COLUMBUS, Ohio, Feb. 20, 2001 – A federal judge today ruled against American Electric Power (NYSE: AEP) in its suit against the government over interest deductions claimed by the company relating to AEP’s corporate owned life insurance (COLI) program.

Federal District Court Judge James L. Graham, of the U.S. District Court for the Southern District of Ohio, ruled that the interest deductions claimed by AEP on its federal income tax returns were not allowable under applicable tax laws. The Internal Revenue Service had challenged the deductions.

The ruling relates specifically to the approximately $72 million interest deduction on AEP’s 1996 federal income tax return. The ruling will have an effect on similar deductions in taxable years beginning in 1991. Because of the decision, the company will include taxes of approximately $317 million in earnings reported for 2000.

The decision will have no cash impact since the taxes had already been paid to the IRS.

The company said it will appeal the decision.

AEP previously disclosed the existence of this tax controversy in filings with the Securities and Exchange Commission, in its annual reports to shareholders, and in filings with various commissions and regulatory bodies having jurisdiction over the company’s activities. In 1998 and 1999 the company made payments of taxes and interest attributable to COLI interest deductions for taxable years through 1998 to avoid the assessment by the IRS of any additional interest on the contested amount. In the litigation, the company was seeking refund of taxes and interest previously paid.

“We are disappointed by the court’s decision, since we are confident that the facts supported the use of the interest as a deduction on our tax returns,” said William L. Scott, AEP vice president – taxes. “The company purchased the COLI policies to protect our employees’ post-retirement medical benefits. The policy loans used to finance the purchase of the policies were deductible under tax laws in effect at that time.”

Beginning in 1990, AEP purchased life insurance policies covering a broad base of its employees and partially financed the payment of premiums with policy loans. All employees were advised through company internal communications of the company’s action.

The decision to purchase COLI policies was made to address a non-tax problem that emerged when the Financial Accounting Standards Board changed the accounting rule for post-retirement medical benefits expenses. The new accounting rule required companies to accrue and reflect post-retirement medical expenses in financial statements over the employee’s working years. Previously, these expenses were not reported as an expense until an employee’s retirement years – when the medical costs were actually paid.

The accounting change would have increased AEP’s annual expenses for post-retirement medical benefits from $10 million to as much as $80 million. The decision to purchase COLI policies to offset increased benefit expense was made after weighing two other unacceptable options:

  1. eliminating or severely reducing medical benefits for company retirees

  2. requesting an increase in electricity rates charged to the company’s customers

Interest on policy loans is generally deductible under U.S. tax code. In 1996, Congress amended the tax code to eliminate policy loan interest on broad-based COLI policies and instituted a three-year transition – beginning in 1996 – to phase out the policy loan interest deductions. AEP complied with the phase-out rules, according to briefs filed by the company.

American Electric Power is a multinational energy company based in Columbus, Ohio. AEP owns and operates more than 38,000 megawatts of generating capacity, making it one of America’s largest generators of electricity. The company is also a leading wholesale energy marketer and trader, ranking second in the U.S. in electricity volume. AEP provides retail electricity to more than 9 million customers worldwide and has more than $55 billion in assets, primarily in the U.S. with holdings in select international markets. Wholly owned subsidiaries are involved in power engineering and construction services, energy management and telecommunications.

Pat D. Hemlepp
Manager, Media Relations

Thomas Hughes
Vice President, Investor Relations
Bette Jo Rozsa
Managing Director, Investor Relations

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