We argue in this paper that the A-J model is not complete and can thus be expanded to account for another aspect of electric utility regulation: A regulator's denial of cost recovery for some portion of the utility's capital expenditures provides an additional incentive for firms to overcapitalize
Since firms receive a rate of return that exceeds the cost of capital, they have an incentive to overcapitalize
[Douglas and Rhine, 1999].
263A to automatically change to a method that both tends to overcapitalize
costs and is easily verifiable by the IRS.
Our concerns stem from: (1) the mandatory substitution of an external interest rate in lieu of the taxpayer's specific cost of funds and (2) the likely exacerbation of the propensity of the proposed regulations to overcapitalize
Further, as the HAP, is based on a simplified method (which already tends to overcapitalize
costs), it would appear the Service may be losing sight of the overall benefits it receives from the vast majority of taxpayers using the simplified method with the HAR that is not substantially different from the annual ratio computed under the simplified method without the HAR, as well as from those simply using the simplified method without the HAR.
As is well-known in the A-J literature, under linear price conditions, regulated firms overcapitalize
, and social welfare may be greater or lower than the social welfare under no regulation [see Callen et al.
In certain situations, the simplified production method or simplified resale method may overcapitalize
costs into inventory compared to other UNICAP methods available to a taxpayer (e.