The Energy Policy Act of 2005 - An Executive Summary

By The Energy Policy and Regulatory Group

On August 8, 2005, the Energy Policy Act of 2005 (Act) was enacted. It has been almost 13 years since the enactment of major energy legislation. The primary concern driving the Act is the belief that the United States needs an assured domestic fuel and energy supply, particularly in the face of gasoline prices at historic highs.

Thelen Reid’s Energy Policy and Regulatory Group believes that this Act and its policies are certain to have a significant impact on energy industry participants. With this in mind, we have prepared this Executive Summary to provide an overview of certain provisions of the Act and our team’s analysis.

This summary is intended to provide a brief synopsis of the Act and its possible ramifications. If you are interested in receiving a detailed analysis, please contact a member of the Thelen Reid Energy Policy and Regulatory.

The last remaining piece of New Deal business legislation, the Public Utility Holding Company Act of 1935 (PUHCA), will be repealed 6 months after enactment of the Act on or about February 8, 2006. Companies should take advantage of this delay to conduct strategic planning and consider transactions involving the purchase, sale, merger and restructuring of U.S. electric and gas utilities and assets.

PUHCA has limited the growth and expansion of electric and gas utility companies in the U.S. It also has restricted utility holding companies from owning other businesses not reasonably functionally related to the utility business. It has discouraged broader ownership of utilities by diversified companies as well as by domestic and foreign industrial and financial institutions.

The repeal of PUHCA will impact the structure of the U.S. utility industry directly by providing new opportunities and removing many State and Federal obstacles to utility ownership. It includes the following:

• Elimination of Ownership Restrictions. Opens the market for ownership of utility companies by diverse investors, including private equity investors and funds, oil companies, telecommunications and Internet companies, financial services and foreign companies.

• Elimination of Geographic Restrictions. Removes the geographic limits on ownership of electric and gas utilities by utility holding companies.

• Electric Transmission Business. Encourages growth by removing roadblocks and allowing companies to take better advantage of economic incentives.

• Elimination of Qualified Facility (QF) and Exempt Wholesale Generator (EWG) Limitations. Facilitates expansion of non-utility generation resources.

• EWGs. Should eliminate the need for State approval of transfers of generation facilities from electric utilities to EWGs.

• Foreign Utility Companies (FUCOs). Should remove certification, limitations and requirements by State commissions involving use of utility funds or guarantees to support FUCO investments, or pledges of utility assets. However, many States may adopt new requirements.

• Exempt Telecommunications Companies (ETCs). Removes certification requirements at the Federal Communications Commission (FCC) and State approvals.

• Banks and Brokers, Dealers and Underwriters of Securities. Removes these entities from being treated as utility holding companies under certain circumstances.

• Unbundling of Assets. Simplifies restructuring of utility assets and financings.

• Mergers, utility rates and auditing powers would remain subject to on-going utility regulation by State and other Federal agencies.

• Federal Energy Regulatory Commission (FERC) and State regulators may adopt new rules to fill perceived gaps in consumer protection.

• Section 203 of the Federal Power Act (FPA) has been amended, effective 6 months after enactment, to give FERC jurisdiction over the acquisition of generating facilities with a value in excess of $10 million and jurisdiction over holding companies making various electric utility investments and applies new standards (relating to "cross-subsidization") to those acquisitions and electric utility mergers.

Reliability standards applicable to the transmission grid are presently developed by the North American Electric Reliability Council (NERC) and regional reliability councils, with advice from utility personnel. Compliance is voluntary. The Act provides for the creation of an Electric Reliability Organization (ERO), under the oversight of FERC, to develop mandatory reliability standards for the bulk-power system.

The Department of Energy (DOE) and FERC will have a greater role in transmission infrastructure expansion and modernization:

• Bottleneck concerns will be identified by DOE through required periodic studies of electric transmission congestion corridors.

• FERC will be authorized to issue permits for construction or modification of transmission facilities within DOE-designated corridors where States lack authority to do so or fail to act in a timely manner.

• Federal power marketing agencies may participate with third parties in new construction and upgrades of transmission systems.

• A report will be prepared on development of a real-time information system showing the functional status of transmission lines.

• Deployment of advanced transmission technologies will be encouraged by FERC.

• The Act would allow for transmission operation improvements through the following:

• Municipalities, cooperatives, and Federal power marketing agencies can be ordered to provide open access transmission services at rates and terms comparable to their own.

• In meeting its native load service obligations, an entity will not be required to relinquish transmission rights to third-party users of the system.

Transmission rate reform is also addressed. Under the Act, FERC is directed to establish rules for incentive rates, including performance-based rewards, for new transmission investments in order to enhance reliable and economically efficient transmission and generation of electricity. Transmission providers will have greater chances to recover costs invested in new transmission facilities and upgrades through direct assignment, participant funding or rolled-in cost recovery.

Finally, revised merger rules, effective 6 months after enactment, will increase the threshold for which FERC merger approval is required to $10 million; FERC approval will also be required for (a) utility acquisition of existing generation facilities; and (b) holding company acquisition of securities of a utility or holding company above $10 million. The Act requires FERC to consider the potential for cross-subsidization of a non-utility affiliate.

The Act takes an important step toward development of new electricity technologies—in order to allow consumers to help control electricity use and demand—by updating the Public Utility Regulatory Policies Act of 1978 (PURPA). The hope is to go beyond simply encouraging increased conservation and greater efficiency in the supply of electricity.

States are expected to investigate and consider the use of net metering for entities producing and selling some of their own electricity, as well as to make efforts to minimize dependence on fossil fuel. Education programs must be provided to teach consumers about metering and the importance of conservation. The Act would encourage demand response programs and services for the public, with FERC publishing an annual report on resources.

The utility’s obligation to enter into new mandatory purchase and sale contracts with QFs will be terminated if FERC determines that an organized market is available for power sales and purchases. The statutory prohibition against public utility ownership of more than 50% of QFs is also eliminated.

To ensure expanded efficiencies from new cogeneration facilities, additional requirements will be put into place. An electric utility that purchases energy or capacity from a QF under this section will be permitted to recover prudently-incurred purchase costs.

New mandates imposed by the Act with respect to reliability, demand management and reduction, and price transparency will require advanced communications capability. Rather than be a cost burden, these mandates can be turned into an opportunity to leverage existing and new communications assets to increase shareholder value.

• Electricity. Transmission and distribution system communications-related upgrades are addressed through eminent domain authority, requirements for real-time monitoring of transmission facilities, deployment of advanced transmission technologies, and comprehensive research and development programs. Smart metering and demand management will require the use of new communications technologies authorized by the FCC in wireless and broadband over power line (BPL) proceedings. Market transparency and consumer protection requirements also will require communications and data network upgrades.

• Energy Efficiency. The Act’s provisions are complementary to the private sector and will encourage smart metering and advanced communications. The mandates for Federal buildings will result in significant contracting opportunities, many of which need to be addressed within 6 months to a year after enactment.

The renewable energy provisions added by the Act are intended to boost development of existing and new forms of renewable energy, with the most important provisions providing production tax credits for a broad range of renewable energy resources.

The placed-in-service date for qualifying facilities for the Section 45 production tax credit (other than solar and refined coal) is extended to December 31, 2007. The credit period is extended from 5 to 10 years for certain types of qualifying facilities. "Clean renewable energy bonds" can be issued for municipal utilities, Indian tribes and electric cooperatives. Interest on such bonds is "paid" by the Federal government in the form of a tax credit. For additional information on tax provisions in the Act, see Section 16.

Renewable energy development is encouraged through incentive programs, including the publication of renewables inventory and increased renewable energy use in Federal buildings and installations as well as insular areas in the Caribbean and Pacific (to minimize reliance on imports). Other incentive programs establish commercialization, grant and demonstration programs for use of solar electric systems in public buildings, photovoltaic systems (generally), forest biomass recovery, sugar-cane-derived ethanol and modernization of rural transmission and distribution to accommodate renewables. The Geothermal Steam Act is amended to streamline procedures and reduce royalty obligations. Hydropower development is encouraged through licensing, upgrade and tax incentives.

The authorization of funds for renewable energy research, development, demonstration and commercial application activities, including bio-energy, solar, hydrogen, renewable energy in public buildings and ocean energy, is intended to help increase research and development.

Provisions of the Act that have particular significance for competitive generation include changes to PURPA and repeal of PUHCA. (Other provisions in this summary that particularly impact developers and owners include Sections 2, 5, 10 and 16.)

For PURPA, the Act repeals the obligation of utilities to enter into new agreements to purchase electric power from QFs at State-established avoided-cost rates, assuming other provisions are met. There are changes to the purchase and sale obligations for new cogeneration facilities, and limitations on utility ownership of QFs are eliminated. (See Section 3.)

For PUHCA, under current law, one of the principal objectives in structuring an independent power project is to avoid regulation for the project owner and its upstream owners. The repeal of PUHCA removes Federal regulatory obstacles to direct retail sales by independent power producers that are not QFs, thereby facilitating development of independent power projects to serve geographically diverse retail markets. (See Section 1.)

Title VIII of the Act establishes funding of approximately $3.7 billion (over 5 years) for a hydrogen and fuel cell program to enable and promote hydrogen and fuel cell technologies in partnership with industry and to create a mature hydrogen economy in the transportation sector of the U.S., decrease dependency on foreign oil, eliminate most transportation emissions and enhance energy security.

• Coordinated Plan. The Secretary of DOE must transmit a coordinated plan for safe, economical and environmentally sound hydrogen fuel infrastructure, fuel cell applications, distributed power generation, uniform codes and integrity and safety performance, including a 5-year agenda.

• Research, Development and Demonstration Projects. The Secretary of DOE will conduct a program in consultation with other Federal agencies and the private sector to demonstrate and commercialize the use of hydrogen for a variety of applications. In addition, a limited number of hydrogen and fuel cell-related demonstration projects will be funded.

• Interagency Taskforce and Advisory Committee. An interagency task force is to be established by the President within 4 months of enactment. Also, a Hydrogen Technical and Fuel Cell Advisory Committee will be appointed to advise the Secretary of Energy on programs and activities.

• Federal and State Procurement Policies. Certain Federal agencies will lease or purchase fuel cell vehicles and efficient and reliable hydrogen energy systems to meet applicable energy savings goals and will offer incentives to State agencies to encourage the purchase of fuel cell vehicles.

• Solar & Wind Technologies. The Act also provides support for exploration and development of solar and wind technologies for the production of hydrogen, including through the establishment of demonstration projects.

• Hydrogen from Nuclear. The Act fosters commercial production of hydrogen from nuclear power plants.

• Concentrating Solar Energy. The Act promotes research and development regarding the feasibility of hydrogen production from water using only solar energy.

• Incentives for Innovative Technologies. The Act provides loan guarantees for hydrogen fuel cell technology for use in residential, industrial or transportation applications.

• Codes and Standards. The Act supports the timely development of safety codes and standards for fuel cell vehicles, hydrogen energy systems and stationary, portable and micro-fuel cells.

For licensed hydroelectric generating facilities, the Act provides tax and production incentives, including payments to owners for increasing generation capacity or for improving efficiency at existing facilities.

For hydroelectric projects seeking to be licensed, expedited hearings with respect to disputed issues of material fact involving certain Federal resource agencies may be proposed. Relevant Federal resource agencies must consider alternative conditions that may be proposed by license applicants. If the resource agency determines not to adopt the alternative proposal, dispute resolution procedures may be invoked.

The Department of Interior and DOE, in consultation with the Corps of Engineers, will study the potential for increased hydroelectric generation at existing Federal facilities. These studies are to be submitted within 18 months after enactment.

The Act contains provisions to expedite construction of LNG facilities and to facilitate oil and gas leasing and permitting on Federal lands.

• LNG Terminals. FERC is given exclusive authority to approve applications for siting, construction, expansion or operation of LNG facilities.

• Other Natural Gas Facilities. The Act supports the development of new gas storage capacity and designates the FERC as Lead Agency for coordinating Federal authorization and complying with the National Environmental Policy Act.

• Gas and Oil Production Incentives and Federal Lands. The Act provides for increased usage of Federal lands for gas and oil production, and provides other incentives for this production.

The Act adopts certain energy trading behavior rules, that will make various types of energy trading behavior illegal. Other rules are intended to increase the availability of pricing information and offer wider consumer protections.

Provisions include market behavior rules and rules intended to provide price transparency for both natural gas and electricity. FERC will be required to issue rules to make pricing information more available. False price reporting will be prohibited. There will be severe penalties for those companies found conducting round-trip trading. Certain electric cooperatives and governmental entities (selling more than eight million megawatt hours per year) will be subject to FERC’s refund authority.

In addition, the Act gives FERC exclusive jurisdiction to determine whether termination payments are owed under power contracts of entities found to have manipulated the market and whose market-based rate authority has been revoked. In addition, the refund period arising as a result of a complaint filed under Section 206 of the FPA commences upon the filing of the complaint (i.e., sooner than under the prior language).

The Federal Trade Commission (FTC) may issue rules to protect the privacy of electric customers. The FTC may also issue rules prohibiting slamming and cramming from taking place.

The Act significantly expands and increases the criminal and civil penalty provisions of the FPA and the Natural Gas Act (NGA). False price reporting and round-trip trading are specifically prohibited. In both the FPA and the NGA, the FERC is given authority to facilitate greater transparency in wholesale natural gas and electric markets. The exclusive authority of the Commodity Futures Trading Commission (CFTC) under the Commodity Exchange Act is preserved. The FERC and the CFTC are required to enter a memorandum of understanding for information sharing to minimize duplication of market information and to protect proprietary trading information. The Act clarifies the authority of the FERC to investigate the actions of any electric utility, transmitting utility or other entity in order to obtain information about wholesale electric energy sales and the transmission of electric energy.

Most of the requirements for FERC rulemakings and reports to Congress (including studies) must be completed within one year of the Act’s enactment.

FERC rulemakings required by the Act would address various matters, including the following:

• Electric Reliability

• Electric Merger Reform

• Transmission Infrastructure

• PURPA Amendments

• PUHCA Repeal

• Transmission Rate Reform

• Hydroelectric

• Liquefied Natural Gas

• Access to Federal Lands

• Native Load Service Obligation

• Natural Gas Market Manipulation/Transparency

• Electric Market Manipulation/Transparency

Required FERC reports to Congress and studies would address various matters, including the following:

• PURPA Amendments

• PUHCA Repeal

• Transmission System Monitoring

• Distributed Generation

• Electric Energy Market Competition

• Economic Dispatch

• Alaska Natural Gas Pipeline

States have traditionally exercised comprehensive jurisdiction over the electric utility industry. The Act leaves most of the State roles untouched. In certain areas, such as reliability rules and transmission siting, some authority will be removed. However, with provisions repealing PUHCA, State Commissions will be granted additional authority.

• Reliability Standards. Reliability standards will be added through creation of new bodies, most notably the creation of an ERO, under FERC, to establish and enforce reliability standards for the bulk-power system. The State will retain authority over safety, adequacy and reliability of the bulk power system; FERC will determine if the State’s standards are consistent with Federal standards. A majority of States within a region will be able to request creation of a Regional Advisory Body.

• Siting of Interstate Transmission Facilities. The Act establishes a procedure for DOE to designate areas in which the transmission system is constrained. For the first time, FERC will be given backstop authority to issue permits for new facilities under certain circumstances, such as where a State lacks authority or does not act in a timely manner when it has authority. State input and review will still be necessary. FERC transmission siting authority will not apply where three or more contiguous States enter into interstate compacts for transmission siting purposes. FERC is also required to conduct a rulemaking to establish incentive-based rate treatments for transmission investments and is authorized to adopt a participant funding plan.

• PURPA Amendments. Amendments to PURPA include new standards for net metering, smart metering, interconnection and fuel use. It would be a Federal policy to encourage States to coordinate energy policies on a regional basis to provide demand response services to the public.

• Repeal of PUHCA. The Act repeals PUHCA (see Section 1). Upon PUHCA repeal, the State Commissions obtain additional access to books and records. State Commissions retain their jurisdiction over cost recovery for affiliate activities and cost allocation affecting jurisdictional utilities. FERC is given the power to approve generation asset transfers.

• Other affected areas of State regulation. State regulation will also be affected by provisions to protect physical or financial rights to transmission capacity needed by utilities to meet native load obligations. In addition, the FERC and the DOE may seek input from the States regarding studies of economic dispatch of non-utility generation resources, transmission siting and demand response.

Amendments to the Price Anderson Act (part of the Atomic Energy Act of 1954) authorize the Nuclear Regulatory Commission (NRC) to enter into new indemnity agreements with power plant licensees and contractors through 2025 to continue limitations on public liability arising out of certain nuclear incidents. Maximum contributions to liability funds are also increased.

In addition, changes adopted in the Act include expansion of the period of nuclear power plant licenses to 40 years from the date of authorization to commence commercial operation, elimination of antitrust review for new nuclear power plant license applications, and adoption of additional decommissioning trust fund protection. In order to support development of new nuclear power facilities, the Act authorizes DOE to provide standby financial support for developers of up to 6 advanced-design nuclear facilities to compensate for certain delays in commencement of commercial operation.

The NRC has general authority for requiring licensees to protect the physical security of nuclear power plants. The Act provides for regular security evaluations at nuclear power plants, revised criteria for design basis threats to include potential terrorist activities, increased coordination between licensees and national, regional and local authorities, and enhanced employee screening practices.

The Act provides incentives for development of clean coal technology and clean coal projects through the Clean Coal Power Initiative and Clean Power Projects.

The Initiative includes authorization of $200 million per year, from 2006 through 2014, with no less than 70% of funding going toward coal gasification. The Federal share of the cost of a coal or related technology project is not to exceed fifty percent.

The Act also provides loan guarantees to projects that seek to improve today’s technologies in developing new and cleaner energy sources. The Clean Air Coal Program authorizes a total of $2.5 billion (from fiscal 2007-2013) for generation and pollution control projects, with the Federal share not to exceed fifty percent of the total cost.

The Act also provides for programs designed to ensure that nuclear energy remains a major component of the U.S. energy supply by looking into the feasibility of expanding existing energy facilities, licensing for construction and operation of uranium enrichment facilities, and stockpiling uranium. The Next Generation Nuclear Power Plant Project will receive $1.25 billion for development of a prototype facility to be used to generate electricity, to produce hydrogen, or both. Private investors may also participate in the engineering, design, construction and operation of this project. The lead role is given to the Idaho National Engineering and Environmental Lab.

The Act provides numerous tax benefits for investments in energy facilities.

• Changes to Cost Recovery. The depreciation period for new electric transmission facilities is reduced from 20 to 15 years. The depreciation period for new natural gas distribution lines is reduced from 20 to 15 years. The depreciation period for new natural gas gathering lines is clarified to be 7 years.

• Pollution Control Facilities. For coal-fired electric generating facilities not in service prior to January 1, 1976, cost recovery of 60% of the cost of new air pollution control facilities is reduced to 84 months from 20 years.

• Section 45 Production Credits. The placed-in-service date for qualifying facilities for section 45 production credit (other than solar and refined coal) is extended to December 31, 2007. The credit period is extended from 5 to 10 years for certain types of qualifying facilities.

• Clean Renewable Energy Bonds. Bonds can be issued for municipal utilities, Indian tribes and cooperatives. Interest on such bonds is "paid" by the Federal government in the form of a tax credit.

• Section 29 Non-Conventional Fuels Credit. An unused credit can be carried back one year and forward 20 years.

• Solar Investment Credit. The business solar credit is increased from 10% to 30%.

• Qualified Nuclear Decommissioning Funds. The Act eases limitations and updates rules for the deregulated environment.

• Clean Coal Credits. The investment tax credit for investment in clean coal facilities is 20% for integrated gasification combined cycle projects and qualifying gasification projects, and 15% for other advanced coal-based projects.

• Advanced Nuclear Power Facilities. The Act provides for a new production tax credit.

• Enhanced Research Credit. There is a 20% research credit for expenditures on qualified energy research undertaken by an energy research consortium.

• Transco Provision. The ability to defer gain on sales of transmission facilities to independent transmission companies is extended to cover sales made in 2007.

Following September 11, 2001, the U.S. placed increased emphasis on reducing the vulnerability of its domestic infrastructure. The following provisions in the Act are designed to help achieve this goal:

• The NRC is required to revise the design basis threat to encompass potential terrorist attacks at licensed nuclear plants and conduct periodic security evaluations of the ability of licensees to combat such attacks.

• Nuclear security includes identifying threats, instituting operational safeguards, background checks and increasing penalties.

• Security of Reactor Designs. Emphasis is placed on increasing safety and security.

• Electric reliability standards include compliance with cyber security protection rules applicable to transmission owners.

• Transmission Infrastructure Modernization. Security will be a factor for construction permit consideration.

• Distributed Generation. Distributed generation facilities capable of protecting the transmission grid in the event of a blackout are to be developed.

• Insular Areas Energy Security. Long-term protection plans must be established.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.