(10) INCOME TAXES

A reconciliation of PHI's consolidated effective income tax rate from continuing operations is as follows:


	Three Months Ended June 30,										Six Months Ended June 30,
	2011					2010					2011					2010
	*(millions of dollars)*
Income tax at federal statutory rate	$	52		35.0	%	$	38		35.0	%	$	86		35.0	%	$	57		35.0	%
Increases (decreases) resulting from:
State income taxes, net of federal effect		6		4.0			5		5.0			11		4.5			9		5.6
Depreciation		—		—			2		1.4			(1	)	(0.4	)		3		1.7
Cross-border energy lease investments		21		14.1			(1	)	(1.2	)		20		8.2			(2	)	(1.5	)
Change in estimates and interest related to uncertain and effectively settled tax positions		(17	)	(11.4	)		1		1.0			(15	)	(6.1	)		10		6.2
Tax credits		(1	)	(0.7	)		(1	)	(0.9	)		(2	)	(0.8	)		(2	)	(1.2	)
Medicare Part D subsidy		—		—			—		—			—		—			4		2.2
Release of valuation allowance		—		—			—		—			—		—			(8	)	(4.8	)
Change in state deferred tax balances as a result of corporate restructuring		—		—			(8	)	(7.8	)		—		—			(8	)	(5.2	)
State tax benefit related to prior years' asset dispositions		(4	)	(2.7	)		—		—			(4	)	(1.6	)		—		—
Other, net		(3	)	(2.1	)		(3	)	(2.2	)		(7	)	(2.9	)		(5	)	(2.2	)

Consolidated income tax expense related to continuing operations	$	54		36.2	%	$	33		30.3	%	$	88		35.9	%	$	58		35.8	%

PHI's consolidated effective tax rates from continuing operations for the three months ended June 30, 2011 and 2010 were 36.2% and 30.3%, respectively. The increase in the effective tax rate was primarily due to the impact of the early termination of certain cross border energy leases and the non-recurring tax benefit of the 2010 corporate restructuring. This increase was partially offset by interest benefits associated with the settlement with the Internal Revenue Service (IRS) discussed below (included in changes in estimates and interest related to uncertain and effectively settled tax positions) and a state tax benefit related to prior years' asset dispositions.

As discussed further in Note (7), "Leasing Activities," during the second quarter of 2011, PHI terminated early its interest in certain cross-border energy leases. As a result of the early terminations, PHI reversed $22 million of previously recognized income tax benefits associated with those leases which will not be realized due to the early termination.

In the second quarter of 2010, PHI recorded a non-recurring benefit related to the April 1, 2010 corporate restructuring. As a result of the restructuring, PHI recorded an $8 million decrease to its state deferred tax balances resulting from a change in state apportionment factors.

In the second quarter of 2011, PHI reached a settlement with the IRS with respect to interest due on its federal tax liabilities related to the November 2010 audit settlement for years 1996 through 2002. In connection with this agreement, PHI reallocated certain amounts that had been on deposit with the IRS since 2006 among liabilities in the settlement years and subsequent years. Primarily related to the settlement and reallocations, PHI has recorded an additional tax benefit in the amount of $17 million (after-tax). This additional interest income was recorded in the second quarter of 2011.

Also in the second quarter of 2011, PHI received refunds of approximately $5 million and recorded tax benefits of approximately $4 million (after-tax) related to the filing of amended state tax returns. These amended returns reduced state taxable income due to an increase in tax basis reported on certain prior years' asset dispositions.

PHI's consolidated effective tax rates from continuing operations for the six months ended June 30, 2011 and 2010 were 35.9% and 35.8%, respectively. While the effective tax rate was substantially unchanged between the two periods, the rate was affected by several offsetting items.

The effective tax rate increased in 2011 as a result of the negative impact of the June 2011 early termination of certain cross-border energy leases of $22 million discussed above, however, this increase was substantially offset by the $17 million benefit PHI recorded during the six months ended June 30, 2011, primarily resulting from the settlement with the IRS on interest due on its 1996 through 2002 audit settlement also discussed above, and the $4 million state tax benefit related to prior years' asset dispositions.

The 2010 effective tax rate included the non-recurring impact of the April 2010 corporate restructuring. As a result of this restructuring, PHI recorded approximately $16 million of non-recurring tax benefits in 2010 including approximately $8 million resulting from a change in state apportionment factors and the release of $8 million of valuation allowances on deferred tax assets related to state net operating losses.

The effective tax rate in 2010 was also affected by changes in estimates and interest related to uncertain and effectively settled tax positions, primarily consisting of a non-recurring $2 million reversal of accrued interest income on state income tax positions in 2010 that PHI concluded was no longer more likely than not to be realized and the reversal of $6 million of erroneously accrued interest income in 2010 on uncertain and effectively settled state income tax positions, as discussed in Note (2), "Significant Accounting Policies." The 2010 rate was further affected by the change in taxation of the Medicare Part D subsidy that increased PHI's effective tax rate for the six months ended June 30, 2010. This change increased PHI's first quarter 2010 tax expense by $4 million, which was partially offset through a reduction in Operating Expenses resulting in a $2 million decrease to net income.

Income Taxes

(8) INCOME TAXES

A reconciliation of Pepco's effective income tax rate is as follows:


	Three Months Ended June 30,										Six Months Ended June 30,
	2011					2010					2011								2010
	*(millions of dollars)*
Income tax at federal statutory rate	$	12		35.0	%	$	19		35.0	%	$	21		35.0	%	$	24			35.0	%
Increases (decreases) resulting from:
Depreciation		—		—			2		2.9			—		—			3			3.6
Change in estimates and interest related to uncertain and effectively settled tax positions		(4	)	(12.1	)		1		2.2			(4	)	(6.6	)		2			3.2
State income taxes, net of federal effect		2		4.7			3		5.4			3		4.6			4			5.5
Permanent differences related to deferred compensation funding		—		(1.2	)		—		(0.6	)		(2	)	(2.5	)		(1	)		(0.7	)
State tax benefit related to prior years' asset dispositions		(4	)	(12.4	)		—		—			(4	)	(7.1	)		—			—
Asset removal costs		(2	)	(4.4	)		(1	)	(1.1	)		(3	)	(4.2	)		(1	)		(1.6	)
Other, net		(2	)	(3.8	)		(1	)	(2.0	)		(2	)	(3.9	)		(2	)		(3.0	)

Income tax expense	$	2		5.8	%	$	23		41.8	%	$	9		15.3	%	$	29			42.0	%

Pepco's effective tax rates for the three months ended June 30, 2011 and 2010 were 5.8% and 41.8%, respectively. The decrease in the effective tax rate primarily resulted from changes in estimates and interest related to uncertain and effectively settled tax positions and refunds received on amended state tax returns.

During the second quarter of 2011, PHI reached a settlement with the Internal Revenue Service (IRS) with respect to interest due on its federal tax liabilities related to the November 2010 audit settlement for years 1996 through 2002. In connection with this agreement, PHI reallocated certain amounts that have been on deposit with the IRS since 2006 among liabilities in the settlement years and subsequent years. Primarily related to the settlement and reallocations, Pepco has recorded an additional tax benefit in the amount of $5 million (after-tax). This additional interest income was recorded in the second quarter of 2011.

In May 2011, Pepco received refunds of approximately $5 million and recorded tax benefits of approximately $4 million (after-tax) related to the filing of amended state tax returns. These amended returns reduced state taxable income due to an increase in tax basis on certain prior years' asset dispositions.

Pepco's effective tax rates for the six months ended June 30, 2011 and 2010 were 15.3% and 42.0%, respectively. The decrease in the effective tax rate primarily resulted from changes in estimates and interest related to uncertain and effectively settled tax positions, refunds received on amended state tax returns and permanent differences related to deferred compensation funding.

In the second quarter of 2011, Pepco recorded a $5 million interest benefit from the reallocation of its deposits and the state refunds received of $4 million discussed above.

Further, in March of 2011, Pepco accrued $3 million related to proceeds from life insurance policies on a former executive. This income is not taxable and is included in the permanent differences related to deferred compensation funding.

Income Taxes

(9) INCOME TAXES

A reconciliation of DPL's effective income tax rate is as follows:


	Three Months Ended June 30,										Six Months Ended June 30,
	2011					2010					2011					2010
	*(millions of dollars)*
Income tax at federal statutory rate	$	10		35.0	%	$	3		35.0	%	$	24		35.0	%	$	13		35.0	%
Increases (decreases) resulting from:
State income taxes, net of federal effect		1		5.2			1		5.6			4		6.0			1		5.0
Depreciation		1		3.7			1		6.7			1		1.5			2		2.2
Tax credits		—		(0.6	)		—		(2.2	)		—		(0.5	)		—		(1.1	)
Change in estimates and interest related to uncertain and effectively settled tax positions		(5	)	(18.5	)		(1	)	(7.8	)		(5	)	(7.5	)		1		3.6
Deferred tax adjustment		(1	)	(3.7	)		—		—			(1	)	(1.5	)		—		—
Other, net		(1	)	(2.6	)		(1	)	(4.0	)		(1	)	(0.2	)		(1	)	(0.3	)

Income tax expense	$	5		18.5	%	$	3		33.3	%	$	22		32.8	%	$	16		44.4	%

DPL's effective tax rates for the three months ended June 30, 2011 and 2010 were 18.5% and 33.3%, respectively. The decrease in the effective tax rate primarily resulted from changes in estimates and interest related to uncertain and effectively settled tax positions.

During the second quarter of 2011, PHI reached a settlement with the Internal Revenue Service (IRS) with respect to interest due on its federal tax liabilities related to the November 2010 audit settlement for years 1996 through 2002. In connection with this agreement, PHI reallocated certain amounts that have been on deposit with the IRS since 2006 among liabilities in the settlement years and subsequent years. Primarily related to the settlement and reallocations, DPL has recorded an additional $4 million (after-tax) interest benefit. This additional interest income was recorded in the second quarter of 2011. Also during the second quarter of 2011, DPL completed a reconciliation of its deferred taxes on certain regulatory assets and, as a result, recorded a $1 million decrease to income tax expense as shown in the "Deferred tax adjustment" line above.

DPL's effective tax rates for the six months ended June 30, 2011 and 2010 were 32.8% and 44.4%, respectively. The decrease in the effective tax rate resulted from changes in estimates and interest related to uncertain and effectively settled tax positions, primarily related to the $2 million reversal of accrued interest income on state income tax positions in 2010 that DPL no longer believes is more likely than not to be realized as well as the additional $4 million interest benefit from the reallocation of deposits discussed above.

Income Taxes

(8) INCOME TAXES

A reconciliation of ACE's consolidated effective income tax rate is as follows:


	Three Months Ended June 30,									Six Months Ended June 30,
	2011				2010					2011					2010
Income tax at federal statutory rate	$	11	35.0	%	$	15		35.0	%	$	15		35.0	%	$	16	35.0	%
Increases (decreases) resulting from:
State income taxes, net of federal effect		2	6.6			2		6.4			3		7.0			3	6.8
Depreciation		—	(0.3	)		—		(0.2	)		—		(0.5	)		—	(0.4	)
Tax credits		—	(0.6	)		—		(0.5	)		(1	)	(1.2	)		—	(1.1	)
Change in estimates and interest related to uncertain and effectively settled tax positions		—	1.3			(1	)	(2.1	)		1		1.4			4	8.9
Deferred tax adjustment		1	3.1			—		—			1		2.3			—	—
Other, net		—	(1.3	)		—		(0.5	)		—		0.2			—	(0.3	)

Consolidated income tax expense	$	14	43.8	%	$	16		38.1	%	$	19		44.2	%	$	23	48.9	%

ACE's consolidated effective tax rates for the three months ended June 30, 2011 and 2010 were 43.8% and 38.1%, respectively. The increase in the effective tax rate primarily resulted from changes in estimates and interest related to uncertain and effectively settled tax positions.

During the second quarter of 2011, PHI reached a settlement with the Internal Revenue Service (IRS) with respect to interest due on its federal tax liabilities related to the November 2010 audit settlement for years 1996 through 2002. In connection with this agreement, PHI reallocated certain amounts that have been on deposit with the IRS since 2006 among liabilities in the settlement years and subsequent years. Primarily related to the settlement and reallocations, ACE has recorded an additional $1 million (after-tax) of interest due to the IRS. This additional interest expense was recorded in the second quarter of 2011. Also during the second quarter of 2011, ACE completed a reconciliation of its deferred taxes on certain regulatory assets and, as a result, recorded a $1 million increase to income tax expense as shown in the "Deferred Tax Adjustment" line above.

ACE's consolidated effective tax rates for the six months ended June 30, 2011 and 2010 were 44.2% and 48.9%, respectively. The decrease in the effective tax rate primarily resulted from the reversal of $6 million of accrued interest income on uncertain and effectively settled state income tax positions in 2010.