Income Taxes (Exelon, Generation, ComEd, PECO and BGE)

The effective income tax rate from continuing operations varies from the U.S. Federal statutory rate principally due to the following:



For the Three Months Ended September 30, 2014	Exelon		Generation		ComEd		PECO		BGE
U.S. Federal statutory rate	35.0	%	35.0	%	35.0	%	35.0	%	35.0	%
Increase (decrease) due to:
State income taxes, net of Federal income tax benefit	1.1		0.7		5.0		0.1		4.6
Qualified nuclear decommissioning trust fund income	(0.3	)	(0.4	)	—		—		—
Domestic production activities deduction	(2.4	)	(3.2	)	—		—		—
Health care reform legislation	—		—		0.2		—		0.2
Amortization of investment tax credit, net deferred taxes	(1.0	)	(1.2	)	(0.3	)	(0.1	)	(0.3	)
Plant basis differences	(0.8	)	—		—		(11.3	)	0.5
Production tax credits and other credits	(1.9	)	(2.4	)	—		—		—
Noncontrolling interest	(1.2	)	(1.6	)	—		—		—
Other	(0.3	)	(1.4	)	0.1		(0.1	)	(1.2	)
Effective income tax rate	28.2	%	25.5	%	40.0	%	23.6	%	38.8	%



For the Nine Months Ended September 30, 2014	Exelon		Generation		ComEd		PECO		BGE
U.S. Federal statutory rate	35.0	%	35.0	%	35.0	%	35.0	%	35.0	%
Increase (decrease) due to:
State income taxes, net of Federal income tax benefit	0.5		(1.4	)	5.0		0.3		4.9
Qualified nuclear decommissioning trust fund income	2.0		3.6		—		—		—
Domestic production activities deduction	(2.7	)	(4.8	)	—		—		—
Health care reform legislation	0.1		—		0.2		—		0.2
Amortization of investment tax credit, net deferred taxes	(1.1	)	(1.7	)	(0.3	)	(0.1	)	(0.3	)
Plant basis differences	(1.6	)	—		(0.3	)	(11.0	)	0.5
Production tax credits and other credits	(2.1	)	(3.7	)	—		—		—
Noncontrolling interest	(1.4	)	(2.6	)	—		—		—
Other	(1.5	)	(2.5	)	0.1		0.1		(0.5	)
Effective income tax rate	27.2	%	21.9	%	39.7	%	24.3	%	39.8	%



For the Three Months Ended September 30, 2013	Exelon		Generation		ComEd		PECO		BGE
U.S. Federal statutory rate	35.0	%	35.0	%	35.0	%	35.0	%	35.0	%
Increase (decrease) due to:
State income taxes, net of Federal income tax benefit	3.0		2.6		5.4		(0.3	)	5.6
Qualified nuclear decommissioning trust fund income	3.5		5.3		—		—		—
Tax exempt income	(0.2	)	(0.3	)	—		—		—
Health care reform legislation	0.1		—		0.4		—		0.2
Amortization of investment tax credit, net deferred taxes	(1.5	)	(2.1	)	(0.4	)	(0.1	)	(0.3	)
Plant basis differences	(0.8	)	—		(0.4	)	(6.9	)	0.1
Production tax credits and other credits	(2.2	)	(3.3	)	—		—		—
Other	0.5		0.1		0.3		(0.1	)	(0.2	)
Effective income tax rate	37.4	%	37.3	%	40.3	%	27.6	%	40.4	%



For the Nine Months Ended September 30, 2013	Exelon		Generation		ComEd		PECO		BGE
U.S. Federal statutory rate	35.0	%	35.0	%	35.0	%	35.0	%	35.0	%
Increase (decrease) due to:
State income taxes, net of Federal income tax benefit	5.3		1.8		5.2		1.9		5.6
Qualified nuclear decommissioning trust fund income	3.2		5.1		—		—		—
Tax exempt income	(0.2	)	(0.3	)	—		—		—
Health care reform legislation	0.1		—		0.9		—		0.2
Amortization of investment tax credit, net deferred taxes	(2.3	)	(3.4	)	(0.8	)	(0.1	)	(0.3	)
Plant basis differences	(1.7	)	—		(1.2	)	(7.3	)	(0.4	)
Production tax credits and other credits	(2.4	)	(3.9	)	—		—		—
Other	0.2		1.1		0.8		—		—
Effective income tax rate	37.2	%	35.4	%	39.9	%	29.5	%	40.1	%

Accounting for Uncertainty in Income Taxes

Exelon, Generation, ComEd, PECO, and BGE have $1,808 million, $1,342 million, $151 million, $44 million, and $0 million, of unrecognized tax benefits as of September 30, 2014, respectively, and $2,175 million, $1,415 million, $324 million, $44 million, and $0 million, of unrecognized tax benefits as of December 31, 2013, respectively. The unrecognized tax benefits as of September 30, 2014 reflect a decrease at Exelon and ComEd primarily attributable to the like-kind exchange and the lease termination position discussed below and a decrease at Generation primarily due to the expiration of both federal and state statutes of limitation in September 2014.

Reasonably possible the total amount of unrecognized tax benefits could significantly increase or decrease within 12 months after the reporting date

Nuclear Decommissioning Liabilities (Exelon and Generation)

AmerGen filed income tax refund claims taking the position that nuclear decommissioning liabilities assumed as part of its acquisition of nuclear power plants are taken into account in determining the tax basis in the assets it acquired. The additional basis results primarily in reduced capital gains or increased capital losses on the sale of assets in nonqualified decommissioning funds and increased tax depreciation and amortization deductions. The IRS disagrees with this position and has disallowed the claims. In November 2008, Generation received a final determination from the Appeals division of the IRS (IRS Appeals) disallowing AmerGen’s refund claims. Generation filed a complaint in the United States Court of Federal Claims on February 20, 2009 to contest this determination. During the first and second quarters of 2013, AmerGen and the DOJ completed and filed cross motions for summary judgment. On September 17, 2013, the Court granted the government’s motion denying AmerGen’s claims for refund. In the first quarter of 2014, Exelon filed an appeal of the decision to the United States Court of Appeals for the Federal Circuit.

Due to the possibility of final resolution through an appellate decision, Generation continues to believe that it is reasonably possible that the total amount of unrecognized tax benefits may significantly decrease in the next 12 months.

Settlement of Income Tax Audits

As of September 30, 2014, Exelon and Generation have approximately $180 million of unrecognized state tax benefits that could significantly decrease within the 12 months after the reporting date as a result of completing federal and state audits and expected statute of limitation expirations that if recognized would decrease the effective tax rate. In September 2014, uncertain income tax positions were effectively settled due to the expiration of both federal and state statutes of limitation resulting in a reduction to unrecognized tax benefit of $75 million at Generation. Through the end of the third quarter, the effective settlement of unrecognized tax benefits has resulted in reduced tax expense of $90 million at Generation.

Other Income Tax Matters

Like-Kind Exchange

Exelon, through its ComEd subsidiary, took a position on its 1999 income tax return to defer approximately $1.2 billion of tax gain on the sale of ComEd’s fossil generating assets. The gain was deferred by reinvesting a portion of the proceeds from the sale in qualifying replacement property under the like-kind exchange provisions of the IRC. The like-kind exchange replacement property purchased by Exelon included interests in three municipal-owned electric generation facilities which were properly leased back to the municipalities. The IRS disagreed with this position and asserted that the entire gain of approximately $1.2 billion was taxable in 1999.

Exelon has been unable to reach agreement with the IRS regarding the dispute over the like-kind exchange position. The IRS has asserted that the Exelon purchase and leaseback transaction is substantially similar to a leasing transaction, known as a SILO, which the IRS does not respect as the acquisition of an ownership interest in property. A SILO is a “listed transaction” that the IRS has identified as a potentially abusive tax shelter under guidance issued in 2005. Accordingly, the IRS has asserted that the sale of the fossil plants followed by the purchase and leaseback of the municipal owned generation facilities does not qualify as a like-kind exchange and the gain on the sale is fully subject to tax. The IRS has also asserted a penalty of approximately $87 million for a substantial understatement of tax.

Exelon disagrees with the IRS and continues to believe that its like-kind exchange transaction is not the same as or substantially similar to a SILO. Although Exelon has been and remains willing to settle the disagreement on terms commensurate with the hazards of litigation, Exelon does not believe a settlement is possible. Because Exelon believed, as of December 31, 2012, that it was more-likely-than-not that Exelon would prevail in litigation, Exelon and ComEd had no liability for unrecognized tax benefits with respect to the like-kind exchange position.

On January 9, 2013, the U.S. Court of Appeals for the Federal Circuit reversed the U.S. Court of Federal Claims and reached a decision for the government in Consolidated Edison v. United States. The Court disallowed Consolidated Edison’s deductions stemming from its participation in a LILO transaction that the IRS also has characterized as a tax shelter.

In accordance with applicable accounting standards, Exelon is required to assess whether it is more-likely-than-not that it will prevail in litigation. Exelon continues to believe that its transaction is not a SILO and that it has a strong case on the merits. However, in light of the Consolidated Edison decision and Exelon’s current determination that settlement is unlikely, Exelon has concluded that subsequent to December 31, 2012, it is no longer more-likely-than-not that its position will be sustained. As a result, in the first quarter of 2013 Exelon recorded a non-cash charge to earnings of approximately $265 million, which represents the amount of interest expense (after-tax) and incremental state income tax expense for periods through March 31, 2013 that would be payable in the event that Exelon is unsuccessful in litigation. Of this amount, approximately $170 million was recorded at ComEd. Exelon intends to hold ComEd harmless from any unfavorable impacts of the after-tax interest amounts on ComEd’s equity. As such, ComEd recorded on its consolidated balance sheet as of March 31, 2013, a $172 million receivable and non-cash equity contributions from Exelon. Exelon and ComEd will continue to accrue interest on the unpaid tax liabilities related to the uncertain tax position, and the charges arising from future interest accruals are not expected to be material to the annual operating earnings of Exelon or ComEd. In addition, ComEd will continue to record non-cash equity contributions from Exelon in the amount of the net after-tax interest charges attributable to ComEd in connection with the like-kind exchange position. Exelon continues to believe that it is unlikely that the IRS's assertion of penalties will ultimately be sustained and therefore no liability for the penalty has been recorded.

On September 30, 2013, the IRS issued a notice of deficiency to Exelon for the like-kind exchange position. Exelon filed a petition on December 13, 2013 to initiate litigation in the United States Tax Court. Exelon was not required to remit any part of the asserted tax or penalty in order to litigate the issue. The litigation could take three to five years including appeals, if necessary. Decisions in the Tax Court are not controlled by the Federal Circuit’s decision in Consolidated Edison.

In the event of a fully successful IRS challenge to Exelon’s like-kind exchange position, the potential tax and after-tax interest, exclusive of penalties, that could become currently payable as of September 30, 2014 may be as much as $800 million, of which approximately $310 million would be attributable to ComEd after consideration of Exelon’s agreement to hold ComEd harmless, and the balance at Exelon. Litigation could take several years such that the estimated cash and interest impacts would likely change by a material amount.

In the first quarter of 2014, Exelon entered into an agreement to terminate its investment in one of the three municipal-owned electric generation properties in exchange for a net early termination amount of $335 million. The termination will result in a 2014 tax payment of approximately $285 million by Exelon, including approximately $155 million by ComEd representing the remaining gain deferred pursuant to the like-kind exchange transaction. In the event of a fully successful IRS challenge to Exelon’s like-kind exchange position, Exelon will be required to pay the full amount of tax and after-tax interest discussed in the preceding paragraph but will ultimately be entitled to a refund of the 2014 tax payment. See Note 7 — Impairment of Long-Lived Assets for further details.

Accounting for Generation Repairs (Exelon and Generation)

On April 30, 2013, the IRS issued Revenue Procedure 2013-24 providing guidance for determining the appropriate tax treatment of costs incurred to repair electric generation assets. Generation will change its method of accounting for deducting repairs in accordance with this guidance beginning with its 2014 tax year. Generation has estimated that adoption of the new method will result in a non-recurring cash tax detriment of approximately $100 - $120 million.