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MEMORANDUM

CenterPoint Energy Corporation


TO:
Jennifer Brooks
FROM:
Adam Gajewski
DATE:May 2, 2016
RE:
CenterPoint Energy Corp./Deposit Proposal Tax Consequences
______________________________________________________________________________
FACTS
Like any shrewd corporation, CenterPoint Energys upper management is concerned about an
increase in the companys bad debt accounts. To combat this growing problem, management is
considering demanding a $100 cash deposit for every new customer before CenterPoint provides
them with electric service. However, after 12 months of making timely payments, the $100 deposit
would be returned to the customer, without interest. The deposit would help protect the company
from incurring bad debts, because if service is terminated before the deposit is returned, the deposit
will be applied against any outstanding balance still due. Additionally, a customer must anticipate
purchasing, at a minimum, $100 of electricity when they open up an account, otherwise they forfeit
the difference between the amount purchased and the $100 deposit. If a customer is owed a refund,
the company will conduct due diligence to find the customer, but the company may keep the refund if
the due diligence proves unsuccessful and two years have elapsed since the end of service.
ISSUE
Should these $100 payments be treated and accounted for as advance payments for services or just
simply deposits?
CONCLUSION
The specific facts and circumstances are of particular importance when the IRS is deciding how to
treat these initial deposits. In this case, every new CenterPoint customer must anticipate purchasing,
at a minimum, $100 of electricity. If they purchase anything less than $100, CenterPoint gets to keep
the difference. Because these $100 cash deposits are required for all new customers, not just ones
with credit risks, and they are not refundable should the customer want to leave CenterPoint earlier
than one year, these deposits should be treated as advance payments, not deposits. Therefore,
CenterPoint will need to pay taxes on these upfront deposits.
ANALYSIS
Multiple utility companies have brought very similar cases against the IRS arguing about the
classification of these kinds of deposits, and it took a while for a clear rule to take hold. For example,
in the case of City Gas Co. of Florida v. Commissioner [82-2 ustc 9643 ], 689 F.2d 943 (11th Cir.
1982), City Gas Co. of Florida gave 4% interest plus the deposits back to its customers, but it still

needed to classify the initial payments from customers as advance payments. The court ruled this way
because they said the primary purpose of the deposit was to secure the future payment for goods or
services to be provided by the deposit recipient.
However, in a later case of Commissioner v. Indianapolis Power & Light Co [90-1 USTC 50,007],
U.S. Supreme Court, (Jan. 9, 1990), the Supreme Court did not apply the same logic that the 11 th
Circuit used in the City Gas Co. case. The Supreme Court examined the facts and circumstances
surrounding the case to determine whether or not customer deposit was an advance payment or
security deposit. In this case, if the customers paid their bill for either 9 consecutive months or 10 out
of 12 months, they would automatically receive their refund, plus interest. For Indianapolis Power &
Light (IPL), the customers required to make these prepayments were only customers with
questionable credit ratings. Additionally, the customers were not required to purchase a specified
quantity of electricity, or even any electricity at all. The Supreme Court affirmed the judgement of the
Court of Appeals and ruled in favor of IPL. They recognized that because IPL did not have the
necessary complete dominion over the deposits at the time they were made, then the deposits acted
more like a loan than an advance payment. IPLs right to retain the money was outside of its own
control, and the refunds were guaranteed upon the payment contingencies. Therefore, the customer
deposits did not qualify as taxable income at the time they were made.
Having two contradicting case outcomes, the 11th Circuits rule in the City Gas case and the 7th
Circuits rule in the Indianapolis Power & Light Case, the Supreme Court granted certiorari to IPL,
as noted above. However, CenterPoint will not be as lucky as IPL, and CenterPoint will need to
recognize income on these deposits. This CenterPoint case has several different essential elements
that were not in the IPL case. Whereas IPL only required these prepayments from its customers with
poor credit, CenterPoint is requiring these deposits from every one of its new customers.
Additionally, while IPLs customer deposits did not require its customers to purchase any specified
amount of electricity, CenterPoints deposits require its customers to purchase a minimum of $100 of
electricity. The final crucial reason CenterPoint must classify these deposits as advance payments is
because it has complete dominion over them at the time they are made. IPL did not have complete
dominion at the time the payments were made, so it did not have to report them as taxable income.
CenterPoint gets to keep the $100 deposit, no matter what, so they will need to classify them as
advance payments and pay taxes on them.