obstacle to mergers. Assistance in paying these costs is available from other sources such as wholesale suppliers and lending institutions.

Another area of interest to some distribution utilities is the conversion from a public power district to a cooperative. Chapter 70, article 8 contains a mechanism for co-ops to become rural public power districts but no explicit authority could be found for voluntary conversion from a public power district to a co-op. Although it could probably be accomplished legally today, there is no clear procedure to follow and the PRB might have some reluctance to approve such a conversion. Changes to state statutes to clarify the procedures to follow would be appropriate.

As noted earlier, there are fundamental differences in authority among power providers in Nebraska. Public power districts and many municipalities are subject to "Dillon's Rule" which confines their operations to those enumerated in state statute. Current law generally limits public power district operations to the "power and light" business, providing satellite TV services in non-cabled areas, operating/leasing energy equipment, providing heating and cooling, billing and administrative services, very limited appliance sales, as well as the production and distribution of ethanol. Chapter 70 cooperatives are even more limited in services they can provide, being limited to the provision of electric service only.

Municipal utilities may provide a much wider array of services. In addition to electric service they can provide natural gas, propane, water and sewer service, operate/lease energy equipment, provide district heating and cooling and billing services. However, acquisition of a private gas system would require voter approval.

Chapter 21 cooperatives, as has been noted, may engage in any lawful business. However, to date none of the state's distribution co-ops have taken on new ventures beyond providing Internet and satellite TV services.

Investor-owned utilities typically operate through a holding company structure that may include numerous affiliate companies in every conceivable enterprise including telecommunications, real estate, and financial services. Private corporations may generally engage in any lawful business consistent with their corporate articles.

Table 5-9 (Chapter 5) displays a chart showing the range of permissible utility consumer services offered under current law by the various power entities operating in Nebraska. Changes are needed in state statutes to achieve more "parity" between power suppliers in the state, at least between municipalities, power districts and chapter 70 cooperatives. Allowing all systems to have the broader powers of chapter 21 cooperatives has not been necessary under the current structure, although it would be necessary under retail competition.

As the wholesale power markets mature, Nebraska's public power utilities may consider new approaches to the acquisition of additional generation resources including partnering with privately-owned utilities or possible construction of facilities in other states. Nebraska utilities will also increasingly buy and sell power on the wholesale markets that are encompassing larger geographic regions and becoming more robust. Nebraska systems may also seek structural changes to enhance cooperation and maintain low wholesale power supply costs. Some of these concepts could require changes in existing law. For example, statutory changes might be needed to allow a public/private partnership to construct new generating facilities. In addition, creation of a Nebraska generation organization or other public-to-public partnerships may not be permissible under existing law.

Given the orientation of Nebraska law to operation of non-profit consumer-owned monopoly systems, it is generally agreed that the transition to retail competition would require a comprehensive revision of current statutes. The revision would alter existing law and establish new law and authorities, as well as designate and fund a statewide agency to augment local control. Key provisions, policy and philosophy would need to be altered. For example, the key statutes relevant to the issue of retail competition in the electric industry are contained in chapter 70, article 10 of the Nebraska statutes. It is here the legislature has stated the policy of the state is to "avoid and eliminate conflict and competition" between the state's power suppliers at both the retail and wholesale level. What follows in that article is a regulatory framework for achieving that policy through the Nebraska Power Review Board. It is has been the PRB's responsibility to establish exclusive service areas for all of the state's retail electric suppliers and resolve any service area disputes.

In the absence of an agreement between the power suppliers or an annexation, the only way to modify a service area is by establishing that the present supplier cannot or will not furnish adequate service or that its doing so would be a wasteful duplication of facilities. In addition, existing law provides that in the absence of an agreement between suppliers, no supplier shall offer to provide service to customers outside its service area or construct lines into the service area of another supplier without the approval of the Power Review Board. While it is assumed that with retail competition the duplication of facilities would still be prohibited, this section on offering retail service outside of a supplier's assigned service area would be one of the key sections needing amendment.

Another key section of statute related to retail competition pertains to rate-setting. Public power districts are specifically required by state statute to sell power at rates deemed to be fair, reasonable, and non-discriminatory. While this provision of state law does not apply to municipal utilities or cooperatives, such entities are probably subject to similar rate-making standards pursuant to common law.

There is some concern that implementation of retail competition will inherently involve price discrimination and violate this statutory and common law requirement. This is so because retail electric competition generally allows for negotiated private sales of power at prices that are not disclosed. Such sales are set based on market conditions at the time rather than on a cost of service basis. Under true competition a properly functioning market should prevent price discrimination. However, in actual practice, such discrimination may occur in a non-regulated Nebraska retail electricity market. These concerns would need to be addressed in any restructuring legislation.

Extensive changes would also be needed to address any restructuring of generating, transmission and distribution operations. In sum, a comprehensive redraft of existing law would be required.

Electric utilities represent a major source of revenue to federal, state and local governments. Many of today's tax laws were enacted under the assumption that electricity would be provided primarily by utilities operating on a monopoly basis with price set by cost of service rate regulation. Investor-owned utilities are subject to federal, state and local taxes. Most rural electric cooperatives are exempt from federal and state income taxes, but do pay other types of state and local taxes. Utilities owned by state or local governments are not subject to most federal, state and local taxes, although they may make payments in lieu of taxes. All utilities collect taxes imposed on their consumers. Finally, federal electric utilities are generally exempt from federal, state and local taxes.

Traditional rate-of-return regulation permitted governments to use utilities as tax collectors. Competition and nontraditional regulation ultimately may preclude the simple pass-through to ratepayers of a utility's tax burden. Consequently, these changes bring pressure upon regulators, legislative bodies and electric utilities to evaluate tax costs. New forces in the electric utility industry (competition from independent power producers, open transmission access, power marketing, electricity commodity markets), resulting in part from the Public Utility Regulatory Policies Act of 1978, the Energy Policy Act of 1992, and Federal Energy Regulatory Commission Order No. 888 already are creating unprecedented tax policy issues.

The present state and local tax regime for the electricity industry creates four general policy issues in connection with electric utility competition. First, absent changes in the tax laws, competition is likely to reduce state and local tax revenue, as economic activity shifts away from the highly taxed regulated utility sector into less highly taxed sectors. Second, interstate issues could arise as market share and tax balances shift. Third, the present tax structure tends to treat different providers of electricity inconsistently, so that when they start to compete with each other, the differing tax treatments may affect the competitive balance between them. Fourth, "private-use" restrictions on tax exempt-bonds are an important issue at the federal level that has far-reaching impacts for consumer-owned systems in Nebraska. Each of these four issues is discussed below.

There is a possibility of a significant state tax revenue loss arising from electricity industry restructuring and competition. To some extent, adverse tax revenue impacts may be counterbalanced by improved economic growth resulting from competition. Some economic analyses suggest that lower energy prices encourage businesses to invest in plant and equipment and thereby increase the rate of economic growth. However, any revenue gain from improved economic performance would probably only occur several years after the revenue loss from industry restructuring, leading to tax shortfalls in the interim. Loss of revenue could result from electricity price reduction, loss of market share by in-state utilities, and lower property tax assessments.

Electricity Price Reduction: Many people believe that changes in regulation and increased competition will reduce electricity prices for some or all classes of consumers, which could reduce revenue from electricity taxes that are computed as a percentage of price, such as gross receipts taxes, sales and use taxes, utility user taxes, franchise fees and regulatory assessment fees.

To some extent, lower prices could induce an increase in the quantity of electricity consumed, and these additional electricity sales could produce additional tax revenue. Thus the sensitivity of electricity demand to its price ("elasticity of demand") is an important factor in determining the revenue loss from competition. Studies indicate that demand for electricity in the short run is most price-sensitive for industrial users, somewhat less sensitive for commercial users and relatively insensitive for residential users.

In the longer term, lower electricity prices could encourage consumers to purchase more electricity-consuming products. Some businesses may switch from other sources of energy to electricity and purchase more electrical equipment. After several years have elapsed, there could be a larger increase in electricity demand than was the case shortly after the price reduction. In this scenario, over the long term there would be a correspondingly smaller loss of revenue from gross receipts and similar taxes on account of the price reduction and possibly no tax loss at all on a general net basis. Specific entities could be affected for the long term, however.

Market Share: Some parties believe that industry restructuring in some markets may reduce the share of electricity generation provided by in-state electric utilities and increase the share provided by non-regulated businesses, tax-exempt providers and providers located outside of the state in which the electricity is used. Restructuring may also affect the share provided by rural electric cooperatives. Jurisdictions that tax investor-owned utilities and other entities more heavily than other electricity providers may cause these entities to lose market share under restructuring. This could happen if the jurisdiction imposes a gross receipts tax on regulated utilities and a net income tax on other businesses, taxes in-state purchases of electricity but exempts out-of-state purchases, or imposes higher gross receipts tax rates on utilities than on non-regulated providers. This shift will reduce tax revenues.

When electricity taxes are imposed on the user and the utility has only a collection responsibility, the increased market share of non-regulated or out-of-state providers will not necessarily change the ultimate tax liability. However, depending on how nexus issues are resolved, it may be much harder for the tax administrator to collect the tax in this situation, because the public utility is not available to act as tax collector. This may not be a problem with respect to large business users, which will either comply voluntarily with a tax imposed directly on them or be brought into compliance through audits, but is likely to be a problem with respect to smaller users unless a mechanism can be found to have the supplier or the distributor collect the tax and remit it to the state. A tax imposed on consumers may impose greater administrative burdens than one imposed on utilities.

Property Tax Assessments: The value of certain kinds of property owned by regulated utilities, such as uneconomic generating plants, may decline on account of competition, which could reduce property taxes in those jurisdictions which assess utility property on the basis of fair market value. There may be a greater tendency to value transmission and distribution property on the basis of its usefulness in the owner's business. When utility plants are taken out of service because they are economically or functionally obsolete, such plant retirements will have an immediate impact on the local jurisdiction's property tax base. Accelerated depreciation results in lower book values for property tax purposes in jurisdictions that base property tax assessments on book value. The revenue loss arising from competition may be especially troublesome for localities that depend heavily on property taxes on utility property.

In response to the revenue loss issue, some have suggested that state and local governments simply accept the revenue decrease on the grounds that lower taxes on electricity are desirable. Others have recommended that utility tax reform neither raise nor lower revenues. Several state proposals have suggested recovering the state revenue loss by taxing all types of energy consumption. Other proposals suggest taxing all electricity use.

Recommendation: The Task Force recommends that Nebraska adopt revenue-neutral impacts as a minimum policy guideline.

Shift in Market Share: With competition, some states could become net electricity exporters, while other states could become net electricity importers. This development would not change the tax base for the states as a whole. To the extent that particular states or localities expand their share of the national electricity market, however, their tax base may increase at the expense of the importing jurisdictions. However, the exporting states may have to change their tax laws if they want their revenues to increase in line with the expanded tax base.

Legal Challenges: The increase in cross-border activity following competition may produce increased legal challenges to existing state tax laws, which typically were drafted without regard to interstate implications. There could be disputes over interpretations of statues drafted in the pre-competition era, as well as constitutional challenges.

Recommendation: The Task Force recommends discussions with neighboring state governments and state government associations to develop alternatives that avoid interstate conflicts.

From an economic point of view, the benefits of competition arise from having electricity produced by the low-cost providers and allowing consumers to purchase electricity at the price that reflects those costs. If taxes have uneven impacts among different electricity suppliers, those with more favorable tax treatment may gain a competitive advantage and may increase their market share at the expense of those with less favorable tax treatment. Thus, the full economic benefit of competition may not be achieved. When the electricity providers are competing with each other, higher-taxed providers cannot necessarily pass their tax burden through to their customers, so their profit margins suffer and they may have less incentive to expand their capacity than do lower-taxed providers. Thus, providers bear more of the economic burden of the taxes, and the taxes influence who provides electricity and where electrical generating plants are located.

Regulated vs. Non-Regulated Providers: Non-regulated electricity providers (i.e., independent power producers) pay tax on the basis of net income in most states. This generally produces a lower tax burden than would the gross receipts tax. However, it is hard to quantify the precise difference because income tax burdens can vary dramatically depending on the availability of such tax benefits as net operating losses or investment tax credits. Also, if a multi-state taxpayer that produces electricity also engages in highly profitable non-electric business operations in other states, the possibility exists that a net income tax could be more burdensome than a gross receipts tax because the property, payroll and sales of the electric operations would, in effect, apportion taxable income from the non-electric operations into the state where the electricity is produced and sold. Naturally, in states where regulated utilities are subject to both a net income and a gross receipts tax while non-regulated providers are subject only to the net income tax, the burden on regulated utilities will be higher.

In the case of property taxes, many states have enacted rules that have the effect of subjecting property owned by regulated utilities to higher taxes than similar property owned by non-regulated electricity providers. Another issue arises in states that tax real property at a different rate than personal property or which exempt personal property entirely. In some cases, these states define real and personal property differently for regulated utilities than for non-regulated electricity providers. Another source of tax differences between regulated and non-regulated entities is franchise fees imposed on regulated utilities, either to pay for the cost of their regulation or for general revenue-raising purposes. Both state and local governments can impose these fees. Local gross receipts taxes imposed on regulated utilities are also a burden from which non-regulated electricity providers are often exempt. In these situations, tax differences can affect which entity provides electric service to a given customer.

In-State vs. Out-of-State Providers:It is not uncommon for state and local tax laws to impose lower tax burdens on electricity sales to customers located in a state other than the state where the electricity is generated than on sales to customers located in the same state where the electricity is generated. While the Commerce Clause generally would prohibit discrimination against interstate commerce, there appears to be no such blanket constitutional prohibition against discrimination in favor of interstate commerce.

In the case of gross receipts taxes, for example, the tax base is typically gross receipts from sales to customers located in the taxing state. Thus, sales to in-state customers produce taxable receipts. However, if a customer purchases electricity from an out-of-state generator, paying the local utility only for transmission and distribution services, only the gross receipts from transmission and distribution services would be subject to tax. Indeed, unless the out-of-state generator (and any person who transmits the electricity outside the taxing state) have sufficient nexus with the taxing state, the Constitution would prohibit that state from taxing the out-of-state businesses, even if the state were to change its law to impose such a tax. This problem is generally avoided in the case of sales and use taxes. With sales and use taxes, the issue of interstate sales is transformed into the administrative problem of devising effective ways of collecting the use tax on in-state customers in cases where the state cannot collect it from the out-of-state provider.

As electricity providers in different states begin competing with each other, the economic impacts of high property taxes on property owned by regulated utilities will change. In a traditional cost of service-regulated environment, property taxes are largely passed through to the customer, who bears the economic burden of these taxes. To the extent that some customers, such as industrial and commercial consumers, have the ability to reduce their electricity consumption, possibly by switching to alternative energy sources, regulation generally operates to pass the tax burden on to those customers who cannot reduce their electricity use in response to a higher price (i.e., small commercial and residential customers). In a competitive environment, to the extent that a provider who pays high property taxes is competing with one who pays lower taxes, the provider will not be able to pass the difference in taxes onto its customers, and the burden of the extra taxes will shift to the provider, reducing its incentive to make investments in the state with the higher tax burdens. Thus, for taxing jurisdictions, determining the appropriate property tax on electrical generating facilities becomes a more complicated policy problem than in the past.

Taxable vs. Tax-exempt Providers: Historically, public power entities have often received favorable tax treatment for a variety of policy reasons, principally the fact that they are non-profit, consumer-owned entities. In some areas, inexpensive power has been seen as an important element of a strategy for economic development. In others, such as remote rural areas, the cost of providing electricity may be so high that some tax relief has been deemed desirable to relieve the burden of high costs on consumers in those areas. These policy issues will have to be taken into account in determining tax policies in a competitive environment.

To respond to the competitive imbalance problem, various tax reforms have been proposed to make tax burdens more uniform between competing providers of electricity. These proposals include conversion of gross receipts taxes into net income taxes, property tax reforms to treat regulated utility property more like ordinary property, and "use" taxes on electricity produced and purchased outside the state but consumed inside the state.

The Task Force has no recommendation on form of tax, but urges that the chosen form guarantee revenue neutral impacts to the taxing authority.

Interest paid on bonds issued by state and local governments generally is excluded from the bondholder's taxable income. The exclusion from income permits the bond issuer to pay a lower rate of interest relative to bonds paying taxable interest to the holder. As part of state and local governments, public power and municipal utilities are able to issue tax-exempt bonds. In April 1996, the FERC issued Order No. 888, which provides that third parties have the same right to comparable service as the owners of the facilities.

A concern exists that the use of a public power utility's transmission system for the benefit of third parties, particularly private for-profit entities, may cause the public power system to fail the requirements of U. S. Treasury Private Business Use regulations and jeopardize the tax-exempt status of its bonds. Representatives of the nation's public power systems are working with the U. S. Treasury personnel to modify the tax regulations, as appropriate, to enable these systems to maintain the tax-exempt status of their bonds in a competitive bulk power market.

In December 1997, the U. S. Treasury issued its temporary Private Business Use regulations, which are open to public comment and will expire three years from issuance. The proposed regulations state that use of public power district transmission facilities as a result of FERC regulations will not result in non-allowable Private Business Use.

Proposed legislation before Congress would allow continued use of tax-exempt financing for non-competitive use of facilities by public power systems. A compromise may disallow tax-exempt financing for generation facilities but continued use for transmission and distribution.

Recommendation: The Task Force recommends facilitated resolution of the private use issue via enactment of the principles contained in the Gorton-Kerrey legislation now pending in the 106^th Congress (S.386).

The Nebraska Constitution and state statutes provide a comprehensive tax structure for the consumer-owned electric utilities. Regulatory and statutory requirements for the various types of utility systems differ to an extent that may be significant in considering a transition to a competitive retail market.

Nebraska's consumer-owned electric utilities contributed $51.257 million, exclusive of sales and use tax payments, primarily to local governments in 1995 as follows:

Payments in Lieu-of-Taxes (PILOT)	$ 9.957	million
Gross Revenue Tax	21.419	million
General Fund Transfers	1.893	million
Free/Subsidized Services	0.889	million
Distribution System Leases	17.099	million
Total	$ 51.257	million

All electric utilities operating in Nebraska make payments to the state and local governments in one or several of the forms shown above. Payments in lieu-of-taxes and gross revenue tax are set by state statute or local ordinance. General fund transfers and free/subsidized services policies are set at the local level. In addition, some municipalities lease their distribution systems to public power districts and electric cooperatives. Although these lease payments do not constitute a tax equivalent, they are similar to franchise fees.

Each type of tax paid is described below:

Rural electric cooperatives pay real and personal property taxes, which are based on the net book value of their assets.

Leases produce a return on investment on the electric distribution assets owned by the citizens of communities throughout Nebraska. A utility leases the electrical distribution system of a municipality. The utility pays the communities a percent of the adjusted gross revenues realized from the retail sale of electricity in the communities, and sometimes provide a discount on the electricity consumed by government agencies.

Some Nebraska municipalities lease their distribution systems to public power districts and electric cooperatives. NPPD, Loup, Norris and certain Nebraska G & T and Tri-State members lease municipal distribution systems. Although these lease payments do not constitute a tax equivalent, they are similar to franchise fees. These lease payments represent a major expense to the leasing public power system, and a major benefit to the municipalities that lease out their distributions systems.

Some municipalities do not receive an "in lieu of tax" payment, but transfer monies from their electric utility system revenue account to the municipal general fund.

In addition to corporate franchise taxes imposed for the privilege of doing business in a state, some state and local governments impose franchise fees and/or business license fees as part of the agreements under which the utility provides services to customers in their jurisdictions. Generally, the franchise fee equals a percentage of utility revenues from the sale of electricity to customers in that jurisdiction. The local franchise agreement typically states that the franchise fee paid by the utility is in lieu of all other business licenses and permits that other businesses would normally be required to pay. Although designated as a "fee" paid to conduct business in the franchised area, the franchise fee is in essence a tax imposed for general revenue raising purposes. Many rural communities depend upon this revenue to fund much of their county or municipal budgets.

Local franchises or leases and the retail service territory provide the base level of the governance system. NPPD leases and operates distribution systems in 207 municipalities. Other municipalities franchise their service territory to public power districts, cooperatives or other municipal systems. Determinations on the terms of the agreements are made by the local governing body.

Many states subject retail electricity sales to the sales and use taxes generally applied to business operations in the states. If a sales tax applies, it is imposed on sales made in the taxing state. If a use tax applies, it is imposed on the use of a taxable good or service in the taxing state when that good or service has not been subjected to a sales tax, typically because it was purchased out of state. In some states, the sales and use tax laws include exemptions for certain sales of electricity even though the sales or use tax may be in force and applicable to electricity sales generally. Many states allow their local governments to impose sales and use taxes, which can be administered, by the state on behalf of the locality or by the locality itself. Generally, electric utilities are responsible for the collection of state and local sales taxes on electric sales. As part of the collection process, utilities must be aware of which sales of electricity are exempt from sales tax. Electric utilities, like other taxpayers, pay sales tax or use tax on many of their purchases. In most instances, however, generation fuel purchases are exempt.

These utility taxes are paid by consumer-owned systems in Nebraska under the following constitutional and statutory tax provisions:

• Constitutional

Article VIII, Section 11 - Provides that the same payment in lieu of taxes and distribution of taxes that existed in 1957 continue in the future.

• Statutes

70-651.01-Provides that the same payment in lieu of taxes that existed in 1957 continues in the future.

70-651.02 - Provides that the same distribution of payment in lieu of taxes that existed in 1957 continue in the future.

70-651.03 - Provides for gross revenue tax on retail sales of electricity.

70-651.04 - Provides for distribution of gross revenue tax collected on retail sale of electricity.

70-651.05 - Provides clarification and exception for taxes paid by consumer-owned electric utilities.

Some of the policy options to revise Nebraska tax law include replacement of existing taxes with broad-based energy taxes or electricity consumption taxes, repeal of existing sales and use tax exemptions for electricity imported from other states, property tax reform to reduce the differences between utility and non-utility owners of property, and replacement of gross receipts taxes with net income taxes.

Table 7-1 outlines the tax issues that need to be addressed when considering changes in the Current Structure, Limited Access Structure, or Open Access Structure.

The tax policy problems are especially difficult for local governments, which have relied heavily on tax revenues from electric utilities located within their jurisdictions, because these governments have only limited sources of other revenue available to them. It is possible that targeted state aid may be the only effective means of assisting certain local governments with especially severe exposure to tax revenue losses.

One potential tax system would track the restructuring of the industry. With a functional separation of generation, transmission and distribution, and marketing, transmission and distribution (T&D) would be taxed differently than generation and marketing. The T&D intrastate network will remain capital intensive, largely monopolistic, and relatively insensitive to changes in output over the short run. T&D could be taxed along traditional line via a gross revenue tax, property tax, and payments in lieu of taxes. Sales of merchant generators and marketers will vary with the volume of market transactions. They could be taxed on a sales or use basis. The tax could be imposed on all kWh transactions on a uniform basis. This would achieve competitive neutrality. It would also permit taxing kilowatt hours without regard to origin (intra or inter state). This approach would not penalize the low cost producer or imported generation. In cases where double counting might arise, the sales or use tax could be imposed on a value-added basis. All of the major players would continue to pay federal and state income taxes (as appropriate), however, Nebraska would be spared the problem of trying to find some way to tax a portion of the proceeds accruing to interstate suppliers.

Any changes in Nebraska tax laws and regulations will need to be considered in the context of federal law.

The U.S. Constitution imposes important restrictions on state tax laws, most notably the Commerce Clause and the Due Process Clause. These clauses will become much more significant for the taxation of electricity providers as electric utility restructuring proceeds. There are three key concepts to be considered: nexus, apportionment, and non-discrimination.

Nexus is the minimum connection the taxing state must have with the corporation of the activity being taxed. A state's interpretation of nexus cannot violate the Due Process Clause, which in this context focuses on the unfairness that would result if states could tax persons who do not benefit from their services, or the Commerce Clause, which prohibits discrimination against interstate commerce. Historically, a vertically integrated public utility was unconcerned about nexus issues because its operations were limited to a distinct established service area where nexus was clearly present. Electric utility companies are expanding outside of their traditional service territories with new types of services and businesses. Consequently, the industry must now address tax nexus issues based on the interstate operations of these new services and business units. The nexus question will be significant for utility restructuring. States may face constitutional limitations on their ability to impose taxes or collection responsibilities for taxes imposed on others (e.g., sales and use or utility user taxes), such as out-of-state generators or marketers of electricity, unless those persons have a sufficient presence in the taxing state. The precise extent of these limitations is not clear in many cases.

An additional constitutional constraint on state taxing authority arises from the Commerce Clause. When economic activity occurs across state lines, the tax related to that activity must be fairly apportioned among the states in which the activity occurs. One aspect of the fair apportionment standard is called the "internal consistency" test. An example of a tax that could fail the internal consistency test and be ruled unconstitutional would be a tax on the sale of electricity generated in a state coupled with a use tax on electricity generated outside of the state and used within the state. If every state had this tax structure, electricity used in the state where it was generated would be taxed once, while electricity used in a state other than where it was generated and sold would be taxed twice. One way for a state to make sure that it's laws pass the internal consistency test is to provide credits for taxes paid to other states.

The Commerce Clause requires that state and local taxes not discriminate against interstate commerce. Thus, a state tax on purchasers of electricity that applied a higher rate to electricity purchased from out-of-state suppliers than to electricity purchased from in-state suppliers would probably be rejected as violating the Commerce Clause. An evolving issue which may be relevant in evaluating certain proposed changes in electricity taxation is whether a tax structure that may not discriminate as an economic matter, but that does discriminate as a strictly legal matter, violates the Commerce Clause. For example, suppose a state imposes a gross receipts tax on sellers of electricity to in-state consumers, as most states do today, and a comparable tax on imports of electricity for use within the state. If it is assumed that the gross receipts tax is passed through as higher electricity prices, then there is no discrimination in an economic sense - consumers of electricity generated in-state pay the higher price; consumers of electricity generated out of state pay the tax. If one simply considers the legal incidence of the tax, however, there appears to be discrimination because purchasers of imported electricity pay a tax, while purchasers of electricity generated within the state do not directly pay a tax.

The advent of competition and nontraditional regulation poses a need to restructure the existing tax regime for electric utilities. Electric industry competition will present two basic tax issues for state and local governments:

• First, unless existing tax laws are changed, competition is likely to cause revenues to decline in many jurisdictions. This could result from lower electricity prices, a shift in market share from more to less heavily taxed providers, and declining values of property owned by utilities.
• Second, to the extent that various providers of electricity are taxed differently under existing law, these differentials will have a very different economic impact in a more competitive environment than they have had under cost-of-service regulation. Essentially, taxes that have been passed through to customers as higher electricity rates will be borne to an increasing extent by the utilities themselves and will affect who provides power supply and where it is generated.

State laws would need to be revised in a manner consistent with federal law that preserves existing tax revenues while not giving competitive advantage to any group of electric energy providers. Methods for collection of taxes is discussed in Chapter 8.

The Law, Governance, Regulation and Taxation subcommittee of the Advisory Group presented the following points:

1. Public power districts and many municipal systems are subject to "Dillon's Rule" and operations are limited to those enumerated in state statutes.
2. Existing statutes generally define public policy of avoiding conflict and competition between power suppliers. Statutes would need to be revised to accommodate retail competition, particularly regarding exclusive service territories.
3. Unilateral implementation of a retail competition pilot program in Nebraska may result in legal challenges.
4. Existence of "all requirements" provisions in wholesale power contracts may complicate implementation of retail competition.
5. There is no explicit legal prohibition against the construction, ownership, or operation of a generating facility by a private for-profit entity in Nebraska.
6. Legal requirements regarding "fair, reasonable and non-discriminatory rates" may be problematic in a competitive retail environment.
7. Retail competition would require a significant expansion of regulatory oversight.

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