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NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Policies)

12 Months Ended

Dec. 31, 2016

Organization, Consolidation and Presentation of Financial Statements [Abstract]

BASIS OF PRESENTATION

TEP's consolidated financial statements and disclosures are presented in accordance with GAAP in the United States, including specific accounting guidance for regulated operations. See Note 2 for additional information regarding regulatory matters. The consolidated financial statements include the accounts of TEP and its subsidiaries. In the consolidation process, accounts of the parent and subsidiaries are combined and intercompany balances and transactions are eliminated. TEP jointly owns several generation and transmission facilities with both affiliated and non-affiliated entities. TEP's proportionate share of jointly owned facilities is recorded in Utility Plant on the Consolidated Balance Sheets, and its proportionate share of the operating costs associated with these facilities is included in the Consolidated Statements of Income. See Note 3 for additional information regarding Utility Plant.

Certain amounts from prior periods have been reclassified to conform to the current year presentation.

Variable Interest Entity

Variable Interest Entities

TEP regularly reviews contracts to determine if it has a variable interest in an entity, if that entity is a Variable Interest Entity (VIE), and if it is the primary beneficiary of the VIE. The primary beneficiary is required to consolidate the VIE when the variable interest holder has: (i) the power to direct activities that most significantly impact the economic performance of the VIE; and (ii) the obligation to absorb losses or the right to receive benefits that could potentially be significant to the VIE.

TEP routinely enters into long-term PPAs with various entities. Some of these entities are VIEs due to the long-term fixed price component in the agreements. These PPAs effectively transfer commodity price risk to TEP, the buyer of the power, creating a variable interest. TEP has determined it is not a primary beneficiary as it lacks the power to direct the activities that most significantly impact the economic performance of the VIEs. TEP reconsiders whether it is a primary beneficiary of the VIEs on a quarterly basis.

As of December 31, 2016, the carrying amount of assets and liabilities in the Consolidated Balance Sheets that relate to its variable interests under long-term PPAs are predominantly related to working capital accounts and generally represent the amounts owed by TEP for the deliveries associated with the current billing cycle. TEP's maximum exposure to loss is limited to the cost of replacing the power if the providers do not meet the production guarantee. However, the exposure to loss is mitigated as the Company would likely recover these costs through retail customer cost recovery mechanisms.

Recently Adopted Accounting Pronouncements

RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS

Effective January 1, 2016, TEP adopted accounting guidance that simplifies the accounting for share-based payment accounting. The guidance requires that excess tax benefits and tax deficiencies be recorded as income tax benefit or expense on the statement of income and eliminates the requirement that excess tax benefits be realized before companies can recognize them. On adoption, using the modified retrospective method of transition, TEP recorded a cumulative effect adjustment of $10 million to increase retained earnings and decrease deferred income taxes related to prior period unrecognized excess tax benefits. The impact on the income statement and the statement of cash flows were not significant. TEP elected to recognize forfeitures when they occur.

Use of Accounting Estimates

USE OF ACCOUNTING ESTIMATES

Management uses estimates and assumptions when preparing financial statements according to GAAP. These estimates and assumptions affect:


•	assets and liabilities in the balance sheets at the dates of the financial statements;


•	disclosures about contingent assets and liabilities at the dates of the financial statements; and


•	revenues and expenses in the income statements during the periods presented.

Because these estimates involve judgments based upon the Company's evaluation of relevant facts and circumstances, actual results may differ from these estimates.

Asset Retirement Obligations

TEP has identified legal AROs related to the retirement of certain generation assets. Additionally, TEP incurred AROs related to its PV assets as a result of entering into various ground leases or easement agreements. The Company records a liability for a legal ARO in the period in which it is incurred if it can be reasonably estimated. When a new obligation is recorded, the cost of the liability is capitalized by increasing the carrying amount of the related long-lived asset. The increase in the liability due to the passage of time is recorded by recognizing accretion expense in Operations and Maintenance Expense on the Consolidated Statements of Income and the capitalized cost is depreciated over the useful life of the related asset or, when applicable, the term of the lease. TEP primarily defers costs associated with its legal AROs as regulatory assets based on the ACC approval of these costs in TEP's depreciation rates.

Depreciation rates also include a component for estimated future removal costs that have not been identified as legal obligations. TEP recovers estimated future removal costs in the rates charged to retail customers and an obligation is recorded for estimated costs of removal as regulatory liabilities.

Contingencies

Reserves for specific legal proceedings are established when the likelihood of an unfavorable outcome is probable and the amount of loss can be reasonably estimated. Significant judgment is required in predicting the outcome of these suits and claims, many of which take years to complete. TEP identifies certain other legal matters where the Company believes an unfavorable outcome is reasonably possible or no estimate of possible losses can be made. All contingencies are regularly reviewed to determine whether the likelihood of loss has changed and to assess whether a reasonable estimate of the loss or range of loss can be made.

Accounting for Regulated Operations

ACCOUNTING FOR REGULATED OPERATIONS

TEP applies accounting standards that recognize the economic effects of rate regulation. As a result, TEP capitalizes certain costs that would be recorded as expense or in AOCI by unregulated companies. Regulatory assets represent incurred costs that have been deferred because they are probable of future recovery in the rates charged to retail customers or to wholesale customers through transmission tariffs. Regulatory liabilities generally represent expected future costs that have already been collected from customers or amounts that are expected to be returned to customers through future rate reductions.

Estimates of recovering deferred costs and returning deferred credits are based on specific ratemaking decisions or precedent for each item. Regulatory assets and liabilities are amortized consistent with the treatment in the rate setting process. TEP evaluates regulatory assets each period and believes recovery is probable. If future recovery of costs ceases to be probable, the assets would be written off as a charge to current period earnings or AOCI. See Note 2 for additional information regarding regulatory matters.

TEP applies regulatory accounting as the following conditions exist:


•	An independent regulator sets rates;


•	The regulator sets the rates to recover the specific enterprise’s costs of providing service; and


•	Rates are set at levels that will recover the entity’s costs and can be charged to and collected from customers.

Cash and Cash Equivalents

CASH AND CASH EQUIVALENTS

TEP considers all highly liquid investments with a remaining maturity of three months or less at acquisition to be cash equivalents.

Restricted Cash

RESTRICTED CASH

Cash balances that are restricted regarding withdrawal or usage based on contractual or regulatory considerations are reported in Investments and Other Property on the balance sheets. Restricted cash was $7 million and $4 million as of December 31, 2016 and 2015, respectively.

Allowance for Doubtful Accounts

ALLOWANCE FOR DOUBTFUL ACCOUNTS

TEP records an allowance for doubtful accounts to reduce accounts receivable for amounts estimated to be uncollectible. The allowance is determined based on historical bad debt patterns, retail sales, and economic conditions. Accounts receivable are charged-off in the period in which the receivable is deemed uncollectible. The change in the balance of the Allowance for Doubtful Accounts included in Accounts Receivable, Net on the Company's Consolidated Balance Sheets is summarized as follows:



	Years Ended December 31,
(in millions)	2016			2015			2014
Beginning of Period	$	27		$	5		$	5
Additions Charged to Cost and Expense	4			2			2
Write-offs	(3		)	(3		)	(2		)
Provision for Springerville Unit 1, Third-Party Owners	(23		)	23			—
End of Period	$	5		$	27		$	5

The allowance for doubtful accounts decreased in 2016 due to the settlement and release of asserted claims between TEP and the Third-Party Owners related to Springerville Unit 1. See Note 7 for additional information regarding the settlement of the Third-Party Owners' claims.

Inventory

INVENTORY

TEP values materials, supplies, and fuel inventory at the lower of weighted average cost or market. Materials and Supplies consist of generation, transmission, and distribution construction and repair materials. The majority of TEP's inventory will be recovered in Retail Rates. Handling and procurement costs (such as labor, overhead costs, and transportation costs) are capitalized as part of the cost of the inventory.

Utility Plant

UTILITY PLANT

Utility Plant includes the business property and equipment that supports electric service, consisting primarily of generation, transmission, and distribution facilities. Utility plant is reported at original cost. Original cost includes materials and labor, contractor services, construction overhead (when applicable), and an Allowance for Funds Used During Construction (AFUDC), less contributions in aid of construction.

The cost of repairs and maintenance, including planned generation overhauls, are expensed to Operations and Maintenance Expense on the Consolidated Statements of Income as costs are incurred.

When TEP retires a unit of regulated property, accumulated depreciation is reduced by the original cost plus removal costs less any salvage value. There is no income statement impact.

AFUDC and Capitalized Interest

AFUDC reflects the cost of debt and equity funds used to finance construction and is capitalized as part of the cost of regulated utility plant. AFUDC amounts are capitalized and amortized through depreciation expense as a recoverable cost in Retail Rates. The capitalized interest that relates to debt is recorded as a reduction in Interest Expense on the Consolidated Statements of Income. The capitalized cost for equity funds is recorded in Other Income on the Consolidated Statements of Income.

The average AFUDC rates on regulated construction expenditures are included in the table below:



	2016		2015		2014
Average AFUDC Rates	7.47	%	6.12	%	7.30	%

Depreciation

Depreciation is recorded for owned utility plant on a group method straight-line basis at depreciation rates based on the economic lives of the assets. See Note 3 for additional information regarding Utility Plant. The ACC approves depreciation rates for all generation and distribution assets. Transmission assets are subject to the jurisdiction of the FERC. Depreciation rates are based on average useful lives and include estimates for salvage value and removal costs.

Below are the summarized average annual depreciation rates for all utility plant:



	2016		2015		2014
Average Annual Depreciation Rates	2.85	%	2.83	%	2.99	%

Utility Plant Under Capital Leases

TEP finances the Springerville Common Facilities with capital leases. The capital lease expense incurred consists of Amortization Expense and Interest Expense—Capital Leases on the Consolidated Statements of Income. See Note 3 for additional information regarding Utility Plant and Note 6 for additional information related to the lease terms.

Computer Software Costs

Costs incurred to purchase and develop internal use computer software are capitalized and those costs are amortized over the estimated economic life of the product. If the software is no longer useful or impaired, the carrying value is reduced and charged to expense.

Evaluation of Assets for Impairment

EVALUATION OF ASSETS FOR IMPAIRMENT

Long-lived assets and investments are evaluated for impairment whenever events or circumstances indicate the carrying value of the assets may be impaired. If expected future cash flows (without discounting) are less than the carrying value of the asset, an impairment loss is recognized if the impairment is other-than-temporary and the loss is not recoverable through rates

Deferred Financing Costs

DEFERRED FINANCING COSTS

Costs to issue debt are deferred and amortized to interest expense on a straight-line basis over the life of the debt, as this approximates the effective interest method. Deferred debt issuance costs are presented in the balance sheet as a direct deduction from the carrying value of the associated debt liability. These costs include underwriters’ commissions, discounts or premiums, and other costs such as legal, accounting, regulatory fees, and printing costs.

TEP accounts for debt issuance costs related to line-of-credit arrangements as an asset.

The gains and losses on reacquired debt associated with regulated operations are deferred and amortized to interest expense over the remaining life of the original debt.

Operating Revenues

OPERATING REVENUES

Revenues related to the sale of energy are recognized when services or commodities are delivered to customers. The billing of electric sales to retail customers is based on the reading of their meters, which occurs on a systematic basis throughout the month. Operating revenues include an estimate for unbilled revenues from service that has been provided but not billed by the end of an accounting period. At the end of the month, amounts of energy delivered since the last meter reading are estimated and the corresponding unbilled revenue is calculated using average customer Retail Rates.

For purchased power and wholesale revenue contracts that are settled financially, TEP nets the revenue contracts with the purchased power contracts and reflects the amount in Wholesale Revenues on the Consolidated Statements of Income.

TEP recognizes monthly management fees in Other Revenues as the operator of Springerville Unit 3 on behalf of Tri-State and Springerville Unit 4 on behalf of SRP. Additionally, Other Revenues include reimbursements from Tri-State and SRP for various operating expenses at Springerville and for the use of the Springerville Common Facilities and Springerville Coal Handling Facilities. The offsetting expenses are recorded in the respective line items of the income statements based on the nature of services provided. As the operating agent for Tri-State and SRP, TEP may earn performance incentives based on unit availability which are recognized in Other Revenues in the period earned.

The ACC has authorized mechanisms for LFCR mechanism related to kWh sales lost due to EE Standards and distributed generation. Revenues are recognized in the period that verifiable energy savings occur. Revenue recognition related to the LFCR mechanism creates a regulatory asset until such time as the revenue is collected.

Purchased Power and Fuel Adjustment Clause

PURCHASED POWER AND FUEL ADJUSTMENT CLAUSE

TEP recovers actual fuel, purchased power and transmission costs through base fuel rates and a PPFAC to provide electric service to retail customers. The ACC periodically adjusts the PPFAC rate at which TEP recovers these costs. The difference between costs recovered through rates and actual fuel, purchased power, transmission, and other approved costs to provide retail electric service is deferred. Cost over-recoveries are deferred as regulatory liabilities and cost under-recoveries are deferred as regulatory assets. See Note 2 for additional information regarding regulatory matters.

Renewable Energy and Energy Efficiency Programs and Renewable Energy Credits

RENEWABLE ENERGY AND ENERGY EFFICIENCY PROGRAMS

The ACC’s RES requires Arizona regulated utilities to increase their use of renewable energy each year until it represents at least 15% of their total annual retail energy requirements in 2025, with distributed generation accounting for 30% of the annual renewable energy requirement. Arizona utilities must file an annual RES implementation plan for review and approval by the ACC. The approved costs of carrying out this plan are recovered from retail customers through the RES surcharge until such costs are reflected in TEP's non-fuel base rates.

TEP is required to implement cost-effective DSM programs to comply with the ACC’s EE Standards. The EE Standards provide for a DSM surcharge to recover, from retail customers, the costs to implement DSM programs. The EE Standards require increasing annual targeted retail kWh savings equal to 22% by 2020.

Any RES or DSM surcharge collections above or below the costs incurred to implement the plans are deferred and reflected in the financial statements as a regulatory asset or liability. TEP recognizes RES and DSM surcharge revenue in Retail Revenues on the Consolidated Statements of Income in amounts necessary to offset recognized qualifying expenditures.

RENEWABLE ENERGY CREDITS

The ACC measures compliance with the RES requirements through RECs. A REC represents one kWh generated from renewable resources. When TEP purchases renewable energy, the premium paid above the market cost of conventional power equals the REC cost recoverable through the RES surcharge. As described above, the market cost of conventional power is recoverable through the PPFAC.

When RECs are purchased, TEP records the cost of the RECs (an indefinite-lived intangible asset) as other assets and a corresponding regulatory liability to reflect the obligation to use the RECs for future RES compliance. When RECs are reported to the ACC for compliance with RES requirements, TEP recognizes purchased power expense and other revenues in an equal amount. TEP had $24 million and $8 million of RECs as of December 31, 2016 and 2015, respectively. RECs are included in Regulatory and Other Assets—Other on the Consolidated Balance Sheets. See Note 2 for additional information regarding regulatory matters.

Income Taxes

INCOME TAXES

Due to the difference between GAAP and income tax laws, many transactions are treated differently for income tax purposes than for financial statement presentation purposes. Temporary differences are accounted for by recording deferred income tax assets and liabilities on the balance sheet. These assets and liabilities are recorded using enacted income tax rates expected to be in effect when the deferred tax assets and liabilities are realized or settled. TEP reduces deferred tax assets by a valuation allowance when, in the opinion of management, it is more likely than not some portion, or the entire deferred income tax asset, will not be realized.

Tax benefits are recognized when it is more likely than not that a tax position will be sustained upon examination by the tax authorities based on the technical merits of the position. The tax benefit recorded is the largest amount that is more than 50% likely to be realized upon ultimate settlement with the tax authority, assuming full knowledge of the position and all relevant facts. Interest expense accruals relating to income tax obligations are recorded in Other Interest Expense on the Consolidated Statements of Income.

Prior to 1990, TEP flowed through to customers certain accelerated tax benefits related to utility plant as the benefits were recognized on tax returns. Regulatory assets include income taxes recoverable through future rates, which reflects the future revenues due to TEP from customers as these tax benefits reverse. See Note 2 for additional information regarding regulatory matters.

TEP accounts for federal energy credits generated prior to 2012 using the grant accounting model. The credit is treated as deferred revenue, which is recognized over the depreciable life of the underlying asset. The deferred tax benefit of the credit is treated as a reduction to income tax expense in the year the credit arises. Federal energy credits generated since 2012 are deferred as regulatory liabilities and amortized as a reduction in income tax expense over the tax life of the underlying asset. Income tax expense attributable to the reduction in tax basis is accounted for in the year the federal energy credit is generated and is deferred as a regulatory asset. All other federal and state income tax credits are treated as a reduction to income ax expense in the year the credit arises.

Taxes Other Than Income Taxes

TAXES OTHER THAN INCOME TAXES

TEP acts as a conduit or collection agent for sales taxes, utility taxes, franchise fees, and regulatory assessments. Trade receivables are recorded as the Company bills customers for these taxes and assessments. Simultaneously, liabilities payable to governmental agencies are recorded in the balance sheet for these taxes and assessments. These amounts are not reflected in the income statements.

Fair Value

FAIR VALUE

As defined under GAAP, fair value is the price that would be received to sell an asset or paid to transfer a liability between market participants in the principal market or in the most advantageous market when no principal market exists. Adjustments to transaction prices or quoted market prices may be required in illiquid or disorderly markets in order to estimate fair value. Different valuation techniques may be appropriate under the circumstances to determine the value that would be received to sell an asset or paid to transfer a liability in an orderly transaction. Market participants are assumed to be independent, knowledgeable, able and willing to transact an exchange, and not under duress. Nonperformance or credit risk is considered in determining fair value. Considerable judgment may be required in interpreting market data used to develop the estimates of fair value. Accordingly, estimates of fair value presented herein are not necessarily indicative of the amounts that could be realized in a current or future market exchange. See Note 11 for additional information regarding fair value.

Derivative Instruments

DERIVATIVE INSTRUMENTS

The Company uses various physical and financial derivative instruments, including forward contracts, financial swaps, and call and put options, to meet forecasted load and reserve requirements, to reduce exposure to energy commodity price volatility and to hedge interest rate risk exposure. For all derivative instruments that do not meet the normal purchase or normal sale scope exception, those derivative instruments are recognized as either assets or liabilities on the Consolidated Balance Sheets and are measured at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation.

Commodity derivatives used in normal business operations that are settled by physical delivery, among other criteria, are eligible for and may be designated as normal purchases or normal sales. Normal purchases or normal sales contracts are not recorded at fair value and settled amounts are recognized as cost of fuel, energy and capacity on the Consolidated Statements of Income.

For derivatives designated as hedging contracts, TEP formally assesses, at inception and thereafter, whether the hedging contract is highly effective in offsetting changes in the hedged item. Also, TEP formally documents hedging activity by transaction type and risk management strategy.

For derivatives not designated as hedging contracts, the settled amount is generally included in regulated rates. Accordingly, the net unrealized gains and losses associated with interim price movements on contracts that are accounted for as derivatives and probable of inclusion in regulated rates are recorded as regulatory assets and liabilities. See Note 11 for additional information regarding derivative instruments.

Pension and Other Retiree Benefits

PENSION AND OTHER POSTRETIREMENT BENEFITS

TEP sponsors noncontributory, defined benefit pension plans for substantially all employees and certain affiliate employees. Benefits are based on years of service and average compensation. The Company also provides limited health care and life insurance benefits for retirees.

The Company recognizes the underfunded status of defined benefit pension plans as a liability in the balance sheet. The underfunded status is measured as the difference between the fair value of the pension plans’ assets and the projected benefit obligation for the pension plans. TEP recognizes a regulatory asset to the extent these future costs are probable of recovery in the rates charged to retail customers. The Company expects to recover these costs over the estimated service lives of employees.

Additionally, TEP maintains a SERP for senior management. Changes in SERP benefit obligations are recognized as a component of AOCI.

Pension and other postretirement benefit expenses are determined by actuarial valuations based on assumptions that the Company evaluates annually. See Note 8 for additional information regarding the employee benefit plans.