Reciprocal Compensation For ISP Traffic; A Regulatory Perspective

 Following the passage of the Telecommunications Act of 1996, Internet Service Providers (ISPs) naturally embraced the price and service benefits offered by CLECs.  And CLECs embraced ISPs because they were an available and interested customer group that generated a high level of incoming traffic, since they provide dial-up access to the Internet. 

The traffic that originated with incumbent carriers is subject to reciprocal compensation payments from the ILEC to the CLEC.  Consequently, ILECs became responsible for significant reciprocal compensation bills.

Over the last two years, however, the ILECs have challenged the CLECs’ right to reciprocal compensation for this traffic.  A debate has arisen over the proper regulatory treatment of ISP traffic in general, and the availability of reciprocal compensation for such traffic in particular.  The question many CLECs must face as they move into the second and third generations of interconnection agreements is under what circumstances they can expect this revenue stream to continue.

That's a complex question; this column explains the tumultuous regulatory environment surrounding this issue and discusses the future of this form of reciprocal compensation.

A Brief History of Reciprocal Compensation for ISP Traffic
After several years of state regulatory commission and federal district court deliberation on this issue, the FCC issued a Declaratory Ruling on February 26, 1999, addressing the question of the proper regulatory treatment of ISP traffic.  However, while purporting to establish a final determination, the Declaratory Ruling may have created more questions than answers concerning reciprocal compensation for ISP traffic.

In the first generation interconnection agreements, both ILECs and CLECs assumed that reciprocal compensation would be paid for ISP traffic.  Prior to the Declaratory Ruling, all state regulatory commissions that ruled on this issue for specific interconnection agreements found in favor of the CLEC and determined that reciprocal compensation should be paid. 

In most cases, these commissions focused on the intention of the parties in treating ISP traffic as local traffic subject to reciprocal compensation.  They also looked at the ILECs' own treatment of such traffic or the distinction between telecommunications services and information services, which allowed the commissions to find that the information service component of a Internet dial-up call was distinct from the telecommunications component.  Similarly, each of the federal district courts to consider an appeal of a state regulatory commission’s decision found for the CLEC and held that reciprocal compensation should be paid.

These decisions came against a backdrop of regulatory treatment that had long exempted all Enhanced Service Providers (ESPs) including ISPs from exchange access charges and generally treated all ISP traffic as local.  As early as 1983, the FCC found that ISPs use interstate exchange access, but determined that, in order to protect the then-infant information services industry, that ISPs would be exempt from exchange access charges.  Under this exemption, the FCC treated ISPs as end users under the access charge regime.  ISPs purchased their links to the public switched network through intrastate business tariffs, and, for separation purposes, both ILECs and CLECs treated revenues and expenses from ISP traffic as intrastate.

Current Regulatory Treatment of Reciprocal Compensation and ISP Traffic
The Declaratory Ruling began a new phase in the regulatory treatment of both ISP traffic and reciprocal compensation.  In the Declaratory Ruling, the FCC held that ISP traffic was jurisdictionally mixed, but largely interstate.  The FCC rejected the distinction between telecommunications services and information services a few state regulatory commissions relied on.  The FCC held that a call to an ISP did not terminate with the ISP, but was instead a single interstate call originating with an end user and terminating on the Internet.

The Declaratory Ruling, however, did not resolve the critical question of how the FCC’s determination that ISP traffic is interstate would effect the reciprocal compensation debate. 

The FCC did say that it was starting the rule-making process, however, and it solicited comments about these issues.  But the Declaratory Ruling avoided questioning state commission decisions requiring reciprocal compensation for ISP traffic and allowed state commissions to continue accepting jurisdiction and to adopt whatever compensation system for ISP traffic that they deemed appropriate pending a federal rule.  The Declaratory Ruling appears to place almost no limits on the state commission’s ability to require reciprocal compensation for ISP traffic.

Since the Declaratory Ruling, a number of the state regulatory commissions have continued to exercise jurisdiction over reciprocal compensation for ISP traffic.  First, several state commissions have issued decisions interpreting remaining first generation interconnection agreements, in light of the Declaratory Ruling.  Second, as first generation interconnection agreements expire by their terms, several state commissions have arbitrated the issue of reciprocal compensation for ISP traffic for second-generation interconnection agreements. 

Finally, a number of state commissions have instituted generic proceedings designed to adopt a statewide policy regarding inter-carrier compensation for ISP traffic.  Much as before, most of the cases in these categories saw  state commissions require reciprocal compensation for ISP traffic.  Generic proceedings continue in several states, and almost all appear to lean towards adopting reciprocal compensation as an appropriate compensation mechanism.

Where We're At Now
Currently, the FCC's Declaratory Ruling combined with the state regulatory commissions' decisions requiring reciprocal compensation suggests that reciprocal compensation will be available under pre-existing interconnection agreements, unless it was not explicitly excluded.  In addition, state commissions appear open to arguments that, without reciprocal compensation, CLECs would be entirely uncompensated for their transport of ISP bound traffic, and that, during the original negotiations of the interconnection agreements, the ILECs were aware that ISP traffic was considered local. 

In other words, the current climate remains, generally, agreeable for CLECs receiving reciprocal compensation for calls to ISPs.  The FCC explicitly reserved state commission jurisdiction and avoided adopting a ruling that would overturn state actions.  This appears to ensure that state commissions will continue to play a vital role in this ongoing debate.

Conclusion
As first-generation agreements expire and the parties begin to negotiate new interconnection agreements, the availability of reciprocal compensation for ISP traffic becomes an important issue.  Most state commissions still seem to believe that reciprocal compensation is the most appropriate compensation mechanism for ISP traffic.

However, in light of the FCC's Declaratory Ruling, CLECs must now make explicit their intent to require reciprocal compensation for ISP traffic, and, as a result, likely will have to either arbitrate that issue against the opposition of the ILECs or seek generic proceedings on the issue.  To be successful in these arbitrations or generic proceedings, CLECs should be able to show how reciprocal compensation supports the Telecommunication Act’s policy of fostering competition in the provision of telecommunications services.

The FCC's final ruling on this issue is expected to be released in the near future.  Whether it will order a specific compensation mechanism for ISP traffic, leave the issue in the hands of state commissions, or create some hybrid arrangement remains to be seen.  Nevertheless, it is clear that CLECs will need to keep a close eye on the FCC order and the results of state commission proceedings to successfully implement their business plans through acceptable agreements, negotiations and arbitrations.

Reinhart, Boerner, Van Deuren, Norris & Rieselbach's Telecommunications and Energy Group represents numerous telecommunications companies, including competitive local exchange carriers, resellers and cellular service providers.  The group, led by Peter L. Gardon, includes Stephanie L. Mott and Daniel R. Plane.  Paul J. Stockhausen, an associate in Reinhart, Boerner's Litigation Group, contributed to this article.