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APPENDIX II APPENDIX II recommended that interest costs on annual based on interest rates the Treasury pays deficits. operating deficits be to finance such The Bureau's October 1984 M&I rate-setting policy proposal document explains how interest would be applied to annual operating deficits incurred through 1982. Interest on deficits incurred prior to 1977 is based on a weighted average of interest rates applicable to CVP capital investments (about 2.5 percent). From 1977 through 1982, interest on annual deficits is computed based on Treasury rates4 but limited to a 1/2-percent upward adjustment each year. The deficit interest rates used by the Bureau for those years range from 7 percent for 1977 to 9 percent for 1982. According to the Regional Cost and Analysis Branch Chief, who is responsible for preparing the revised M&I rate-setting proposal, interest costs on the 1983 operating deficit would be computed using the same procedure as used for 1982. Beginning in 1984, however, interest costs on annual operating deficits would be based on the Treasury rate, without a limit on the adjustment. This practice would conform to current Bureau wide instructions and meet the IG's recommendation for future years. The Regional Director told us that various interest rates may be explored or analyzed as part of the M&I policy revision process. To preserve the Secretary's discretion, the Regional Director would not commit himself to a specific interest criterion. While he did not rule out alternatives, the Regional Director said the region would first consider existing Bureau instruct ions. REPAYMENT OF FACILITIES SERVING ISOLATED OR OUT-OF-BASIN CUSTOMERS When the IG was auditing M&I water activities in 1978, two facilities--Foresthill Divide and San Felipe--were being constructed exclusively for isolated or out-of-basin water customers. Although these facilities were to be considered financially as parts of the CVP, neither would contribute water supply benefits to other CVP water customers. The IG concluded the water service contract rates that had been negotiated for repayment of the facilities would be insufficient to repay the estimated costs to complete the facilities. The IG found that the Bureau had no clear policy indicating who would be responsible for repaying the facilities. The IG recommended that when the Bureau develops a rate-setting policy, it should determine who is going to pay for these facilities. ,I 4The Treasury rate used by the Bureau is the average yield rate during the preceding fiscal year on interest-bearing, marketable securities which ha<le 15 or more years remaining to maturity. 31