The Universal Service Fund & USAC’s Role in Administration Craig Davis Director, High Cost Program Rural Cellular Association Marketing, Finance and Business Conference September 21, 2006 St. Louis, MO

USF & USAC The Universal Service Fund (USF) is one fund with four programs USAC is a not-for-profit corporation selected as the permanent administrator of the federal USF In 2005, USAC disbursed approximately $6.52 billion in universal service support USAC administers support programs for: High cost companies serving remote and rural areas Low-income consumers Schools & libraries Rural health care providers Through USAC, the USF provides communities across the country with affordable telecommunications services

How does the USF Work? All telecommunications companies contribute to the USF based on their interstate and international revenues USAC collects and disburses these funds to participants in the four support programs Participants in the Schools and Libraries and Rural Health Care programs apply directly to USAC for support Rural and non-rural telecommunications companies eligible for High Cost program support submit cost, expense, and other data to USAC to qualify for support Low-income consumers apply for discounts for local telephone service or installation through their local telephone companies, which are reimbursed by the USF for providing the discounts

High Cost Program The High Cost Program ensures that consumers in rural areas have access to and pay rates for telecommunications services that are reasonably comparable to those services provided and rates paid in urban areas

High Cost Program Provides assistance to rural, non-rural, and competitive carriers that are designated as eligible telecommunications carriers (ETCs) by a State (or the FCC) Without it, consumers in high cost areas would pay significantly more for service due to factors such as dense terrain or sparse population, which raise the cost of building telecommunications networks High Cost support benefits consumers in all 50 States and territories by providing support to 1,700 service providers Over $21 billion has been disbursed to companies designated as ETCs since 1998

High Cost Components High Cost Loop Support Support for the "last mile" of connection for rural companies in service areas where the cost to provide this service exceeds 115% of the national average cost per line Safety Net Additive Support Support above the HCL cap for carriers that make significant investment in rural infrastructure in years when HCL support is capped Safety Valve Support Additional support, above the HCL cap, that is available to rural carriers that acquire high cost exchanges and make substantial post-transaction investments to enhance network infrastructure

High Cost Components Local Switching Support High Cost Model Support Provides interstate assistance and is designed to help carriers recoup some of the high fixed switching costs of providing service to fewer customers. LSS helps keep rural customers’ rates comparable to rates in more densely populated urban areas High Cost Model Support Keeps the cost for telephone service comparable in all areas (urban and rural) of a state. HCM support is distributed at the wire center level and is targeted to carriers serving wire centers with forward-looking costs that exceed the national benchmark Interstate Access Support Helps to offset interstate access charges for price cap companies

High Cost Components Interstate Common Line Support Helps to offset interstate access charges and is designed to permit rate-of-return carriers to recover their common line revenue requirement, while ensuring that subscriber line charges (SLCs) remain affordable to customers Long Term Support was merged into ICLS, effective July 1, 2004

High Cost Support Summary of Key Differences Components Capped Disaggregation True-Up Data Required Rural v. Non-Rural Price Cap v. Rate-of-Return High Cost Loop Yes (For ILECs only) Based on carriers’ disaggregation plans No Rural only Price cap and rate-of-return Local Switching Yes – 12/31 each year Mostly rate-of-return; few price cap High Cost Model Wire center Non-rural only Mostly price cap Interstate Access Yes (targeted cap) UNE zone Mostly non-rural; some rural Price cap only Interstate Common Line Mostly rural; few non-rural Rate-of-return only

High Cost Program General Eligibility Criteria In order to receive support, incumbent and competitive carriers must meet certain general eligibility criteria Must be designated as an ETC by either a state commission or the FCC, if the state lacks jurisdiction Must certify that all High Cost support will be used only for the provision, maintenance, and upgrading of services and facilities eligible for support State certifies for HCL, LSS, and HCM, unless the state lacks jurisdiction (in which case the carrier self-certifies) – October 1st of each year Carrier self-certifies for IAS and ICLS – June 30th of each year

High Cost 2005 Disbursements by Component (Unaudited – in thousands) Total: $3.82 billion

Low Income Program The Low Income Program, commonly known as Lifeline and Link Up, provides discounts that make basic, local telephone service affordable to help over 7 million low-income consumers stay connected

Low Income Components Low-income consumers apply for discounts for service or installation through their local telephone provider, which are reimbursed from the USF for providing the discounts Lifeline Reduces eligible consumers' monthly charges for basic telephone service Link Up Reduces the cost of initiating new telephone service Toll Limitation Service Allows eligible consumers to subscribe to toll blocking or toll control at no cost

2005 Low Income Disbursements by Component (Unaudited – in thousands) Total: $808.57 million

Rural Health Care Program The Rural Health Care Program provides reduced rates to rural health care providers for telecommunications and Internet services necessary for the provision of health care Support is available for telecommunications services and monthly Internet access charges used for the provision of health care Support for telecom services is the difference between rural and urban rates. Internet access services are discounted at 25% Fund Year 2006 Commitments: $47 million (projected) Approximately 3,500 rural health care providers receive support 438 service providers (telecom and Internet access) Number of Applications: Fund Year 2004: 2,999 Fund Year 2005: 3,420 (as of April 18, 2006) Health care providers apply for this support and USAC works in conjunction with service providers to make sure this support is passed on to program participants. USAC reimburses telecom and Internet service providers for services provided to rural health care providers (service providers then pass discount(s) on to rural health care providers).

Rural Health Care Commitments Funding Year 2006 Commitments: $47 million (projected) Applicants must be rural and public or non-profit health care providers (such as): Post-secondary educational institutions offering health care instruction, teaching hospitals, or medical schools Community health centers or health centers providing health care to migrants Local health departments or agencies, including dedicated emergency departments of rural for-profit hospitals Community mental health centers Not-for-profit hospitals Rural health care clinics including mobile clinics Consortia of health care providers consisting of one or more of the above entities Part-time eligible entities located in otherwise ineligible facilities Dedicated emergency department of a rural for-profit hospital Projected Commitments A Funding Year runs from July 1 to June 30

School and Libraries Program The Schools & Libraries Program provides discounts to help schools (K-12) and libraries in every U.S. state and territory receive affordable telecommunications and Internet access Priority One Support Telecommunications Services Internet Access Priority Two Support Internal Connections Basic Maintenance of Internal Connections Telecommunications Services (Priority 1) Must be provided by an eligible telecommunications provider, that is, one who provides telecommunications on a common carriage basis Internet Access (Priority 1) The provision of “basic conduit access” to the Internet (need not be eligible telecommunications providers) Internal Connections (Priority 2) Components located at the applicant site that are necessary to transport information to classrooms, publicly accessible rooms of a library, and to eligible administrative areas or buildings Basic Maintenance of Internal Connections (Priority 2) Repair and upkeep of previously purchased eligible hardware, wire and cable maintenance, and basic technical support, including configuration changes

Schools & Libraries Commitments and Disbursements (unaudited – as of July 12, 2006) Funding Year 2005 Commitments: Over $1.7 billion (to date) All Funding Year Commitments: Over $17 billion (to date) Discounts range from 20% to 90% of the cost of eligible services Eligible schools, school districts, and libraries may apply individually or as part of a consortium Discounts are based on the percent of students eligible for the national school lunch program Schools and libraries must: Have an approved technology plan Competitively bid for services Show they have the resources to use the supported services Apply for discounts every year More than $17 billion in funding commitments have been issued to schools and libraries nationwide since 1998 A Funding Year runs from July 1 to June 30

USF Contributions Revenue Data All providers of telecommunications are required to contribute to the USF based on their projected collected interstate and international end-user telecommunications revenues, net of projected contributions Carriers make 5 revenue filings per year with USAC USAC makes quarterly revenue filings with the FCC

USF Contributions Demand Data Contribution Factor USAC files universal service demand data with the FCC on a quarterly basis This includes projected demand for all four USF programs plus USAC’s administrative costs Contribution Factor Based on the quarterly carrier revenue and projected demand data filed by USAC, the FCC calculates the quarterly contribution factor USAC bills carriers based on the contribution factor and then disburses support to eligible entities

USF Contributions Contribution Factor Trend 3Q2005 Contribution Factor is 10.5%

Contributors Find guidance on USAC’s Website concerning: Filer ID, Revenue Reporting, Invoices, and Appeals. http://www.usac.org/fund-administration/contributors/

Revenue Reporting Schedule of Filings FCC Form Form Due Date Revenue Reported Downward Revision Deadline 499-Q February 1 Projected 2nd Quarter: April - June 45 days from due date 499-A April 1 Historical Prior Year: January - December 1 year from due date (March 31) May 1 Projected 3rd Quarter: July - September August 1 Projected 4th Quarter: October - December November 1 Projected 1st Quarter (following year): January - March When a form due date falls on a weekend or holiday, the form is due the following business day. The Due Date is the date the form is due to USAC (it is not a postmark date).

Form 499 Telecommunications Reporting Worksheet Contributions are based on projected collected end-user interstate and international revenues USAC enters your quarterly projected collected revenue into an FCC-determined contribution calculation using FCC-established contribution and circularity factors to arrive at your monthly obligation

Contribution Calculation Projected collected interstate + Projected collected international = Revenue base Revenue base x FCC Contribution factor = Unadjusted Contribution Unadjusted Contribution x FCC Circularity factor = Circularity Deduction Unadjusted Contribution - Circularity Deduction = Total Quarterly Contribution Total Quarterly Contribution ÷ 3 = Monthly obligation

Contribution and Circulatory Factors Established quarterly by the FCC for assessing USF obligations Estimated Factors: Factors included in the Form 499 instructions that help companies anticipate whether they are likely to be de minimis before the actual factors are available Quarterly Contribution Factors: Factors established quarterly by the FCC to indicate the percent of end- user revenue that should be contributed to the fund Quarterly Circularity Factors: Factors established quarterly by the FCC to eliminate the circularity of being assessed Universal Service fees on pass- through charges

De Minimis Exemption If contribution to USF in any given year is less than $10,000 then not required to submit a contribution for that year Companies must demonstrate that they are de minimis on both the current 499-A and the current 499-Q to be exempt from billings in that quarter

Safe Harbor Interstate Revenues You must choose either to report actual revenues or to use the safe harbor for all of your affiliated legal entities. The same method must be used by all of your affiliates 64.9% of interconnected VoIP telecom revenues 37.1% of cellular and broadband PCS telecom revenues 12% of paging revenues 1% of analog SMR dispatch revenues

FCC Report and Order and Notice of Proposed Rulemaking - June 27, 2006 Wireless Providers The FCC increased the safe harbor to 37.1% of revenue that is subject to the USF contribution factor Any wireless telephony provider that uses a traffic study to determine its actual interstate revenues must provide that data in its quarterly FCC Form 499-Q filings with USAC

Projected Collected Revenue Do not subtract international settlement payments from revenue reported Any charge that is included on a bill in order to recover contributions must be included Note that federal universal service pass-through charges are considered 100% interstate and should be reported Federal Subscriber Line Charges are considered 100% interstate and should be included

Bundled Services Includes fixed local exchange service with interstate toll service for a single price Revenues for the whole bundle, except for tariffed subscriber line and PICC charges, should be reported (on Line 404 of the Form 499A) The portion of revenues associated with interstate and international toll services must be identified Filers should make a good faith estimate of the amounts of interstate and international revenues from bundled local/toll service if they cannot otherwise determine these amounts from corporate records Upon request, the methodology must be made available to the FCC and USAC

IPIA Audits Improper Payments Information Act (IPIA) Audits FCC OIG determined that USF disbursements (i.e., HC, LI, RHC, S&L) should be included in the FCC’s plan to comply with IPIA Audits will review payment processes, identify error rate of improper payments, and make plans to reduce improper payments In June 2006, USAC issued RFPs to perform audits on the High Cost, Rural Health Care, and Low Income programs and on USF contributions

IPIA Audit Objectives Provide an opinion as to whether USF beneficiaries are in compliance with the FCC’s rules and regulations governing the USF program (and USAC’s implementing procedures) Detect and deter waste, fraud, and abuse by USF contributors and beneficiaries of the four programs Identify areas for improvement in the compliance of beneficiaries with applicable law and in the administration of the four programs Identify improper payments made from the USF related to the selected beneficiaries for the fiscal year under audit

IPIA Audits Contributor Revenue – 90 Review of revenue as reported on the 2006 FCC Form 499-A (1/1/05 - 12/31/05) High Cost – 65 Payments made from the program (10/1/04 – 9/30/05) Low Income – 60 Rural Health Care – 89 Schools and Libraries – 157

Thank You Visit us on the web at www.usac.org Call us at 202-776-0200 Craig Davis Director - High Cost Program USAC 2000 L St., NW, Suite 200 Washington, DC 20036 For additional information or program data, please contact James Mardis, External Relations, at 202-772-5258 or via email at jmardis@usac.org.