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                Federal Communications Commission
                      Washington, D.C. 20554

                                               In reply refer to:
                                                  RAO Letter 16

                                       Released: October 18, 1990

Responsible Accounting Officers: 

 Re:  Classification of Enhanced
     Services for Federal Accounting Purposes
                                 
     In California v. FCC, 905 F.2d 1217 (9th Cir.1990), the United States Court of Appeals
for the Ninth Circuit vacated and remanded the orders in the Computer III proceeding that
preempted state regulation of the provision of enhanced services by communications common
carriers.  This letter instructs carriers subject to the Commission's cost allocation rules to
continue classifying enhanced services as nonregulated activities for federal accounting purposes
on an interim basis, pending further consideration of this matter.

     Section 32.23(a) of the Commission's Rules. 47 C.F.R.  32.23(a), describes the
circumstances under which carriers are to classify their activities as nonregulated for federal
accounting purposes.  That section provides in part that preemptively deregulated activities must
be classified as nonregulated activities.  It also provides that activities that have been deregulated
at the interstate level, but not preemptively deregulated, are to be classified as regulated activities
until the Commission decides otherwise.

     Because enhanced services were preemptively deregulated prior to the decision in
California v. FCC, Section 32.23(a) required carriers to classify those services as nonregulated
activities for federal accounting purposes.  In the absence of preemption, however, Section
32.23(a) would require regulated accounting for federal purposes until the Commission decides
otherwise. Although the Court did not address the subject, we believe that we should issue interim
procedures for carriers to follow pending further consideration of this matter.

     The nonregulated classification is the means the Commission has used to ensure that
interstate ratepayers do not bear the costs and risks of carrier enhanced services operations.  We
believe that we should continue that classification on an interim basis pending a decision as to a
permanent accounting classification.  Retaining that classification on an interim basis will
minimize the possibility of cost misallocations without making unnecessary demands on federal,
state, and carrier resources.  In contrast, conversion to an interim regulated classification would
impose significant costs and would unnecessarily complicate the already difficult task of ensuring
that interstate telephone rates are just and reasonable.  Such a conversion would require changes
in the Commission's cost allocation and access charge rules and policies, in the internal accounting
systems carriers use to implement those rules and policies, and in the automated reporting
management information system (ARMIS) the Commission uses to evaluate the carriers' internal
accounting systems.  These costs and unnecessary complications should be avoided while the
permanent federal accounting treatment for enhanced services is under consideration.
     
     Accordingly, we require all carriers subject to the Commission's cost allocation rules to
continue classifying their enhanced services operations as nonregulated activities for federal
accounting purposes on an interim basis. We emphasize that this interim accounting requirement
does not affect the states' ability to determine the accounting and ratemaking practices carriers
should follow for intrastate purposes.  As the Commission has repeatedly made clear, the federal
procedures for allocating costs between regulated and nonregulated activities leave the states free
"to employ different cost allocation methods ... in intrastate ratemaking, and to mandate that
carriers keep any side records required for the states' regulatory purposes."

     This letter is issued pursuant to authority delegated under Section 0.291 of the
Commission's Rules, 47 C.F.R.  0.291.  Applications for review under Section 1.115 of the
Commission's Rules, 47 C.F.R.  1.115, must be filed within 30 days of the date of this letter. 
See 47 C.F.R.  1.4(b)(2).

                                        Sincerely,


                                        Kenneth P. Moran
                                        Chief, Accounting and Audits Division