The Universal Service Fund (USF) was created by the United States Federal Communications Commission in 1997 to meet the goals of Universal Service as mandated by the Telecommunications Act of 1996. The 1996 Act states that all providers of telecommunications services should contribute to federal universal service in some equitable and nondiscriminatory manner; there should be specific, predictable, and sufficient Federal and State mechanisms to preserve and advance universal service; all schools, classrooms, health care providers, and libraries should, generally, have access to advanced telecommunications services; and finally, that the Federal-State Joint Board and the FCC should determine those other principles that, consistent with the 1996 Act, are necessary to protect the public interest.
The goals of Universal Service are:
- To promote the availability of quality services at just, reasonable, and affordable rates,
- To increase access to advanced telecommunications services throughout the Nation,
- To advance the availability of such services to all consumers, including those in low income, rural, insular, and high cost areas at rates that are reasonably comparable to those charged in urban areas.
Definition of Universal Service
The 1996 Act solved this problem by creating a Federal-State Joint Board to determine what services should be included in “universal service.” In selecting these services, the Joint Board and the Commission were to consider the extent to which the services “are essential to education, public safety and health,” “have through the operation of market choices by customers, been subscribed to by a substantial majority of residential customers,” “are being deployed in public telecommunications networks by telecommunications carriers,” and “are consistent with the public interest, convenience and necessity.” Though the act specifies that “universal service is an evolving level of telecommunications services,” the Joint Board’s recommendations, adopted by the FCC in 1997, have not been updated since. Universal service includes:
- the ability to place and receive telephone calls
- touch tone dialing
- single party service (as opposed to a shared, multi-party line)
- access to emergency services
- access to operator services
- the ability to place long distance calls
- the ability to turn off long distance calling
- directory assistance
The Universal Service Fund (USF) is one fund with four programs.
The four programs are:
High Cost - This support ensures that consumers in all regions of the nation have access to and pay rates for telecommunications services that are reasonably comparable to those in urban areas. The High Cost Program is by far the largest and most complex of the four programs. The net goal of the program is to keep telephone service affordable for customers in areas where, absent the subsidy, telephone service would be dramatically higher than the national average. The complex system of fees, surcharges and subsidies supports telephone companies in rural and remote areas.
Low Income - This support, commonly known as Lifeline and Link Up, provides discounts that make basic, local telephone service affordable for more than 7 million low-income consumers. To be eligible for either program, consumers must earn less than 135% of the Federal poverty line, or participate in specified federal subsidy programs such as Medicaid or the Federal Free and Reduced Lunch Program. For qualified customers, the Link Up program pays up to $30 of the telephone service installation fees, and provides up to $200 of one year, interest-free loans for any additional installation costs. The Lifeline program provides income-eligible consumers with reduced-cost local telephone service, though the rates vary from state to state based on complementary in-state subsidies. The programs do not directly subsidize to low-income residents, but reimburse telephone companies based on the number of low-income subscribers participating in the program.
Rural Health Care - This program provides subsidies for “tele-health and tele-medicine,” typically a combination of video-conferencing infrastructure and high speed Internet access, to enable doctors and patients in rural hospitals to access specialists in distant cities at affordable rates.
Schools & Libraries - this program, also known as E-Rate, provides subsidies for Internet access, telecommunications services and internal infrastructure to schools and libraries. The subsidies pay a percentage of costs based on need, with rural and low-income schools receiving the greatest subsidy. This support goes to service providers that provide discounts on eligible services to eligible schools, school districts, libraries, and consortia of these entities.
In the past, only long distance companies made contributions to support the federal Universal Service Fund. In 1996, the United States Congress passed a law that expanded the types of companies contributing to the Universal Service Fund.
Currently, all telecommunications companies that provide service between states, including long distance companies, local telephone companies, wireless telephone companies, paging companies, and payphone providers, are required to contribute to the federal Universal Service Fund. Carriers providing international services also must contribute to the Universal Service Fund.
Telecommunications companies pay contributions into one central fund. USAC makes payments from this central fund to support the four Universal Service Fund programs.
History of the Universal Service Fund
Monopoly Underpinnings of Universal Service Fund
Once the country had settled on monopoly regulation, it was up to government regulators and not the market to control the cost of telephone service. The mechanism for this, established much earlier during the period of the Bell patent monopoly, was Rate of Return Regulation. State (and later, federal) utility commissions decided how much revenue a company needed to cover its cost of service, debts and depreciation and still show sufficient dividends/equity growth to remain an attractive investment. The rates charged consumers were then set to reach this revenue target, or “rate of return.” This simple idea gets very complicated once one starts valuing the assets of AT&T, one of the largest companies in the world, or deciding which costs to include under the “cost of service” (is it appropriate to include the cost of advertising for a monopoly in the rate base?). There is also no guarantee once those rates are set that they will actually meet that revenue target. But it gets doubly complicated once these calculations are split between two jurisdictions, state and federal, intrastate and interstate.
Prior to the 1934 Act and the creation of the FCC, the Bells and the Independents were not subject to any real federal regulation. Thus any investments or rates that were dedicated to long-distance, interstate calling was off limits to state regulators and thus could not be included in the rate base used to set local rates. Long distance, interstate calls traveled through the local, intrastate portion of the telephone system, so state regulators pushed for a method of regulation that would account for this, in hopes of lowering the cost of local calls. There were two competing methods of accounting. Station-to-Station accounting included usage of the local loop when calculating long distance investment and rate-setting. If 15% of call time was spent on long distance calls, then 15% of the cost should be allocated to long distance rates. Board-to-Board accounting did not include the cost of the local loop when calculating long distance investment and rate-setting. The entire cost of the local loop thus had to be recovered through state rate-setting (and the cost of local calls). At first, the Bell companies preferred Board-to-Board, because there was essentially no regulation at the federal level, and state utility commissions were very strict. The more costs allocated to the state level, the higher the rates they could charge under rate of return at the state level. Interstate charges were essentially what the (monopoly) market could bear.
The Communications Act of 1934 changed all this. The FCC, charged with overseeing the telephone system at the federal level, proved surprisingly effective at regulating interstate rates, winning a number of interstate rate decreases in its first decade of existence. As a result, the Bell companies began advocating Station-to-Station billing, to push some of the costs back to the interstate level and counter the aggressive rate reductions by the FCC. And it worked. Some (though not all, AT&T played this game well) of the rate increases earned at the federal level under new accounting were passed back to consumers in state rate setting proceedings, creating a system in which long distance rates subsidized local phone service. By making local phone service more affordable, this policy arguably fulfilled the goals of “universal service.” This is a product of AT&T’s attempts to extract maximum rents from a system of dual jurisdictions, not of any explicit effort on the part of the Bells or regulators to make local phone service universal.
The FCC codified its rules for calculating the allocation of costs between local and interstate jurisdictions in a Separations Manual released in 1947 in conjunction with NARUC. When these rules took effect in 1950, separations were allocated under the station to station principle and based on “subscriber line use,” the percentage of usage of local telephones that was devoted to long distance calling. At the time, this was very low, around 3%. Shortly thereafter in 1951, the FCC started looking into interstate rates again and in response AT&T suggested amending the Separations Manual to shift more of the local plant costs into long distance rates, in order to justify their long distance rates. The FCC resisted this jurisdictional subsidy shell game, but Senate pressure forced them to go along. The interstate contribution to local exchanges went above usage, to 5%, the beginning of subsidization. Private contracts between AT&T, the Bell Operating Companies and 1400 plus remaining independent telephone companies enabled the local exchanges to recover the revenue lost by keeping local rates artificially low (by allocating costs to the interstate/long-distance jurisdiction). The payments specified by these contracts generally tracked the costs allocated to the interstate jurisdiction.
This was a pretty small increase, and there was not a huge impact on rates, but now that the allocation was unhinged from actual usage, anything goes. And it went. In 1970 the FCC implemented the Ozark Plan which essentially pegged the allocation of intrastate costs to interstate service at three times subscriber line usage. So if 3% of calls were long-distance (interstate), 9% of the local exchange’s costs would be allocated to interstate usage. Eventually the multiplier went even higher, so that some local exchanges were able to allocate 85% of their costs to long distance. Local exchange service rates dropped in real dollars, while the cost of providing that service was actually growing more expensive as population density increased and technological advances required more frequent and more costly upgrades. The effects of this subsidy were amplified in rural areas where a greater percentage of calls were long distance.
Two other AT&T policies helped keep local costs low and subsidized local service. The first was geographical cost averaging. Long distance calls were charged based on distance, not on route density or the cost of maintaining the link, so that long distance calls on high traffic routes subsidized calls on low traffic and high cost routes. The latter primarily served rural areas. This policy reflected the network benefits to AT&T of connecting distant customers (not to mention simplicity for consumers and accounting) and was sustained by the absence of long distance competition that would drive traffic on high density routes toward marginal cost. The second internal subsidy was the higher rates paid by business subscribers. Businesses generally paid twice as much for local telephone service as residential subscribers. The rationale was that businesses used their lines more, though they were also less sympathetic to state regulators than housewives and wage earners. Areas with a higher proportion of business subscribers subsidized those with fewer businesses.
By the early 1970's, the regulatory structure of the United States kept local rates for rural residential customers far below what they would otherwise be, through a combination of geographic rate averaging, skewed separations accounting, and differential pricing for business and residential customers. The system was held together by the universality of the monopoly system—everything worked as long as there were no competitive pressures to drive long distance service toward marginal cost.
End of Monopoly, and the Revival of "Universal Service"
Enter Microwave Communications Incorporated, MCI. A series of incremental FCC decision beginning in 1956 culminated in the 1975 decision to allow MCI to offer its Execunet service, essentially a microwave link between two cities, connected at each end to the local telephone exchange. MCI set up this service on AT&T’s most profitable long distance routes, and began undercutting AT&T’s long distance service. MCI interconnects and uses the local network at the artificially low rates, while competing against AT&T’s artificially high long distance rates. Not surprisingly, this turned out to be quite lucrative. This competition took place at first on AT&T’s densest, most profitable routes, which upsets the geographical averaging of long distance charges. AT&T still maintains the long-distance links to minor cities, but starts losing subscribers on the high-density profitable routes with which they subsidized those lines. Long distance competition was a disaster for the regulatory structure of the preceding decades.
State regulators and AT&T needed an explicit policy rationale for the system of cross-subsidies they had created. They found that justification in universal service. Universal service became a rallying cry for defenders of monopoly service, who cited the importance of a regulated monopoly in keeping costs low. 11 The defenders of monopoly service eventually lost: AT&T’s 1984 breakup demolished this intricate system of internal accounting and cross subsidies. But it is a tribute to the power of the universal service idea that it outlasted the monopoly it was intended to defend.
Today’s universal service guarantees are best understood as the efforts of policy makers to avoid the political and economic implications of telephone deregulation. The High Cost program codified by the 1996 Act and its associated rulemakings are the result of the efforts of the FCC and state regulators to maintain the internal cross subsidies of the AT&T monopoly, without the AT&T monopoly. Rather than eliminate the cross subsidies, the 1996 Act attempted to make them transparent so that they could be shared among potential competitors. The Low Income programs, Link-Up and Lifeline, were instituted to insulate low income Americans from the increase in local rates as the FCC and state regulators began to move telephone rates closer to cost in response to competition.
Wide disagreement over the nature and administration of the USF exists in telecommunications policy circles. Such disagreements fragment traditional partisan alliances in the United States Congress. Recently, Senator Ted Stevens (R-AK) sponsored a bill (the Universal Service for Americans Act) that would increase universal service tax base to include broadband ISPs and VoIP providers, in order to fund broadband deployment in rural and low-income regions of the country. Senator John E. Sununu (R-NH) argues that such subsidies distort competition and thwart progress in the arena of broadband access.
Recently, the USF has gained new attention as several Iowa-based companies have used USF subsidies to provide free, international calling. This practice, which began in late 2006, represents an unintended consequence of the USF.
Universal Service reform
Amid the growing controversy surrounding universal service, and more specifically the Universal Service Fund, the Federal Communications Commission is in the process of wide-sweeping universal service reform. One of the primary focus areas for reform is the high cost program. In August 2006 the Commission requested comments on a proposal to use reverse auctions as a means of allocating funds under the universal service high cost program.
Currently, universal service funds are allocated by state public utilities commissions (PUCs) to eligible telecommunications carriers. Pursuant to Section 214(e)(2) of the 1996 Act, state PUCs designate eligible telecommunications carriers, ETCs, based upon a public interest standard. This public interest standard is based upon principles set forth in the Act and by the Federal Communications Commission, as well as implementation rules adopted by state PUCs.
The auction proposal, one of many possible methods of reforming the Fund, would allocate universal service funding to the lowest bidder. Establishing a competitive market for the provision of telecommunications services in high cost markets has the potential to eliminate, or substantially reduce, the competition in local markets envisioned by Congress in the preamble of the 1996 Act. The proposal to auction universal service funding to only a single bidder would return the marketplace to the pre-1996 Act status quo, with only a single monopoly provider of universal service in each area where rights are auctioned. Because incumbent wireline carriers have collected universal service funds and access fees for many years, they may well be in the best position, economically, to win these auctions, particularly when their only competitor in an auction is a newer wireless company or competitive local exchange carrier still building and paying for facilities. If citizens are to experience the benefits of competition documented in basic economics books, such as lower cost of services, wider geographic coverage, a broader variety of services such as, in this case, digital data transmission and mobility, then auctioning off to a single carrier a monopoly right to provide subsidized service will not achieve that end. Many decisionmakers and carriers have advanced alternative proposals for reform of the universal service system. Examples of such proposals include capping high-cost funding for all recipients of high cost funds rather than only for competitors, stopping sending funding to wireline incumbents for customer lines they no longer serve, and increasing audit frequency and depth of scrutiny in order to control costs and deter "goldplating" of costs.
- ^ What’s With the 712 Area Code? — Alec Saunders .LOG
- ^ Federal Communications Commission, Public Notice, Federal-State Joint Board on Universal Service Seeks Comment on the Merits of Using Auctions to Determine High-Cost Universal Service Support, CC Docket No. 96-45 (Aug, 2006)
- FCC website
- USAC Website
- Universal Access (Free Press)
- Universal Service Administrative Company