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March 21, 2022

IRS again rules that normalization rules do not apply to cost of removal

In PLR 202211004, the IRS ruled that a regulated gas and electric utility did not violate the normalization rules by excluding the cost-of removal (COR) component of book depreciation in the future average rate assumption method (ARAM) calculation after formerly including COR in its deferred tax balance subject to that calculation.


Taxpayer is a regulated electric and gas utility. A Commission establishes Taxpayer's rates based on its costs, including a return on capital (rate of return).

In calculating its deferred income tax liability, which affects its rates, Taxpayer computed the timing differences between (1) book depreciation (which included salvage value and COR expense) and (2) tax deductions for tax depreciation and incurred COR, based on a 35% corporate tax rate. The Tax Cuts and Jobs Act (TCJA) subsequently reduced the corporate income tax rate to 21%. At issue is how to compute the amortization of Taxpayer's EDIT under ARAM given the 21% rate, which will result in a reduction of customer rates.

COR is a normalized expenditure and a component of book depreciation. From a tax perspective, the costs are deductible when the asset is removed from service. Thus, its inclusion in book depreciation creates a deferred tax asset (DTA) representing the future benefit from the eventual COR tax deduction and is included in Taxpayer's accumulated deferred income tax (ADIT). The net positive value or net cost of disposing of an asset at the end of its life is incorporated into the annual depreciation charge.

Taxpayer had previously included COR and salvage value in its book depreciation calculation. For the latest rate-setting period, Taxpayer began tracking its salvage and COR reserves separately from its depreciation calculation.

The Commission contends that the COR component of book depreciation should be included in the annual ARAM computation that Taxpayer uses to amortize EDIT. Taxpayer contends that doing this would accelerate the amortization of EDIT too quickly, in violation of the normalization rules, which only apply to the timing difference associated with accelerated depreciation.

Law and analysis

Under IRC Section 168(f)(2), the depreciation deduction determined under IRC Section 168 does not apply to any public utility property (PUP) if the taxpayer does not use a normalization method of accounting.

To use a normalization method of accounting, the taxpayer must, under IRC Section 168(i)(9)(A)(i), use the same depreciation method in determining its tax expense for ratemaking and operations purposes. The method used may not be shorter in period than the method and period used to compute the taxpayer's depreciation expenses.

If the amount allowable as a deduction under IRC Section 168 differs from the amount that would be allowable as a deduction under IRC Section 167, the taxpayer must, under IRC Section 168(i)(9)(A)(ii), adjust the reserve to reflect the deferral of taxes resulting from the difference.

Under TCJA Section 13001(d)(1), a taxpayer that computes its cost of service in ratemaking by reducing the excess tax reserve (ETR) more rapidly than under ARAM is not using the normalization method.

In ruling that excluding COR did not violated the normalization rules, the IRS said that the Commission's method "results in the recovery of EDIT over a shorter period than the remaining life of the property. Simply stated, the annual timing difference reversal provided in [the Commission's] method is overstated by the COR, which is not included in the aggregate timing differences for the property at the beginning of the year. Rather than only establishing a new deferred tax asset for a new COR accrued for books, the new COR also is used to accelerate the recovery of the EDIT."


This ruling goes one step further than prior COR rulings (PLR 202141001 (Tax Alert 2021-1901) and PLR 202124003 (Tax Alert 2021-1314)) by not only finding that COR is not subject to the normalization rules, but that taxpayers that have COR embedded in their property-related EDIT do not need to extract COR from the calculation. If, however, any component of book depreciation includes COR, then taxpayers should consider modifying the ARAM calculation to exclude any book depreciation associated with COR.


Contact Information
For additional information concerning this Alert, please contact:
Americas Power & Utilities Tax Group
   • Mike Reno (
   • Jim Barrett (
   • Kelly Laws (