INCOME TAXES

The disclosures in this note apply to all Registrants unless indicated otherwise.

Federal Tax Reform

In December 2017, Tax Reform legislation was signed into law. Tax Reform includes significant changes to the Internal Revenue Code of 1986, as amended, and had a material impact on the Registrants’ financial statements in the reporting period of its enactment. Tax Reform lowered the corporate federal income tax rate from 35% to 21%. Tax Reform provisions related to regulated public utilities generally allow for the continued deductibility of interest expense, impact bonus depreciation for certain property acquired and placed in service after September 27, 2017 and continue certain rate normalization requirements for accelerated depreciation benefits.

Provisional Amounts

The Registrants applied Staff Accounting Bulletin 118 (SAB 118), issued by the SEC staff in December 2017, and made reasonable estimates for the measurement and accounting of the effects of Tax Reform which are reflected in the financial statements as provisional amounts based on the best information available. SAB 118 provides for up to a one-year period to complete the required analysis and accounting for Tax Reform referred to as the measurement period. While the Registrants were able to make reasonable estimates of the impact of Tax Reform in 2017, the final impact may differ from the recorded provisional amounts to the extent refinements are made to the estimated cumulative differences or as a result of additional guidance or technical corrections that may be issued by the IRS that may impact management’s interpretation and assumptions utilized. The measurement period adjustments recorded during the third quarter of 2018 to the provisional amounts were immaterial.

During the third quarter of 2018, the IRS proposed new regulations that reflect changes made by Tax Reform and affect taxpayers with qualified depreciable property acquired and placed in service after September 27, 2017. The Registrants expect to complete the analysis of the provisional items, including analysis of the new regulations proposed by the IRS, during the fourth quarter of 2018.

Status of Tax Reform Regulatory Proceedings

The table below summarizes the current status of Tax Reform in AEP’s various regulatory jurisdictions. See Note 4 - Rate Matters for additional information related to regulatory filings in these jurisdictions.



Registrant (Jurisdiction)	Change in Tax Rate	Excess ADIT Subject to Normalization Requirements	Excess ADIT Not Subject to Normalization Requirements
AEP Texas (Texas-Distribution)	Order Issued	Order Issued	Order Issued – Partial (a)
AEP Texas (Texas-Transmission)	Order Issued	To be addressed in a later filing	To be addressed in a later filing
APCo (Virginia)	Legislation Enacted – Case Pending (b)	Legislation Enacted – Case Pending (b)	Order Issued – Partial; Separate Case Pending (c)
APCo (West Virginia)	Order Issued	Order Issued	Order Issued
I&M (Indiana)	Order Issued	Order Issued	Order Issued
I&M (Michigan)	Order Issued; Separate Case Pending (d)	Case Pending	Case Pending
AEP (Tennessee)	Case Pending	Case Pending	Case Pending
AEP (Kentucky)	Order Issued	Order Issued	Order Issued
OPCo (Ohio)	Order Issued	Order Issued	Order Issued
PSO (Oklahoma)	Order Issued	Order Issued	Order Issued
SWEPCo (Arkansas)	Order Issued	Order Issued	Order Issued
SWEPCo (Louisiana)	Case Pending – Rates Implemented (e)	Case Pending – Rates Implemented (e)	Case Pending – Rates Implemented (e)
SWEPCo (Texas)	Order Issued (f)	To be addressed in a later filing	To be addressed in a later filing
PJM FERC Transmission	Settlement Approved (g)	Settlement Approved (g)	Settlement Approved (g)
SPP FERC Transmission	To be addressed in a later filing	To be addressed in a later filing	To be addressed in a later filing


(a)	A portion of the Excess ADIT that is not subject to rate normalization requirements is to be addressed in a later filing.


(b)	Legislation has been issued for a blanket amount that is subject to true-up and final commission approval.


(c)	In October 2018, the Virginia SCC issued an order approving APCo’s request to refund a portion of the Excess ADIT that is not subject to rate normalization requirements to customers. The remainder is to be addressed in a separate pending case.


(d)	A rider was implemented to refund the impact of Tax Reform prospectively and effective September 1, 2018. A separate filing was submitted in October 2018 for the Tax Reform impact from January 1, 2018 through August 31, 2018.


(e)	Rates have been implemented through a filed formula rate plan that is subject to true-up and final commission approval.


(f)	An interim order has been issued to lower rates. Parties continue to finalize settlement.


(g)	An administrative law judge has approved a settlement. The settlement is subject to final FERC ruling.

Reduction in the Corporate Federal Income Tax Rate - Pending Rate Reductions

State utility commissions have issued orders or instructions requiring public utilities, including the Registrants, to record liabilities to reflect the impact of the reduction in the corporate federal income tax rate in excess of the enacted corporate federal income tax rate of 21% beginning in 2018. As described in Note 4 - Rate Matters, certain Registrants have received state utility commission orders and have reflected the lower corporate federal income tax rate in current customer rates. The table below provides a summary of the estimated provisions for revenue refund recorded by the Registrants related to the reduction in the corporate federal tax rate as of September 30, 2018:



	AEP		AEP Texas		AEPTCo		APCo		I&M		OPCo		PSO		SWEPCo
	(in millions)
Included in Current Liabilities	$	51.1	$	—	$	—	$	40.5	$	2.0	$	—	$	2.4	$	5.3
Included in Deferred Credits and Other Noncurrent Liabilities	98.4		21.9		8.6		3.7		12.8		20.8		2.3		27.6

Excess ADIT - Pending Rate Reductions

As of September 30, 2018, the Registrants have approximately $4.3 billion of Excess ADIT, as well as an incremental liability of $1.1 billion to reflect the $4.3 billion Excess ADIT on a pretax basis, presented in Regulatory Liabilities and Deferred Investment Tax Credits on the balance sheets. The Excess ADIT is reflected on a pretax basis to appropriately contemplate future tax consequences in the periods when the regulatory liability is settled. As of September 30, 2018, approximately $3.4 billion of the Excess ADIT relates to temporary differences associated with certain depreciable property subject to rate normalization requirements.

As reflected in the Registrants’ respective estimated annual ETR for 2018, AEP’s regulated public utilities began amortizing the Excess ADIT associated with certain depreciable property subject to rate normalization requirements using the ARAM during the first quarter of 2018. The amortization resulted in a reduction in the Excess ADIT balance recorded in Regulatory Liabilities and Deferred Investment Tax Credits and a reduction in Income Tax Expense. As a result of state utility commission orders or instructions, the Registrants have recorded estimated provisions for revenue refund offsetting the amortization of the Excess ADIT to the extent not yet reflected in current customer rates. The table below provides a summary of the estimated provisions for revenue refund recorded by the Registrants as of September 30, 2018:



	AEP		AEP Texas		AEPTCo		APCo		I&M		OPCo		PSO		SWEPCo
	(in millions)
Included in Current Liabilities	$	15.3	$	—	$	—	$	9.5	$	—	$	—	$	4.7	$	1.2
Included in Deferred Credits and Other Noncurrent Liabilities	20.6		6.9		0.1		0.7		1.4		3.3		—		7.8

In addition, with respect to the remaining $0.9 billion of Excess ADIT recorded in Regulatory Liabilities and Deferred Investment Tax Credits that are not subject to rate normalization requirements, the Registrants have received state utility commission orders or instructions and a filed FERC settlement agreement to begin amortization.

Effective Tax Rates (ETR)

The Registrants’ interim ETR reflect the estimated annual ETR for 2018 and 2017, adjusted for tax expense associated with certain discrete items. As previously mentioned, effective January 1, 2018, Tax Reform lowered the corporate tax rate from 35% to 21%. The interim ETR differ from the federal statutory tax rate of 21% and 35% in 2018 and 2017, respectively, primarily due to state income taxes, the amortization of the Excess ADIT, tax credits and other book/tax differences which are accounted for on a flow-through basis.

The ETR for each of the Registrants is included in the following table. Significant variances in the ETR are described below.



	Three Months Ended September 30,				Nine Months Ended September 30,
Company	2018		2017		2018		2017
AEP	(16.2	)%	33.0	%	5.6	%	35.3	%
AEP Texas	12.6	%	32.2	%	14.9	%	33.6	%
AEPTCo (a)	18.4	%	33.5	%	20.7	%	33.8	%
APCo	(962.2	)%	33.4	%	(13.8	)%	35.5	%
I&M	15.9	%	30.6	%	10.4	%	30.1	%
OPCo	(46.4	)%	36.9	%	4.6	%	35.6	%
PSO	5.6	%	37.2	%	8.7	%	37.4	%
SWEPCo	9.8	%	21.2	%	11.4	%	25.7	%


(a)	The 2017 ETRs presented above reflect the revisions made to AEPTCo's previously issued financial statements. See Note 1 - Significant Accounting Matters for additional information.

AEP

Three Months Ended September 30, 2018 Compared to Three Months Ended September 30, 2017

The decrease in the ETR was primarily due to the discrete impact of the West Virginia and Ohio Tax Reform orders which enabled APCo, OPCo and WPCo to utilize Excess ADIT not subject to rate normalization requirements to offset certain regulatory asset balances. The West Virginia and Ohio Tax Reform orders impacted the ETR by (17.9)% and (7.8)%, respectively. See “West Virginia Tax Reform” and “Ohio Tax Reform” sections of Note 4 for additional information. Additionally, the ETR decreased as a result of the change in the corporate federal income tax rate from 35% in 2017 to 21% in 2018 as a result of Tax Reform and decreased (7.4)% due to increased 2018 amortization of Excess ADIT.