California Water Service Group Annual Report 2005

In October 2004, the American Jobs Creation Act of 2004 (Act) was signed into law and provides a new federal income tax deduction from qualified U.S. production activities, which is being phased in from 2005 through 2010. Under the Act, qualified production activities include production of potable water, but exclude the transmission and distribution of the potable water. In December 2004, the FASB issued FASB Staff Position No. 109-1 and proposed that the deduction should be accounted for as a “special deduction” in accordance with SFAS No. 109. As such, the special deduction had no effect on deferred tax assets and liabilities existing at the enactment date. Rather, the impact of the deduction is being reported in the year in which the deduction is claimed on the Company’s tax return. During 2005, the Company completed its evaluation of the provisions of the Act and included a deduction in the provision for income taxes. The impact was to lower the income tax provision by $175 in 2005.

The components of deferred income tax expense were:

In thousands	2005	2004	2003
Depreciation	$3,593	$11,603	$3,110
Developer Advances and Contributions	(561)	(1,409)	(1,136)
Prepaid expenses	2,004	--	--
Bond redemption premiums	--	(231)	911
Investment tax credits	(106)	(107)	(110)
Other	(632)	(606)	(987)
Total deferred income tax expenses	$4,298	$9,250	$1,788

The tax effects of differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 2005 and 2004 are presented in the following table:

			2005	2004
Deferred tax assets:
	Developer deposits for extension agreements and Contributions
		in aid of Construction	$48,020	$47,688
	Federal benefit of state tax deductions		7,464	7,120
	Book plant cost reduction for future deferred ITC amortization		1,545	1,607
	Insurance loss provisions		1,846	1,158
	Pension plan		1,663	1,524
	Other		812	190
Total deferred tax assets			61,350	59,287
Deferred tax liabilities:
	Utility plant, principally due to depreciation differences		120,875	111,506
	Prepaid expenses		2,004	--
	Premium on early retirement bonds		2,391	2,607
	Total deferred tax liabilities		125,270	114,113
	Net deferred tax liabilities		$63,920	$54,826

A valuation allowance was not required at December 31, 2005 and 2004. Based on historical taxable income and future taxable income projections over the period in which the deferred assets are deductible, management believes it is more likely than not that the Company will realize the benefits of the deductible differences.

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