Advocacy Alerts

Proposed EPA Affordability Methodology Makes Important Improvements – NACWA Encourages Thorough Member Review

On September 15, EPA took a major step toward overhauling its financial capability assessment methodology, releasing its Draft 2020 Financial Capability Assessment. A notice seeking public comment was published in the Federal Register on September 18 and feedback on the proposal is due October 19.

NACWA encourages its members to conduct a detailed review of the proposed document, especially those members who have previously been subjected to an assessment using EPA’s 1997 Financial Capability Assessment methodology, and share your written comments with, or provide input to, NACWA. The key elements of the new methodology – two alternatives discussed briefly below –are summarized over 17 pages of the new EPA document.

EPA’s proposed new approach continues to rely on its old metrics (i.e., the Residential Indicator and Financial Capability Indicator), but key elements from the water sector’s April 2019 report, Developing a New Framework for Household Affordability and Financial Capability Assessment in the Water Sector, developed jointly by NACWA, the American Water Works Association (AWWA) and the Water Environment Federation (WEF), have been incorporated and weighted equally alongside the old metrics in an effort to better reflect the impact on low-income communities and adjust the determination of burden based on those impacts.  NACWA is working with AWWA and WEF to have the experts who prepared the April 2019 report review the new proposed approach and provide recommendations on where it could be improved. 

EPA’s enforcement office has historically resisted withdrawing or replacing the Agency’s 1997 guidance and EPA specifically seeks comment on whether this new document should replace the 1997 guidance, as proposed, or be issued merely as a supplement. For nearly two decades NACWA has been urging EPA to abandon the 1997 guidance altogether and the Association will press EPA to finalize the document with a clear statement that it will replace the 1997 guidance. We strongly encourage our members that choose to comment to make a similar request.

This Advocacy Alert provides a brief summary of the 2020 document, but members are encouraged to review the key portions of the document in detail.

Overview of EPA’s Proposal

EPA’s proposed 2020 Financial Capability Assessment contains two alternative approaches, both of which include consideration of impacts on low income populations and the prevalence of poverty. As proposed, utilities would be able to choose which approach they want to use. NACWA, AWWA and WEF had pressed EPA to incorporate drinking water costs directly into the calculations, but the two alternatives only look at Clean Water Act costs, both wastewater and stormwater. EPA has outlined where drinking water costs can be included as supplemental information and there have been some improvements made to how drinking water costs can be considered.

Alternative 1 –

EPA expects that many small and mid-sized utilities and those that can self-finance their capital projects will select Alternative 1 due to its simplicity. This alternative is most similar to the existing 1997 methodology that relies on a matrix to determine whether a particular mandated investment program is a low, medium or high burden on a community. EPA retains the existing matrix that calculates the Residential Indicator (RI) as a percent of median household income (MHI) and a Financial Capability Indicator (FCI), including instructions from the 1997 guidance on how to calculate the two indicators in Appendices A and B of the proposed document.

EPA adds a second matrix with the two new indicators that closely resemble what the water sector recommended – the Lowest Quintile Residential Indicator (LQRI) and the Poverty Indicator (PI) – to determine the level of burden on those ratepayers in the lowest 20% of the income range for the community. The results of the two matrices are then compared in a third matrix which provides an overall burden score that is then compared to a table of recommended implementation schedule benchmarks (Low Burden – Normal Engineering/Construction Schedule; Medium Burden – Up to 15 years; High Burden – Up to 25 years). EPA notes in its scheduling benchmarks that additional information (discussed below) may extend a schedule beyond 25 years.  

Notably, while impacts on the lowest quintile can, for example, increase a finding of medium burden based on the old methodology to a high burden, as proposed, a low impact on the lowest quintile can also decrease a finding of burden based on the existing methodology (e.g., what would have been a medium burden using the 1997 document would become a low burden using the 2020 document due to the low burden on the lowest quintile). This is an important consideration for comments from NACWA and the public clean water sector. A key consideration is whether there are any real-world scenarios in which this might play out – are there any communities that might show a high burden when assessing MHI but a low burden when assessing the LQRI and PI.    

Another assumption that EPA makes is that low-income households have a lower total cost for water services. EPA points to data that show that low-income households are generally smaller than higher income households, due in large part to the high number of single person, fixed income (in many cases older-adult) households that are considered low-income. From these data, EPA assumes that the cost per low-income household is only 70% of what the median household pays (fewer people equates to lower water use and lower water cost). EPA also uses the upper boundary of the lowest quintile of income levels rather than a mean or median value when calculating the cost as a percent of LQRI. These assumptions dampen the predicted overall impact on lower-income households, and the water sector’s experts are examining these issues closely in their review of the proposal. EPA does indicate that a community can present local data to demonstrate that the cost per low-income household is higher than the assumed 70%.

EPA is, however, proposing to leave the burden thresholds (e.g., in the current methodology 1 or 2% of MHI) unchanged when applied to the LQRI. For example, a 2% or higher impact on LQRI would be considered a high burden. The document notes that “EPA is not proposing to institutionalize disparate impacts on low income households by changing the RI benchmarks for evaluating burdens on LQI [lowest quintile income] households but is seeking comment on whether that would be appropriate.”

EPA provides an example calculation that suggests that a cost impact that is 1% of MHI would translate to an impact that is 1.7% of LQI (with 2% of MHI being equal to 3.4% of LQI). Leaving the benchmarks the same means that a medium or high burden on low-income households would be reached sooner (before a 1% or 2% threshold on MHI would be met). So, while EPA dampens the impact the low-income metrics would have on a burden finding by assuming a lower total cost for water services per low-income household and using the upper boundary of the lowest quintile of income levels, it influences the burden determination in the other direction by using the same benchmark values as the 1997 guidance.   

EPA notes in the document and provides additional detail in Appendix D that the Office of Science and Technology in EPA’s water office is intending to use Alternative 1 in place of its existing methodology for evaluating economic impacts in the context of water quality standards variances and use attainability analyses (UAAs) as they relate to municipal dischargers (EPA’s existing methodology is outlined in the Agency’s 1995 Interim Economic Guidance for Water Quality Standards). Appendix D to the 2020 FCA document includes a series of matrices similar to what is outlined above but expressed in the terminology used in the 1995 WQS Guidance. Higher impacts on low-income households would shift the finding of overall economic impact toward ‘significant impact’ in that assessment. The Appendix D matrices could also, where there is a finding of ‘not likely to be substantial’ impacts on low-income households, indicate an overall economic impact for the entire community that is lower than what would have been determined using the existing 1995 Guidance alone.

Alternative 2 –

EPA anticipates that larger communities with more expensive Clean Water Act obligations may choose to employ Alternative 2 given its more sophisticated evaluation of affordability over time. Alternative 2 is based on the development of a dynamic financial and rate model to use cash flow forecasting to look at actual impacts on customer classes throughout the life of a capital investment program. Many utilities already employ this type of modeling for financial planning and rate setting, so this approach will be more attractive to those utilities.

EPA provides a recommended list of information for communities to submit to assist in the Agency’s review of any modeling analyses and includes some example summary tables that examine rate increase scenarios for several potential project schedule lengths to look at the resulting RI and LQRI values.

Unlike Alternative 1, EPA has not established benchmark percentages of household income for Alternative 2. Instead, EPA intends to review the summary information regarding the RI and LQRI values throughout the life of the program and to “keep the percentage of household income spent on wastewater utility bills (and if added to the model, drinking water utility bills) within reasonable bounds when establishing compliance schedules.” EPA does not provide any additional detail on what “reasonable bounds” means.

EPA does provide specific instructions for considering drinking water costs in the rate model analysis used in Alternative 2.

Other Metrics with Standardized Instructions

For both Alternative 1 and 2, EPA invites utilities to provide additional information and for the first time is providing standardized instructions to help ensure the information is consistent from one community to the next. EPA will consider this additional information under Alternatives 1 and 2 and may adjust a burden finding (e.g., increase from low burden to medium burden) or extend an implementation schedule beyond the scheduling benchmarks if the community is already at a high burden.

EPA provides standardized instructions for the following:

  • Drinking Water Costs;
  • Potential Bill Impact Relative to Household Size;
  • Customer Assistance Programs;
  • Asset Management Costs;
  • Stormwater Management Costs;
  • Comparisons to National Data.

Additional information, beyond the list above, can still be submitted and EPA discusses how that information will be considered.

As noted above, NACWA is working with AWWA and WEF and will be engaging the experts who developed the joint water sector report to provide a comprehensive review of what EPA has proposed.

Please send any feedback, comments or input for the water sector comment effort on the proposed new guidance to Chris Hornback at chornback@nacwa.org.