State Department of Assessments & Taxation v. Baltimore Gas & Electric Co.

Opinion by McDONALD, J. As a public utility holding a State-sanctioned monopoly on the distribution of electric power in its service area, Baltimore Gas & Electric Company (“BGE”) is subject to the State ⁶⁷⁴ franchise tax, a gross-receipts tax levied against revenue from that activity. BGE also supplies some of the electric power that it distributes — a sphere in which it once also enjoyed a monopoly but now faces competition as a result of relatively recent State legislation designed to introduce competition into the market for the supply of electric power. This effort to introduce competition into this segment of the electricity market, in the hope that competition will benefit consumers, is sometimes referred to as de-regulation legislation. To facilitate the transition to a competitive market for the supply of electricity, the Legislature first temporarily capped BGE’s rates for the supply of electricity and later provided that consumers would receive certain credits over the period of a year to mitigate a large projected increase in those rates — credits that would be available regardless of the electricity supplier actually selected by the consumer, in order to preserve a level playing field in that market.

The cost of the credits was financed by the issuance of bonds to be repaid through charges that are billed to customers over a 10-year period. The overall scheme involving credits, charges, and bond financing is known as the rate stabilization plan. This case concerns whether, in establishing the rate stabilization plan for purposes of the transition to a competitive market for the supply of electricity, the Legislature either intentionally or inadvertently provided for the credits and charges to affect BGE’s franchise tax liability — the tax related to its monopoly delivery activities unaffected by the deregulation legislation. In our view, it did not.

Background Public Utilities and the Franchise Tax Public Service Companies A public utility is a natural monopoly when it is “obviously uneconomical” to have more than one provider of a particular ⁶⁷⁵ service or commodity. 1 The only question is who will operate that monopoly. In many instances, State and local governments make that choice by awarding a “franchise” to a particular company. The state-sanctioned monopolist is then subject to special government oversight and, in some cases, special taxes. In Maryland, utilities are regulated under the rubric of “public service companies.” See Maryland Code, Public Utilities Article (“PU”), § l-101(x).

Electric companies are one species of public service company and are closely regulated in certain respects by the Public Service Commission (“PSC”). PU § 1 — 101(h), (x); PU § 7-101 et seq. Respondent BGE, founded in 1816, is a Maryland corporation that provides gas and electric service to 1.8 million customers in the State and is subject to that regulatory regime. Franchise Tax Beginning with charter taxes on railroads in the 1830s, 2 taxes on the gross receipts of public utilities were widely adopted across the country.

Such a tax is often referred to as a “franchise tax” as it is viewed as compensation to the public for the legal and property rights that a utility enjoys as a result of its franchise. 3 Franchise taxes have thus traditional ⁶⁷⁶ ly been related (in theory, at least) to the state-sanctioned monopolistic activities of a public utility. 4 For well over a century, Maryland has imposed an annual franchise tax on public service companies. See Chapter 559, § 1, Laws of Maryland 1890, codified as subsequently amended at Maryland Code, Tax-General Article (“TG”), § 8-401 et seq. With respect to an electric utility, the franchise tax is calculated in part as a percentage (2%) of the gross receipts the electric company derives from business in Maryland. 5 TG § 8-403. The franchise tax is administered by the State Department of Assessments and Taxation (“Department”), the Petitioner in this case.

TG §§ 1-101(g), 8-408. The Department has provided some direction in regulation for the computation of the tax. Taxable gross receipts for distribution are derived from “all revenues included in the operating revenue accounts as prescribed by the Federal Energy Regulation Commission [“FERC”].” COMAR 18.08.01.01B(5)(a). Amounts that utilities report to FERC are thus an important starting point in the computation of the tax.

Those figures are to be adjusted if “otherwise specified by Maryland law or regulation.” Id. In addition, certain amounts are to be excluded from the figure for taxable gross receipts, as provided in the franchise tax law. COMAR 18.08.01.01B(5)(d). Deregulation of the Supply of Electricity — 1999 The provision of electric power to a customer may be conceived of as the supply of a commodity — electric power— ⁶⁷⁷ and a service — the delivery of that power to the end user.

BGE’s electricity rates include charges for both electricity supply, sometimes also referred to as the sale of electricity, and electricity distribution, which is the transmission of electricity through a power grid or other delivery infrastructure to the customer. Prior to 2000, both the sale and delivery of electricity were components of one regulated rate, set by the PSC and charged by BGE as the sole provider of electric power to customers in its service area. Separating Supply from Distribution In the 1970s and 1980s, there was a movement to restructure electric utilities inspired by “increased faith in the ability of markets to achieve efficient outcomes through competition and reduced faith in the ability of governments to achieve efficient outcomes through regulation or production of service.” Spence, Can Law Manage Competitive Energy Markets?, 93 Cornell L.Rev. 765, 770 (2008). “[E]conomists began to challenge the premise that the provision of energy service is a natural monopoly at all.... Delivery — transmission and distribution service — is a natural monopoly because the construction of duplicate delivery networks ... is often inefficient.

The production (and sale) of energy, however, is not a natural monopoly. We can unbundle production (and sales) from distribution so that buyers ... can choose their energy supplier even if they must take delivery service from a monopoly provider.” Id. at 772. That view led to the restructuring of the market for electricity in Maryland in the late 1990s. Van Nostrand, Constitutional Limitations on the Ability of States to Rehabilitate Their Failed Electric Utility Restructuring Plans, 31 Seattle U.L.Rev. 593, 610-19 (2008) (describing restructuring of electricity industry in several states, including Maryland).

In 1999, the General Assembly enacted legislation to convert the market for the supply of electric power in the State from a regulated monopolistic market to a less regulated, competitive one. Chapter 3, Laws of Maryland 1999. Under the de-regulation scheme, there are multiple competing suppli ⁶⁷⁸ ers of electric power — the supply component. Regardless of the supplier selected by a customer, electric power is distributed to the customer through the utility with the franchise for the particular service area — the distribution component.

The various electric suppliers set their own rates for the supply of electricity. An electric utility is obliged to continue to offer to supply electricity within its service area — a provision known as “standard offer service” or “SOS” — for customers who, for a variety of reasons, do not obtain service from an alternative supplier or who affirmatively choose standard offer service. PU § 7-510(c). Rates for standard offer service are set through a competitive bidding process and approved by the PSC.

Id. Distribution rates remain regulated, as before, by the PSC. As a result of the 1999 de-regulation law, BGE remained responsible for the distribution of electricity within its service area, although it would now be one of multiple suppliers of electricity. To temporarily ease the burden of the transition on consumers, the General Assembly temporarily capped BGE’s charges for the supply of electricity — a cap that was set to expire in 2006. 6 Limiting the Franchise Tax to Distribution Revenues At the same time that it de-regulated the supply of electricity, the Legislature amended the franchise tax statute to eliminate application of that tax to revenues from the supply of electricity and to apply it only to electricity distribution revenues — i.e., those derived from a utility’s remaining monopoly.

See Chapters 5, 6, Laws of Maryland 1999. In particular, the statute was amended to state that the franchise tax is assessed against public service companies that are “engaged in the transmission, distribution, or delivery of electricity or natural gas” in the State. TG § 8-402(a)(2). In addition, the definition of “gross receipts” subject to the tax ⁶⁷⁹ was amended to include gross charges “for the transmission, distribution, or delivery of electricity or natural gas or for distribution or delivery-related services,” but not “gross charges from the sale of electricity or natural gas.” TG § 8-401(c)(5)(i)(l), (ii)(l).

As a result, the franchise tax now applies to BGE’s charges for the distribution, but not the supply, of electricity. In setting the distribution rate that BGE may charge, the PSC accounts for BGE’s liability for the franchise tax and embeds that cost in the rate. BGE therefore recovers the cost of the franchise tax in the distribution charges paid by its customers. Rate Stabilization Plan — 2006 The anticipated benefits of the de-regulation legislation were slow to emerge.

One commentator has described the aftermath: “When [de-regulation plans] were implemented, the general pattern ... included an initial rate reduction for various customer classes, followed by a multiyear rate freeze. The expected result was that during the rate freeze period, competition would develop and power costs would decline over time, so that upon expiration of the rate freeze, rates would not change, or would perhaps even decline. For the most part, however, the anticipated competition did not develop. Moreover, during the same period, the cost of generating power increased significantly, due primarily to increases in the costs of the underlying fuel sources.

When the anticipated benefits of competition failed to materialize, states considered various options for rehabilitating their programs.” Van Nostrand, supra, at 593-94. In Maryland, the General Assembly developed what came to be known as the “rate stabilization plan.” Deferml Credits Followed by Rate Stabilization Charges In 2006, as the statutory cap on BGE’s rates for supply of electricity was about to expire, BGE announced that it would raise its market-based rate for the supply of electricity by up to 72 percent. (No change was to be made in its charge for distribution of electricity, which had been set in a 1993 rate case before the PSC.) The General Assembly then convened in ⁶⁸⁰ a special session and enacted a rate stabilization plan to mitigate the impact of rising electricity supply rates on consumers. Chapter 5, § 1, Special Session, Laws of Maryland 2006, codified at various provisions including PU § 7-520 et seq. § 7-547 et seq, 7 The plan deferred the effect of market-rate pricing by essentially capping BGE’s initial rate increase for the short term at 15 percent and spreading the rest of the increase over 10 years.

This was accomplished by temporarily offsetting the actual increased cost of electricity supply to customers with “deferral credits” and recovering that offset in later years by including “rate stabilization charges” in subsequent customer billings for up to 10 years. PU § 7-548. In that way, the increase in electricity supply costs would be moderated and spread over a period of years. Making the Credits and Charges “Nonbypassable” to Level the Playing Field The provision of initial credits and subsequent charges to BGE’s supply rates, however, had the potential to disrupt the desired competition in the electricity supply market.

If the credit applied solely to BGE’s supply charges, BGE’s rate for electricity supply would at first be artificially lower, giving it an advantage over competing suppliers. Conversely, if stabilization charges were later imposed solely in conjunction with BGE’s supply charges, BGE’s rates would be artificially higher than those of competing suppliers. Customers would have an incentive — unrelated to competitive market prices — to switch suppliers initially to obtain the credit and later to avoid the corresponding charge. To ensure competitive neutrality, BGE’s rate for electricity supply needed to be stated at its competitively-determined market rate and both the credits and charges had to be “nonbypassable” — applicable to all consumers whether they ⁶⁸¹ purchased electricity from BGE or a competing supplier.

Pertinent to this issue, BGE retained a monopoly on electricity distribution within its service area and all customers, regardless of their electricity supplier, received electricity distribution service from BGE. To ensure that BGE’s stated rate for electricity supply did not appear artificially high or low for the duration of the rate stabilization plan, the statute provided that BGE was to charge the full cost of standard offer service. PU § 7-524(a)(1). To prevent customers from obtaining the credits while avoiding the charges and to ensure a level playing field, the legislation directed that both the credits and the charges were to be “reflected as nonbypassable credits or charges on the electric distribution portion of each residential customer’s bill.” PU § 7-524(a)(2); see also PU § 7-548(a)(3).

Financing the Credits The deferral credits would also have the effect of temporarily reducing BGE’s revenues from electricity supply. The 2006 rate stabilization legislation provided a mechanism for BGE to finance its costs of electricity supply during the period that it was deprived of revenues related to that activity. The legislation provided that the PSC could authorize BGE to create a special purpose financing entity that would sell bonds to replace the forgone supply revenue. The bond debt would be repaid from the revenue stream attributable to the later rate stabilization charges.

PU § 7-520 et seq. Implementing the Plan Through a Qualified Rate Order and Riders In accordance with the 2006 legislation, BGE applied to the PSC for a tariff to implement the plan, and for the creation of the bond-issuing entity to finance the plan. PU §§ 7-520(f), 7—523(b), 7-548(a)(4). The resulting Qualified Rate Order and accompanying Financing Credit Order (collectively, the “Order”) approved the deferral of electricity supply costs and subsequent recovery of the costs through stabilization charges, as well as the application of the credit and charges to the billing of all present and future delivery customers within ⁶⁸² BGE’s service territory.

Consistent with the 2006 legislation, the Order provided that the credits and subsequent charges were “nonbypassable.” If a customer in BGE’s service territory were to switch electricity suppliers or if another entity took over distribution services in part of BGE’s service area, the charges would still be collected from the customer. The Order also approved BGE’s plan to establish RSB BondCo LLC (“BondCo”), a special-purpose financing entity to issue bonds. Revenue from the sale of the bonds would be transferred to BGE in exchange for the right to impose and collect BGE’s future stabilization charges and all other rights, title, and interest in those charges (collectively called “rate stabilization property”). PU § 7-520(i); 2006 Md. PSC LEXIS 32 at ²⁴.

BGE was authorized to use bond revenue to offset its rate stabilization costs. The rate stabilization charges that it collected from customers would thereafter be transferred to BondCo to make principal and interest payments with respect to the bonds — the only permissible use of the stabilization charges. BGE also filed two “riders” with the PSC to establish new line items on the distribution portion of customers’ bills, one for the deferral credits and one for future stabilization charges. The credit was subsequently reflected on BGE’s customers’ bills for 2006. 8 In June 2007, through the issuance of bonds backed by BGE’s pledge of the rate stabilization property, BondCo transferred $623.2 million to BGE to finance its rate stabilization costs.

The 2006 rate stabilization law did not amend the franchise tax statute. Nor did the Qualified Rate Order explicitly ⁶⁸³ purport to affect BGE’s distribution rates or its franchise tax liability. Franchise Tax Dispute Initial Franchise Tax Return Following passage of the 2006 rate stabilization law, BGE took the position that the legislation had the effect of deferring part of its franchise tax liability during the period that credits were applied to customers’ bills. In its view, the stabilization credit had the effect of decreasing BGE’s distribution revenue during those years and, as a result, its liability for the State franchise tax.

Under this approach, its subsequent collection of stabilization charges would increase its distribution revenue in future years, thereby increasing its tax liability in later periods. In June 2006, BGE presented its position to the Department. In a letter dated August 1, 2006, the Department rejected BGE’s position. In the Department’s view, the deferral credits and subsequent charges had the effect of deferring part of BGE’s electricity supply revenues which, unlike distribution revenue, are not subject to the franchise tax.

Further, the Department viewed the future rate stabilization charges as property of BondCo; because BondCo was not a public utility company subject to the franchise tax, the Department reasoned, neither were the stabilization charges it would receive. On March 15, 2007, BGE filed its 2006 franchise tax return consistent with the Department’s guidance — i.e., it did not offset its distribution revenues with the total amount of deferral credits. 9 ⁶⁸⁴ Amended Return and Refund Request A short time later, however, on April 25, 2007, BGE filed an amended return that updated certain items and also reflected its position on the appropriate treatment of the deferral credits and stabilization charges. In the amended return, BGE excluded $322 million from taxable revenue on the basis of deferral credits. 10 BGE claimed a refund of approximately $6.4 million. The Department rejected the treatment of the deferral credits in the amended return.

The Department recalculated the amended return and concluded that, in light of other updated items in the return, BGE actually owed an additional $115,460 in franchise tax. Tax Court Decision Denying Refund BGE appealed the denial of its refund claim to the Maryland Tax Court. The Tax Court held that, despite the statute’s direction that the deferral credits were to be reflected on the distribution portion of customers’ bills, the credits actually related to charges for the sale of electricity that were not subject to the franchise tax. The Tax Court further found that, under generally accepted accounting principles, the distribution revenue was certain and subject to taxation at the point it was billed by BGE.

The Tax Court upheld the Department’s denial of the claimed refund. Judicial Review of Tax Court Decision BGE sought judicial review of the Tax Court’s decision in the Circuit Court for Anne Arundel County. The Circuit ⁶⁸⁵ Court concluded that the Tax Court had misinterpreted the governing statutes, that the statutory direction to show credits and charges on the distribution portion of a customer’s bill had the “unintended consequence” of affecting BGE’s franchise tax liability, that the Tax Court decision would subject BGE to “double taxation,” and that BGE was entitled to the claimed refund of approximately $6.4 million plus interest with respect to amounts paid for the 2006 franchise tax. The Department appealed that decision to the Court of Special Appeals, which affirmed in an unreported decision.

Although the Court of Special Appeals agreed that BGE should receive a refund, it did not adopt the rationale that the Tax Court’s interpretation amounted to double taxation. Rather, it concluded that the 2006 law’s direction to place credits and charges on the distribution portion of a customer’s bill had the “unintended effect” of deferring taxes owed by BGE on distribution revenue. On petition by the Department, we granted a writ of certiorari to determine whether the deferral credit affected BGE’s distribution revenues for purposes of computing its franchise tax liability. Standard of Review Our task is to review the decision of the Tax Court. 11 The parties disagree as to what standard we should apply.

The Department argues that we should accord deference to the Tax Court’s interpretation of tax statutes and regulations, such as those relating to the franchise tax at issue here. BGE argues that, because the Tax Court does not typically construe the State’s public utilities law, we should give its decision no special deference. We agree with the Department that the Tax Court’s construction of the franchise tax would ordinarily be presumed to ⁶⁸⁶ be valid. 12 However, the resolution of this dispute turns in large measure on an understanding of the 1999 electricity deregulation law and the 2006 rate stabilization law — laws that restructured the State’s regulation of electric utilities, not the usual bailiwick of the Tax Court. The question here, as framed in the reviewing courts below, is whether the Legislature stumbled into an amendment of BGE’s franchise tax liability while focused on rate stabilization under the public utility law.

In that context, we review the Tax Court’s legal conclusions without according them a presumption of correctness. See Frey v. Comptroller, 422 Md. 111, 138 , 29 A.3d 475 (2011). Discussion As indicated above, Maryland’s franchise tax applies to an electric utility’s gross charges for transmission, distribution, and delivery of electricity, but does not apply to its gross charges for the sale of electricity. TG § 8-401(c)(5).

In other words, the franchise tax applies to BGE’s revenue from distribution services — where it acts as a regulated, State-sanctioned monopolist — but does not apply to its revenue from the sale of electricity — where it potentially faces competition from alternative suppliers of electricity. The central question in this case is whether the credits and charges created under the 2006 rate stabilization plan should be attributed to the distribution or supply sides of BGE’s ⁶⁸⁷ business for purposes of the franchise tax. The Tax Court looked to the nature of the credits and charges to conclude that they should be attributed to the supply side of BGE’s business. BGE contends that the statute, and the administrative actions implementing it, contradict that conclusion.

Statutory Language BGE argues that the plain language of the 2006 rate stabilization law treats the deferral credits and subsequent charges as part of its distribution revenue, not as a component of revenue from the sale of electricity, and thereby defers its current franchise tax liability. It relies primarily on the statute’s direction that the stabilization