When you receive your electricity bill at the end of the month, you will see many different charges included. One charge that tends to trip people up more often than not is something called capacity charges. You might not know this but capacity charges can appear as the “second highest cost-per-kwh on your bill“– after generation.

In order to help clarify this term and what exactly it means for your pocket book, we’ve pulled together everything you need to know about this particular charge.

What are Capacity Charges?

Capacity Charges are based on the highest amount of energy you are estimated to use or consume during a month (or year in some locations). Essentially, you pay a fee to ensure that the electricity you might use is there for you when you need to use it, whenever you need to use it.

The price of electricity differs from location to location, which also means that the capacity also differs. Therefore, the capacity charges that one consumer might see on their bill will likely differ from another. Capacity charges apply to many different types of consumers including,

  • Residential
  • Municipalities
  • Commercial
  • Industrial

Why Do We Need Capacity Charges?

Now, the definition of capacity charges might make you think, “Why am I being charged for electricity that I may or may not need?” It’s a good question, but the bottom line is that capacity helps generators know how much electricity they need to provide to the electricity grid. Their job is to ensure that electricity remains available at all times, to all consumers. If they do not generate enough electricity, then consumers will not have electricity. Based on the way the world works today, electricity is a critical component to getting through the day, therefore, generators require capacity.

Energy Deregulation

Capacity charges generally only apply in energy deregulated markets.

Energy deregulated markets allow organizations called, electricity providers to establish themselves as suppliers of energy in the United States. Instead of only allowing utilities to offer electricity consumers all energy related services (from generation to customer service), an energy deregulated market is open to competition.

Competition ensures that electricity rates remain low and affordable for all consumers. When there are only one or two utilities, consumers do not have a choice in which company they receive their energy services from. With many electricity providers offering the same service, they really need to strive to make their products and offers stand out from the crowd. If an electricity consumer isn’t happy with their current electricity provider, they can switch to one that better suits their needs.

At the moment, there are many states that allow consumer choice including,

  • Texas
  • Delaware
  • New York
  • Maryland
  • Illinois
  • Ohio
  • New Jersey
  • Washington D.C.
  • Pennsylvania
  • Michigan
  • Maine
  • Oregon
  • Massachusetts
  • Connecticut
  • New Hampshire

Something you might want to keep in mind is that Texas is only 80% energy deregulated. There are still some areas of the state that remain regulated. In addition, other and additional states might also be partially deregulated, provide natural gas deregulation, or only provide energy deregulation to commercial businesses.

To learn whether or not you are eligible for energy deregulation, you can always inquire with your utility. If your state has a Public Utilities Commission (PUC) you can also contact them for more information on available and approved electricity providers.

Electricity Providers and Capacity Charges

The organizations that require capacity charge payments are typically electricity generators. Since the consumers are the ones using the electricity, the charges trickle down for the generators to the electricity providers who then pass the charges onto their consumers.

The charges that the electricity providers add to a consumer’s invoice are based on the capacity cost. This cost isn’t an arbitrary number, it is determined by the auction clearing price for the area that they service. When the consumer pays the electricity provider’s bill, the electricity provider can then pay the Independent System Operators (ISOs) or Regional Transmission Organizations (RTOs), who then pay the electricity generators.

Capacity Auctions

As mentioned above, the charges a consumer sees on their bill isn’t a number that the electricity provider comes up with. It is based on the result of capacity auctions.

Capacity auctions is a process in which ISOs and RTOs give peak electricity usage estimates, by location, to appropriate participants who bid on things like:

  • Power Plants (new and existing)
  • Energy Efficiency
  • Demand Response
  • Imports

The entire purpose of the auction is to make sure that there is more than enough electricity available in the event of a peak demand period. When bid are accepted, it becomes the resource’s obligation to ensure that it is available when needed.

How are Capacity Charges Calculated?

Capacity charges are based on consumer’s Peak Load Contribution (PLC) throughout the year. While all participating states use PLC, the way it is calculated differs between them. Some states use the peak electricity amount based on an hour time-frame from the previous year. Others determine the PLC over the top 5 peak electricity hours based on the average amount.

The capacity charges are then multiplied by the total number of kWh used during these PLC times and charged to the consumer

Ways to Lower Capacity Charges

The good news is there are ways to reduce this charge on your electricity bill. One of the biggest ways to save includes participating in your local Demand Response (DR) or PLC Programs. These programs are typically run through the electricity provider.

PLC programs require a consumer to limit their electricity consumption during specific periods of time. As mentioned in the section above, states calculate the capacity charge based on estimated peak demand times that fall throughout the year. While each state or location has their own rules, consumers can benefit by knowing which upcoming dates are defined as peak demand, and can lower their rates by consuming less electricity during a defined period of time.

The consumer will not see a decrease in charges during the current year. The impact in decreasing consumption will appear the following year.

The Impact of Capacity Charge on Municipalities

On of the reasons why it’s a good idea to take advantage of DR or PLC Programs is evident when looking at organizations like municipalities. Municipalities spend a lot of money each year on electricity. According to the Metropolitan Area Planning Council, municipalities that don’t take advantage of PLC or DR programs could see an increase of $140,000 on their bills (to the end of May 2018). The Council estimates that if municipalities decrease their consumption by half during defined PLC times, this would help to significantly decrease the capacity charge.

The same logic applies to all other electricity consumers. While the capacity cost might not be as high, taking advantage of PLC or DR related programs will truly help to keep the cost of your electricity low for years to come.