FCC Confirms Most In-Kind Contributions Are Franchise Fees, Curtails Regulation and Taxation of Internet Services on Mixed-Use Systems

On August 1, 2019, the Federal Communications Commission (FCC) ruled that most non-cash (in-kind) assessments required by cable franchises constitute franchise fees subject to the 5% cap under the Communications Act. Additionally, the FCC re-affirmed that local franchising authorities (LFAs) may not use their cable franchising authority to regulate or impose costs on broadband Internet and voice services delivered over a cable system.

The Commission's Third Report and Order (Third Order) in its long history of orders interpreting Section 621 of the Communications Act (47 U.S.C. § 541) specifically held that:

• In-kind contributions required by LFAs are "franchise fees" that count against the statutory 5% cap, even if they are cable-related;
• LFAs may not use their video franchising authority to regulate cable operators' provision of non-cable services – such as broadband Internet service, Wi-Fi and VoIP – delivered over "mixed use" systems that carry both cable and non-cable services;
• The Commission's various orders limiting the actions of LFAs also govern state-level franchise requirements, regulations, fees and taxes; and
• The Commission's orders preempt provisions of existing local franchises, regulations, and state laws that are inconsistent with Section 621 on a prospective basis for obligations due or arising after the effective date of the Third Order.

The Commission's decision builds on its prior orders in this longstanding proceeding, generally adopting the tentative conclusions of the Second FNPRM issued last year. The Third Order directly responds to the decision of the United States Court of Appeals for the 6th Circuit in Montgomery County, Md. v. FCC, which upheld all but two parts of prior Commission orders, and sent those parts (in-kind contributions and the mixed use rule) back to the Commission for further consideration.

Like all of the prior orders in this proceeding, the Third Order no doubt will be challenged on appeal. Absent a court order staying the decision, however, it will go into effect 30 days after it is published in the Federal Register.

In-Kind Contributions That Are Franchise Fees

The FCC concluded that most in-kind contributions required under a franchise fit within the broad definition of a "franchise fee" under the Act. According to the Commission, the franchise fee definition extends to "any tax, fee or assessment of any kind" imposed by a LFA on a cable operator or subscriber based on their status as such, with "narrow, limited exceptions."

The Commission ruled that the franchise fee definition includes "any non-monetary contributions related to the provision of cable services provided by cable operators as a condition or requirement of a local franchise agreement," such as:

• "Free or discounted cable service to public buildings, including buildings leased by or under control of the franchise authority" (e.g., government buildings, libraries);
• Operational (non-capital) costs in support of Public Educational and Governmental (PEG) access channels;
• Costs attributable to the construction of institutional networks (I-Nets); and
• Non-incidental costs (e.g., consultant or processing fees that exceed the reasonable costs of processing the franchise application).

The list is not exhaustive. As the Commission explained, unless expressly excluded by the statute (see below), all cable-related, in-kind contributions constitute "franchise fees."

The Commission previously held that in-kind contributions that are unrelated to the provision of cable service (e.g., mandatory scholarship contributions) must be included when calculating the franchise fee cap. That ruling was upheld on an earlier appeal, and the Third Order did not alter it.

Franchise Costs That Are Not Franchise Fees

The FCC concluded that the exceptions to the definition of franchise fees in the statute are "limited" and "narrow." The exceptions are comprised of:

• Taxes of general applicability;
• All PEG channel related costs required by pre-1984 franchises;
• Capital costs incurred by the cable operator in connection with PEG access facilities;
• The costs of building out a cable system to cover a franchise area;
• Compliance with customer service requirements; and
• Requirements or charges incidental to the awarding or enforcing of a franchise (e.g., obtaining insurance, indemnification).

PEG Capital Costs

The Commission previously held that only construction costs for PEG facilities counted as capital costs exempt from franchise fees. The Third Order expanded this exemption from franchise fees to include "all costs associated with the acquisition or improvement of a capital asset" for PEG access facilities, even if not part of construction.

Value of PEG Channels

The FCC concluded that the existing record was insufficiently developed to decide whether the value of PEG channel capacity counts toward the franchise fee cap. The Commission encouraged commenters to supplement the record and, if provided sufficient information, intends to resolve the issue in the next twelve months.

Valuation of In-Kind Assessments

The Commission decided that, in calculating the value of in-kind contributions as part of the franchise fee, cable operators should assign fair market value to ongoing and future assessments. Where the cable operator has a retail product in the market – such as cable service – that valuation should apply to the franchise fee calculation.

The Commission reasoned that retail rates provide "the most reasonable valuation for in-kind contributions because it is easy to ascertain." The Commission specifically rejected proposals to value in-kind contributions at the operator's cost.

Renegotiation of Excessive Franchise Fee Requirements

The Commission encouraged cable operators and LFAs "to negotiate franchise modifications within a reasonable time" to address existing provisions that conflict with the Third Order. If a LFA declines to modify any provision of a franchise that is inconsistent with the Third Order, the provision is nevertheless preempted.

As the Commission observed, LFAs may continue to receive existing in-kind contributions by reducing the monetary payments they receive to stay under the 5% cap. An LFA may not, however, request that a cable operator "voluntarily" waive the statutory cap or "anything else under the statute as interpreted by the Commission."

Mixed-Use Networks & Fees on Mixed-Use Networks

The Commission embraced its "mixed use" rule, explaining that Congress intended to circumscribe the ability of franchising authorities to use their Title VI authority to regulate non-cable services provided over the cable systems and the associated facilities and equipment used to provide those services. The Commission specifically concluded that Section 624(b)(1) of the Communications Act prohibits LFAs from using their Title VI franchising authority to regulate non-cable services, like broadband Internet access services provided by any cable operator and telecommunications services provided by cable operators that are also common carriers.

The FCC also specified that franchises authorize the installation of Wi-Fi and small cell antennas attached to the cable system. While state PUCs may continue to regulate telecommunications services provided over cable systems, the Commission expressly rejected and preempted the imposition by LFAs of additional telecommunications or information services fees on cable operators.

Significantly, the Commission preempted the Oregon Supreme Court's decision in City of Eugene v. Comcast. The Commission flatly rejected the Eugene court's decision upholding "the city's imposition of a separate, additional 'telecommunications' license fee on the provision of broadband services over a franchised cable system, reasoning that the fee was not imposed pursuant to the city's Title VI cable franchising authority, but rather, under the city's authority as a local government to impose fees for access to rights-of-way for the provision of telecommunications services."

In repudiating the court's reasoning, the Commission concludes "that Eugene fundamentally misreads the text, structure, and legislative history of the Act." The Third Order declares "that any state or local regulation that imposes on a cable operator fees for the provision of non-cable services over a cable system franchised under Title VI conflicts with section 622(b) of the Act and is preempted under section 636(c)."

Preemption of State Laws

The Third Order extends the effect of the Commission's decisions to franchising actions taken at the state level, including state-level statutes and regulations that impose requirements on local franchising. Although the Commission noted that twenty-three states have some level of state-level franchising requirements, it declined to address the validity of any particular state law requirements.

Cable operators will need to carefully assess the application of the Third Order and its predecessors to any particular state law requirements.

UPDATE

Subsequent to the FCC issuing the Third Order, the National League of Cities and a group of local government associations (collectively, NLC) sought a stay of the Order pending judicial review. The FCC rejected that stay motion in November 2019, concluding that NLC had not carried the burden of demonstrating that a stay was warranted.

The FCC's Stay Denial included several sentences that NCTA was concerned could be interpreted as authorizing franchising authorities to ignore cable operator requests to renegotiate existing franchise terms that appeared to be in violation of the Third Order. NCTA petitioned the FCC to remove those sentences from the Stay Denial. On February 11, 2020, the FCC granted NCTA's petition and modified the Stay Denial to remove the problematic language. In so doing, the Media Bureau emphasized its expectation that LFAs should negotiate in good faith when an operator alleges a violation of the Third Order – without requiring the operator to secure a court order prior to commencing such negotiations.