In Revenue Procedure 2017-47, the IRS creates a safe harbor for owners of public utility property under which it will not assert that a taxpayer violated the normalization rules by "inadvertently or unintentionally using a practice or procedure" that is inconsistent with Sections 50(d)(2) and 168(i)(9). The revenue procedure defines the normalization rules as those provided: (1) under former Section 46(f), as in effect immediately before enactment of the Revenue Reconciliation Act of 1990 (RRA), for purposes of the investment tax credit (ITC); and (2) under Section 168(i)(9), as in effect immediately before enactment of the RRA, with regard to the accelerated cost recovery system for depreciation.

Background

Under Section 168(f)(2), accelerated depreciation does not apply to any public utility property if the taxpayer does not use the normalization method of accounting. The normalization method of accounting requires a taxpayer to depreciate its public utility property when computing its tax expense for ratemaking purposes and operating results in its regulated books (FERC). The normalization method requires taxpayers to use a depreciation method that is the same as, and a depreciation life that is not shorter than, the period used to compute their depreciation expense for these purposes. The normalization rules require the establishment of a reserve for deferred taxes to reflect the difference between federal tax expense per tax return and federal tax expense per ratemaking related to depreciation of public utility property.

The taxpayer is not using the normalization method of accounting if it uses a procedure or adjustment inconsistent with the requirements of Section 168(i)(9)(B)(ii). Inconsistent procedures and adjustments include the use of an estimate or projection of the taxpayer's tax expense, depreciation expense or reserve for deferred taxes unless the taxpayer also uses the same procedure or adjustment for ratemaking purposes for other two and uses the same procedure or adjustments in determining rate base.

Revenue Procedure 2017-47

To qualify for the safe harbor, a taxpayer must have "inadvertently or unintentionally failed to follow a practice or procedure" that is consistent with the normalization rules. Upon recognizing that failure, a taxpayer must change to a consistent practice or procedure at the next available opportunity, usually the current or next rate case. The taxpayer must also retain contemporaneous documentation demonstrating the effects of the inconsistent practice or procedure and the change. If the taxpayer meets these requirements, then the IRS will not assert a violation of the normalization rules and will not deny the taxpayer the benefits of the ITC or accelerated depreciation based on the use of the inconsistent practice or procedure.

The IRS notes that it will not consider a taxpayer's inconsistent practice or procedure "inadvertent or unintentional" if the taxpayer's regulator specifically considered and addressed the inconsistent practice or procedure in the application of the normalization rules when establishing or approving the taxpayer's rates. This is true even if the regulator did not believe the practice or procedure was inconsistent with the normalization rules.

If a taxpayer identifies an inconsistent practice or procedure, but cannot yet change methods, the taxpayer must attach a statement to its tax return reflecting the inconsistency and the next opportunity to change to a consistent practice or procedure.

Revenue Procedure 2017-47 is effective for tax years ending after December 30, 2016. The IRS will not, however, challenge any inconsistent practice or procedure in any earlier tax year if the applicable requirements under the guidance are met.

Implications

Historically, certain taxpayers that discovered they had inadvertently misapplied the normalization rules were required to obtain a private letter ruling to confirm that the normalization penalties would not apply. This relief will be welcomed by the industry.

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