Rev. Rul. 87-30

1987-1 C.B. 68, 1987-16 I.R.B. 4.

STATE AND LOCAL BONDS

Published: April 20, 1987

Section 103.-State and Local Bonds, 26 CFR 1.103-8: Interest on bonds to finance certain exempt facilities

(Also Section 61, 142; 1.61-7.)

  State and local bonds. An investor-owned public utility serving no more than two contiguous counties has an undivided interest in a nuclear generating plant that provides service to more that two such counties. The undivided interest does not qualify as a facility for the local furnishing of electric energy for purposes of section 142(a)(8) of the Code.

ISSUE

  Whether an undivided interest in a nuclear generating plant that provides service to more than two contiguous counties qualifies as a facility for the local furnishing of electric energy for purposes of section 142(a)(8) of the Internal Revenue Code if the user of the undivided interest provides service to no more than two such counties.

FACTS

  PU, an investor-owned public utility, is engaged in the business of generating, transmitting, and distributing electric energy to a service area within two contiguous countries of state X, PU entered into an agreement with other utilities to construct a nuclear power plant in which PU will own an undivided interest.

  PU is obligated to pay for a portion of the capital, operating, and maintenance costs of the nuclear generating plant in proportion to its ownership interest, and is entitled to a pro rata share of the capacity and output of the plant. PU's share of the electric energy will be in amount needed to supply customers in its two-county area. The electric energy will be transmitted from the nuclear power plant, which is located outside the two- county area, to the two counties, PU's share of such capacity and output will enable PU to reduce both its purchases and its own local generation of higher- cost energy, a reduction that will allow PU to avoid increased fuel costs that otherwise would be incurred by its customers. The energy entitlements of the other public utilities with ownership interests in the plant will be transmitted to their service areas in other counties in state X and other states in the region.

LAW AND ANALYSIS

  Section 103(a) of the Code provides generally that gross income does not include interest on any state or local bond. Section 103(b) provides that section 103(a) shall not apply to any private activity bond which is not a qualified bond. Under sections 141(d)(1)(A) and 142(a)(8), private activity bonds issued to provide 'facilities for the local furnishing of electric energy or gas' are treated as qualified bonds if they meet certain requirements. Section 142(f) provides that, for this purpose, the local furnishing of electric energy or gas from a facility shall only include furnishing solely within the area consisting of a city and 1 contiguous county, or 2 contiguous counties.

  The exemption for bonds issued to provide 'facilities for the local furnishing of electric energy or gas' was formerly contained in section 103(b)(4)(E) of the Code. Section 1.103-8(f)(2)(iii) of the Income Tax Regulations defines such facilities as property that-

  (a) Is either property of a character subject to the allowance for depreciation provided in section 167 or land,

  (b) Is used to produce, collect, generate, transmit, store, distribute, or convey electric energy or gas,

  (c) Is used in the trade or business of furnishing electric energy or gas, and

  (d) Is a part of a system providing service to the general populace of one or more communities or municipalities, but in no event more than 2 contiguous counties (or a political equivalent) whether or not such counties are located in one State.

  Section 1.103-8(f)(2)(iii) of the regulations provides further that the facilities need not be located in the area they serve.

  Example (13) in section 1.103-7(c) of the regulations treats as undivided interest in an electric generating facility as a separate property interest for purposes of determining whether bonds are industrial development bonds.

  If PU's undivided interest in the plant were treated separately for purposes of applying section 142(a)(8) of the Code, the interest could qualify as part of a system which provides service to no more than two contiguous counties. However, the plant is a single integrated facility that will provide service to a larger area comprised of several states. To view PU's undivided interest as a system separate from the other undivided interests in the facility for purposes of applying section 142(a)(8) is inconsistent with the ordinary meaning of the term 'system.' Moreover, such a view would permit tax exempt financing for facilities that serve a large geographic area, in contravention of the Congressional intent to limit the exemption to facilities that serve a small geographical area.

  The considerations which led to treating the undivided interest in Example  (13) as a separate property interest do not apply here. The issue in Example (13) is whether the undivided interest is to be used in the trade or business of the other nonexempt owner, whereas the issue here is the geographic area in which electric energy produced at the facility is to be furnished. Since the plant is a single integrated facility that will furnish electric energy to an area larger than two contiguous counties, no portion of the plant can qualify as a facility for the local furnishing of electric energy.

HOLDING

  An undivided interest in a nuclear generating plant, under these circumstances, does not qualify as a facility for the local furnishing of electric energy for purposes of section 142(a)(8) of the Code.

Rev. Rul. 87-30, 1987-1 C.B. 68, 1987-16 I.R.B. 4