Capital Credits - What Are They
Capital Credits are issued to members from additional revenue after operating expenses in proportion to their service use. To date, URE has paid over $21 Million to members since 1969.
Capital credits have always been a topic of discussion. As well they should be because most business models don't rely on them. They are, however, a vital function and foundation of the cooperative business structure and goal to provide electricity to our member/owners at wholesale cost. Because an electric cooperative does not earn profits in the sense other businesses do, the excess annual revenues remaining after all expenses have been paid are technically returned (allocated) to the members in proportion to their usage of the co-op's services.
Capital credits are the most significant source of capital (cash) for most electric cooperatives used to help meet the expenses of the co-op, such as paying for new equipment to serve members, paying wages and repaying debt. Capital credits help keep rates at a competitive level by reducing the amount of funds that must be borrowed or securing energy in bulk at a lower cost. Excess revenue is also returned in the form of an allocation of funds to each member at the end of a lifecycle. Think of a capital credit as an "I Owe You" since the allocation process is not a payment in cash.
The Importance - Why Are They Important
URE buys energy in bulk at lower rates so Capital Credits help keep those rates at a competitive level by reducing the amount of funds borrowed to secure them.
Probably the most distinctive element of what makes an electric cooperative different from the other types of electric utilities is patronage capital. Capital Credit is one of the key advantages of being a member demonstrating member ownership. As a 501 (C) (12) electric cooperative, the allocation and retirement of capital credit is one of the more important principals of operating as a not-for-profit electric cooperative business and crucial for maintaining income tax exempt status.
Capital Credits represent each member's share of the cooperative's margin and ownership of their cooperative. URE does not apply the capital credit to members in the form of a lower bill because the board of trustees has a fiscal responsibility to maintain the financial integrity of URE in a way that provides competitive rates, satisfies lender requirements and allows for the return of capital credits to members.
If capital credits were not used then URE has to replace the capital with other money at an approximate weighted cost of capital at 7.6% interest in the form of loans and member equity from retail rates.
Mechanism Behind Capital Credits - How Do They Work
Every year the board of trustees determines if the co-op's financial position permits the retirement, or refund and at what amounts.
From the board's point of view, URE normally "holds" the members capital credits for approximately 20 years before returning the capital to pay for plant (poles, wire, transformers, etc.) reducing the need to borrow long term loan funds.
A member who terminates service no longer receives additional capital credit allocations. The balance in the member's capital credit account is maintained until it is retired or paid in full through general retirements or to their estate. The exception to this is:
An inactive member with less than 12 months service and less than $20 total capital credits have their capital credit reallocated to the current members with the next allocation.
An inactive member with less than $100 can receive a voluntary special early retirement at a discounted rate.
An inactive member with a bad debt owed to URE will have their capital credit retired early at the discounted rate and applied against the bad debt.
If URE has authorized a general retirement and is unable to locate an inactive member after four years and with proper public published listing of these accounts, the capital credit is reallocated to the current members with the next allocation. It is very important that after you move off URE that the office is notified of your current address so you can receive future capital credit retirements.
Through the end of 2014, URE has paid back approximately $21,600,000 to our members since it began retiring capital credit.
People and Capital Credits - Who Receives Them
Capital credits are allocated to each member based on how much electricity they purchase.
The allocation method is based on the percentage of the annual revenue of each retail rate class to total system revenues. The assignment to each patron, within the rate class, is then based on kWhs purchased to total kWhs purchased within their respective rate class.
Every member has a separate capital credit account number, specific to the member, regardless of the number of electric accounts or rate class of each account. The capital credit allocation for each member is tracked by year and separated into distribution and generation amounts. Each year URE provides notification of the prior year's allocation of capital credit on the electric bill. The notification is broken down by distribution and generation amounts for that year and is printed on the member's electric bill.
The first patronage capital credit retirement began in 1969 as a special early retirement to the estates of deceased members.On Dec. 12, 1981, the board adopted an Equity Development Plan including a program to begin a general retirement with the goal to reach a 20-year rotation cycle or, for example, retiring capital credits from 1989 in 2009. The first general retirement was made in 1982 beginning with the first year URE made a margin. $65,000 was retired, representing patronage capital earned for years 1943-1952.
The 20-year rotation was achieved in 1986 and later accelerated to a 15-year cycle in the late 1990s. Due to accelerated plant growth and demand for capital, the 15-year rotation cycle is being moved back to the original 20-year general retirement rotation.
People and Capital Credits - Where Are They Available
The balance in the member's capital credit account is maintained until it is retired or paid in full through general retirements or to their estate.
Each year within 8 months after the close of an operating year (December 31st), URE provides notification of the prior year's allocation of capital credit on the electric bill. The notification is broken down by distribution and generation amounts for that year and the total for each. This is printed on the member's electric bill to reduce cost instead of a direct mailing.
URE typically follows the First-In-First-Out (FIFO) method of retiring or the oldest capital credit paid in is paid out first but has also used a hybrid method combining FIFO with a small percentage of a more current year. This is done in an effort to demonstrate the cooperative difference to our less tenured members.
In the even a member dies, the capital credits in the member's account belong to the member's estate. In order to assist the member's heirs in closing the estate, the capital credits are retired as a special early retirement. The heirs could decide to leave the capital credit with the cooperative and retire it at the normal retirement dates to receive 100% or at the non-discounted amount. If the membership is a joint membership, then the capital credits are transferred to the surviving spouse and the membership is converted to a single membership.
Discounting early retirement of capital credits reflect the net present value of making a capital credit retirement now that would otherwise be made at a later date. Or said another way, the value of the dollars they receive today is greater than the value those dollars would have if received some time later. The discount rate for the early retirement of capital credit is the weighted average cost of the Debt Capital blended interest rate for all outstanding loans and the cost of Equity Capital based on the estimated compound growth rate in Net Utility Plant and a 20 Year Capital Credit rotation.
The first general retirement was made in 1982 beginning with the first year URE made a margin. $65,000 was retired representing patronage capital earned for years 1943-1952. The 20-year rotation was achieved in 1986 and later accelerated to a 15-year cycle in the late 1990's. Due to accelerated plant growth and demand for capital, the 15-year rotation cycle is being moved back to the original 20-year general retirement rotation.