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95–009 PDF








JULY 23, 2004

Serial No. 102

Printed for the use of the Committee on the Judiciary
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Available via the World Wide Web: http://www.house.gov/judiciary

F. JAMES SENSENBRENNER, Jr., Wisconsin, Chairman
HENRY J. HYDE, Illinois
HOWARD COBLE, North Carolina
MARK GREEN, Wisconsin
MELISSA A. HART, Pennsylvania
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JOHN CONYERS, Jr., Michigan
HOWARD L. BERMAN, California
MELVIN L. WATT, North Carolina
ZOE LOFGREN, California
MARTIN T. MEEHAN, Massachusetts
WILLIAM D. DELAHUNT, Massachusetts
ADAM B. SCHIFF, California
LINDA T. SÁNCHEZ, California

PHILIP G. KIKO, Chief of Staff-General Counsel
PERRY H. APELBAUM, Minority Chief Counsel

Subcommittee on Commercial and Administrative Law
CHRIS CANNON, Utah Chairman
HOWARD COBLE, North Carolina
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MELVIN L. WATT, North Carolina
WILLIAM D. DELAHUNT, Massachusetts

JAMES DALEY, Full Committee Counsel
STEPHANIE MOORE, Minority Counsel


JULY 23, 2004

    The Honorable Chris Cannon, a Representative in Congress From the State of Utah, and Chairman, Subcommittee on Commercial and Administrative Law

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Mr. Robert Pepper, Ph.D., Chief, Policy Development, Office of Strategic Planning and Policy Analysis, Federal Communications Commission
Oral Testimony
Prepared Statement

Mr. John Langhauser, Esq., Vice President, Law, and Chief Counsel, Consumer Services Group, AT&T Corporation
Oral Testimony
Prepared Statement

Mr. Stephen M. Cordi, Esq., CPA, Deputy Comptroller for the Maryland Comptroller of the Treasury, State of Maryland
Oral Testimony
Prepared Statement

Mr. James Kirkland, Esq., General Counsel and Senior Vice President, Covad Communications Group, Inc.
Oral Testimony
Prepared Statement


    Policy Paper of the National Cable and Telecommunications Association, ''Balancing Responsibilities and Rights: A Regulatory Model for Facilities Based VoIP Competition''
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    Letter from William E. Moschella, Assistant Attorney General, U.S. Department of Justice, Office of Legislative Affairs to the Honorable Chris Cannon

    Letter from the National Governors' Association, the Council of State Governments, the National League of Cities, the U.S. Conference of Mayors and the National Association of Counties to the Honorable F. James Sensenbrenner, Jr., and the Honorable John Conyers, Jr.


Material Submitted for the Hearing Record

    Memorandum of Understanding between the National Emergency Number Association (NENA) and the Voice on the Net Coalition

    White Paper of the Voice on the Net Coalition, ''Unleashing the Full Promise and Potential of Internet Voice Communication, Vast Benefits: lower prices, better jobs, and improved ways to communicate


FRIDAY, JULY 23, 2004

House of Representatives,
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Subcommittee on Commercial
and Administrative Law,
Committee on the Judiciary,
Washington, DC.

    The Subcommittee met, pursuant to call, at 10:07 a.m., in Room 2137, Rayburn House Office Building, Hon. Chris Cannon (Chair of the Subcommittee) presiding.

    Mr. CANNON. The Subcommittee will please come to order.

    I want to thank Mr. Chabot for being here with us this morning and helping us get this started. We are out of session, and this is an extraordinarily kind thing for him to do. We consider today the regulatory aspects of a technology that is fundamentally changing the communications industry. That is voice over Internet protocol or VoIP telephony.

    As most of us know, VoIP allows the user to make telephone calls using a broadband Internet connection rather than a regular or analog hard-switched telephone line. While VoIP has been available in various forms since about 1995, the creation of new IP services and the increasing penetration of broadband into the residential markets has spurred significant growth in the industry. New and established telephony providers alike now offer various kinds of VoIP, and the service is no longer limited.

    According to one estimate, the number of VoIP lines will be 4.2 million by 2007, and I suspect, personally, that that is a dramatic underestimation. At issue is whether VoIP telephony should be regulated and, if so, to what extent. VoIP represents a unique concept to regulators because it does not conform to the current regulatory paradigm which reflects the legacy system of public switched telephone network or PSTN. VoIP differs from this end-to-end telephony, because it converges services that have historically been unregulated information services and regulated telecommunications services.
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    The FCC's task in this regard is no minor feat. Indeed, FCC Chairman Michael Powell has stated that VoIP promises the ''most important shift in the entire history of modern communications since the invention of the telephone.'' While the FCC first addressed the regulatory treatment of VoIP with respect to universal service in 1998, it has yet to do so in a comprehensive manner. We look forward to discussing the FCC's progress toward the establishment of a definitive framework for VoIP.

    At the same time, understanding the enormous benefits of VoIP to businesses and consumers alike, prompt action is necessary that will promote rather than undermine the development of this technology. Indeed, time is of the essence for Federal guidance. Several States have launched legal or regulatory proceedings addressing VoIP, calling into question whether VoIP should be subject to State taxation or whether Federal preemption is more appropriate.

    We have the opportunity today to consider those issues relevant to the development of a thoughtful yet timely approach to the regulation of VoIP from those who know the subject matter extremely well. The Subcommittee maintains jurisdiction over the Administrative Procedure Act and has a long history of providing effective oversight of the Federal administrative process by conducting hearings into regulatory practices at Federal agencies. For example, the Subcommittee has examined in hearings the FCC's regulations concerning license transfers, rules noticed by the Federal Reserve Board and Treasury Department concerning the authority to monitor banking activities and the role of Congress in monitoring administrative rulemaking. Furthermore, the Subcommittee has legislative and oversight responsibility for issues of State taxation affecting interstate commerce, which is a central issue in this debate.
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    I now turn to my distinguished colleague, Mr. Chabot, for any opening statement he may wish to make.

    Mr. CHABOT. No.

    Mr. CANNON. Thank you. The gentleman's entire statement will be placed in the record.

    I ask unanimous consent that Members have five legislative days to submit written statements for inclusion in today's hearing record.

    Hearing none, so ordered.

    Mr. CANNON. I ask unanimous consent for the inclusion of two matters into the record. I have for inclusion in the hearing record a policy paper from the National Cable and Telecommunications Association concerning facilities-based VoIP competition and also a letter from the Department of Justice concerning the Communications Assistance for Law Enforcement Act, CALEA. This letter submits that CALEA must be considered when VoIP regulation is discussed. Without objection, these documents will be included into the record.

    [The information referred to follows:]


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    Mr. CANNON. Before I begin with the witnesses' introductions, interested parties will likewise have 5 days to submit written statements.

    I am now pleased to introduce today's hearing witnesses. Our first witness is Robert Pepper, chief of policy development at the Federal Communications Commission. In this capacity, Mr. Pepper has served as the direct advisor to FCC Chairman Michael Powell on long-term policy planning. He is also the co-chair of the FCC's Internet Policy Working Group and has primary responsibility for developing the Commission's overall relationship with the financial community. Prior to his fulfilling his current appointment, since March 2003, Mr. Pepper was chief of the FCC's Office of Plans and Policy beginning in 1989. Mr. Pepper has published and lectured widely on telecommunications policy issues. He is a graduate of the University of Wisconsin-Madison, where he received his doctoral degree.

    Our next witness is John Langhauser, vice-president, law, and chief counsel to the Consumer Services Group of AT&T Corporation. Mr. Langhauser joined AT&T in 1982 and has held legal positions in the State government affairs, antitrust litigation, international business services, Federal regulatory and public policy groups. Prior to joining AT&T, he was a litigator with the firm of Dewey Ballantine in New York. Mr. Langhauser graduated cum laude from Harvard Law School and summa cum laude from the State University of New York at Plattsburgh.

    Our next witness is Mr. Stephen Cordi, deputy comptroller for the Maryland Comptroller of the Treasury. Mr. Cordi has served in this capacity since 1994 and has primary responsibility for tax administration. He is also the immediate past president of the Federation of Tax Administrators. Mr. Cordi was the first director of the Compliance Division of the Maryland Comptroller following its creation in 1993. For 13 years prior to this appointment, he was the director of the Maryland Sales and Use Tax Division. Mr. Cordi first entered State service in 1974 as special assistant to the Attorney General for the comptroller. An attorney and certified public account, he is a graduate of Haverford College and Georgetown University Law Center.
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    Our final witness is Mr. James Kirkland, general counsel and senior vice-president of Covad Communications. Mr. Kirkland is responsible for overseeing all of Covad's legal issues relating to regulatory and legal affairs, corporate governance and employment and finance. Prior to joining Covad, Mr. Kirkland served as general counsel and senior vice-president of Spectrum Development for the privately-held Clearwire Technologies, Inc., a broadband Internet service provider based in Dallas, Texas. Before joining Clearwire, Mr. Kirkland spent 17 years with Mintz, Levin, Cohen, Ferris, Glosky and Papeo, P.C., located here in Washington, D.C., where he specialized in communications law. Mr. Kirkland holds a bachelor's degree from Georgetown University and a law degree with honors from Harvard Law School.

    I extend to each of you my warm regards and appreciation for your willingness to participate in today's hearing. In light of the fact that your written statements will be included in the record, I request that you limit your oral remarks to 5 minutes. Accordingly, please feel free to summarize or highlight the salient points of your testimony. I can assure you that you will have more time to explain particular points thereafter.

    You will note that we have a lighting system that starts with a green light. After 4 minutes, it turns to a yellow light, and then, at 5 minutes, it turns to a red light. It is my habit to tap the gavel at 5 minutes. We would appreciate it if you would finish up your thoughts within that time. We don't expect you to just cut off. We are actually anxious to understand what you think is important for us to understand, but that is a time frame that will actually help us move through the hearing.

    After all the witnesses have presented their remarks, the Subcommittee Members in the order that they arrive, and I suspect that is just one other Member, will be permitted to ask questions of the witnesses subject to the 5-minute time limit. Pursuant to the directive of the Chairman of the Judiciary Committee, I ask the witnesses to please stand and raise your right hand to take the oath.
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    [Witnesses sworn.]

    Mr. CANNON. The record should reflect that each of the witnesses answered in the affirmative.

    You may be seated, and Mr. Pepper, would you now proceed with your testimony?


    Mr. PEPPER. Good morning, Mr. Chairman and distinguished Members of the Subcommittee.

    It is my pleasure to come before you this morning to talk about voice over Internet protocol or V-o-I-P or VoIP. VoIP services and applications are dramatically expanding beyond the limited functionality of traditional telephone voice service and at the same time challenging the traditional economic and regulatory structures that have governed the traditional telephone industry for more than a century.

    Saying that VoIP is just another way to make a phone call is much like saying that Ebay is just another way to have a garage sale. This ignores the fact, obviously, that ecommerce and the Internet have fundamentally changed the way we compare products and prices, transact business and the way service providers compete for and relate to consumers. VoIP is best understood as bringing this dynamic to the market for voice communications. The traditional network delivered voice over brilliantly-designed, dedicated and centrally-managed network. Whoever owned the pipe into your home owned the customer.
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    On the Internet, however, the voice application and, in fact, all applications are separated from the physical transmission network. They ride over that network but are agnostic as to who provides it. Thus, anyone who can attach a server to the Internet can allow two, three, four, 100 people to talk to one another. Voice is becoming little more than one application of many over a multiuse, digital broadband network, less like standalone phone service and more like a free or almost free add-on to something else you can buy from multiple sources.

    Indeed, the majority of voice-over-IP applications, including voice instant messaging and talking to players of live interactive games like X-box, look nothing at all like traditional telephone service. These are fundamental changes in an industry that has been regulated for almost a century on the assumption that all providers are monopolies, protected by an elaborate regulatory regime in which they use dedicated narrowband networks. It would be irrational for regulators to ignore these changes and automatically apply legacy regulation without first seriously examining whether it is relevant.

    History provides two excellent examples of a better way: cell phones and the Internet. These technologies were largely freed of common carrier regulation, notwithstanding long, hard-fought battles to impose it. Today, the American consumer and the American economy are far better off for having steered a deregulatory course. These two industries grew from reaching just a handful of customers to bringing substantial benefits to tens of millions in the absence of any significant common carrier regulation.

    The Commission has begun examining VoIP issues in this light in a notice of proposed rulemaking regarding IP-enabled services as well as in specific petitions. The Commission began its reexamination of VoIP because development of this promising technology might very well be hampered by unjustified, conflicting and burdensome regulatory requirements that could result as different State commissions and courts begin to address the area.
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    In this environment, the Commission cannot simply assume that inaction will create an environment that encourages innovation, investment and competition. In response to the NPRM, the Commission received over 150 comments and 86 reply comments from a very wide variety of parties. The Commission already has issued two orders resolving petitions for declaratory ruling, one filed by Pulver.com and the other by AT&T. In addition, the Commission is considering VoIP-related petitions from Vonage, Level 3, SBC and Inflection.

    The Commission is also considering questions related to voice over IP and its universal service contribution, intercarrier compensation and our upcoming CALEA proceeding. The Commission's decisions in this area will have the farthest-reaching consequences of anything the Commission currently is considering. What is at stake is nothing less than the future of electronic communications for future generations.

    The Commission, however, is constrained by the Act, which divides the world into regulated telecom services and unregulated information services. When dealing with revolutionary new technologies, we need to start from the perspective of how to best create the world we all want to live in rather than applying tired regulations soon to be rendered obsolete. While the Commission has some ability to fine-tune treatment of new technologies, given its discretion and flexibility granted to it by Congress, the Commission's latitude is limited by the Act.

    If you believe that VoIP and other new technologies are transforming the telecom market in ways that cry out for new regulatory approaches, you need to consider whether the tools the Commission has today are adequate for that task. In the meantime, the Commission is moving forward with its work, and guidance and leadership from Congress is crucial to the success of our process.
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    Mr. Chairman, on behalf of the FCC, I want to thank you for calling this hearing, and we look forward to working with you and other Members on these issues.

    [The prepared statement of Mr. Pepper follows:]


    Good morning, Mr. Chairman and distinguished members of the Subcommittee. It is my pleasure to come before you today to discuss services and applications that use voice over Internet Protocol (''VoIP''), and the status of our examination of VoIP at the Federal Communications Commission (the ''FCC'' or the ''Commission'').


    Voice over Internet Protocol services and applications are dramatically expanding beyond the limited functionality of traditional voice telephone service and, at the same time, challenging the traditional economic and regulatory structures that have governed the traditional telephone industry for more than a century.

    The FCC has pending before it a number of proceedings initiated by petitioners about VoIP, and has initiated a broad examination of issues related to VoIP, as well as other Internet Protocol (IP) based services. As an introduction to the status of these proceedings, it is helpful to discuss why the emergence of VoIP raises important issues, why the Commission, as indicated in the IP-Enabled Services Notice of Proposed Rulemaking (''IP-Enabled Services Proceeding''), is examining the best way to establish a minimally regulated environment for VoIP, and why prompt action to clarify the regulatory regime applicable to VoIP is crucial to the future of electronic communications and America's place as the leading innovator in the field.
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A. VoIP is Changing the Nature and Business of Voice Communication

    VoIP is seen by some as simply a new technology for transmitting a traditional voice telephone call. This purely functional view, sometimes referred to as the ''if it quacks like a duck, it's a duck'' argument, is short-sighted for two reasons.

    VoIP Technology is Radically Different From Traditional Voice Telephony. First, the functional view ignores the fact that VoIP technology is merely an application that rides over the public Internet, or over dedicated data networks, just like any other application. On these public or private data networks the bitstream created by a VoIP application is no different than any other bitstream on that data network—it can be incorporated into other bitstreams, modified or enhanced by simply changing server or client software. Thus, voice can now be easily combined with data and video in ways that cannot be done over the traditional network. Adding enhancements to voice, or incorporating voice to other applications, is merely a question of adding a new feature in the next software release. With VoIP, consumers can easily change their service selections or add function and enhanced features simply by logging on to their VoIP application provider's website, or by choosing a new provider with more attractive features. And, by the way, the majority of voice over IP applications look nothing like traditional plain old telephone service. Some of these include voice instant messaging or the ability to talk to opponents while playing a game across the Internet on XBox Live.

    VoIP is a Radically Different Way of Doing Business. The second reason why a purely functional approach is short-sighted is that it is a new way of doing business. As my colleague, Jeffrey Carlisle has noted, saying VoIP is just another way to make a phone call is like saying that Amazon.com is simply a new way to sell books, without any broader consequences for markets or consumer behavior. E-commerce is much more than that. It changed the market for books, and everything else, by opening a truly worldwide market to any retailer who could attach a server to the Internet, or any individual who could open an E-Bay account.
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    Similarly, VoIP changes the business of telecommunications by allowing data networks to carry voice communications at comparable levels of quality to the traditional circuit-switched network, but to do so more flexibly and efficiently. VoIP changes the dynamics of the market for telecommunications services in three ways.

    First, VoIP transforms voice from the primary service provided by a common carrier into just another application on the network. On traditional telephone networks, voice was delivered over a dedicated network that required a well-capitalized infrastructure and service provider that traditionally was a protected monopoly. In the future, the voice application—in fact, all applications—will be separated from the physical transmission network. Anyone can attach a server to the Internet, anywhere in the world, to allow two people—or three, four, five or a hundred—to talk to one another, just as anyone can connect a server to the Internet to provide email, file sharing, or other applications. The implications for how voice services are marketed and purchased are dramatic. No longer is the monopoly provider the gatekeeper for innovation. Rather, innovation in telecommunications can come from any entrepreneur, small company or enterprise that can connect to the network. This is the consequence of moving voice communications to the Internet, where intelligence is on the edge of the network instead of a tightly controlled core.

    With these kinds of developments, saying that a VoIP application is merely another way of making a phone call is like saying that the automobile is just another way of going someplace in your horse and buggy. VoIP means that voice may no longer be a dedicated service for which consumers pay a separate monthly bill. VoIP may be part of your wireless phone service, as it already is with many push-to-talk services; it may be bundled together with video and data service that you buy from your cable, telephone, satellite or power company; or you may buy it from dozens of providers over the Internet; or you may simply have it as part of a software package that you buy for some other purpose. Most likely, you will acquire it in all of these different ways. When VoIP separates the voice application from the physical network, the question will no longer be whether consumers will benefit from competition in the voice market. Clearly, they will. Rather, competition in voice will no longer be an issue, because voice will become an almost free add-on to something else you buy from multiple sources.
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    In this respect it is useful to compare the evolving voice market to email. Email appears to be ''free,'' but email application providers thrive in a market where intense competition drives innovation. Advances in email provided by Google, Yahoo! and Hotmail become headline news. Consumers can acquire email applications from their ISP, select web-based mail from third parties supported by advertising, outsource mail services, or operate email servers on their own networks. In the same way, consumers will benefit from a market for voice applications thriving with competition, innovation and choices suited to their needs at significantly reduced costs—but with significant rewards for agile and smart companies capable of delivering the best service.

    The second way VoIP is changing telecommunications markets is that it accelerates the migration to all digital, multiuse broadband infrastructures. Whatever the benefits of separating the voice application from a dedicated infrastructure, there still need to be companies capable of building and maintaining the digital infrastructure over which applications ride. For most, if not all, markets in the United States, infrastructure will no longer be the monopoly domain of the traditional telephone network. Instead, an entire range of broadband technologies, including DSL, cable modem, licensed and unlicensed wireless broadband, Ultra Wide Band, satellites and broadband over power line will provide connectivity. When networks provide transmission, and are not tied to a single application like voice or video, networks become highly substitutable and competition increases dramatically, resulting in significant benefits for consumers. Additionally, the offering of demand-creating applications such as VoIP promotes deployment and adoption of broadband facilities, which in turn promotes further development of VoIP and other Internet applications. Thus, applications and broadband create a virtuous cycle that will result in significant benefits for American consumers and the American economy as a whole.
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    The third way VoIP changes telecommunications markets is that it internationalizes voice communications. Just like many other applications provided over the Internet, it doesn't matter where the provider is located—a server providing a VoIP application could be down the street, or in the next state, or it could be in Ukraine, the UK, India, or, as is currently the case with Skype, in Estonia. A voice application provided on a server located in a foreign country, with the customer in the U.S. using nothing more than software downloaded from the Internet and purchasing a broadband connection from a third party, looks very different from the service provided by traditional phone companies. This fundamental shift in how the voice application is provided has obvious implications for what regulations, if any, are imposed on VoIP providers and who decided and/or enforces any regulation. Federal or state regulators need to recognize that it may be very difficult to enforce requirements and unwarranted burdensome regulation will place VoIP providers in this country at a competitive disadvantage to VoIP providers located in relatively less regulated countries, and that, if providers are driven abroad, we will lose desirable jobs in the high technology sector.

    Much of what I have described is a look into the reasonably foreseeable future. But VoIP is already changing the market's dynamics, even though it has not yet become ubiquitous. In 1998, VoIP generated less than 0.2% of the world's international voice traffic. In 2002, VoIP generated 10.4%, and, in 2003, is estimated to have generated 12.8%. Recently, Cablevision announced that it would provide a bundled package of digital cable TV, high speed Internet, and unlimited local and long distance calling for $90. If you consider what consumers pay for digital cable and broadband in the marketplace today, at this price, the voice service is essentially free. This is exactly what one would expect when voice, which uses relatively little bandwidth, is provided over a high bandwidth connection.
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    There are other indications that VoIP, while only gradually making its way into the public consciousness, is nevertheless growing at an increasing pace. A report released last month by the Pew Internet & American Life Project and the New Millennium Research Project estimates that approximately 14 million Americans have already made some sort of voice communication over the Internet. Skype, an Internet-based VoIP service that allows its members to speak to one another with crystal clarity for free over a peer-to-peer network connection, has been downloaded over 15 million times by users around the world.

B. Why Take Action Now?

    The FCC has long relied on a policy of limiting regulatory intrusion on the Internet and applications provided over it. The Commission could have waited and raised the question of how VoIP is regulated at some point in the future, after it matured. At the end of 2003, incumbent local exchange carriers (''ILECs'') and competitive local exchange carriers (''CLECs'') served over 181 million access lines in the United States, and even at astronomical growth rates it will be some time before VoIP services and applications constitute a significant portion of the U.S. voice market. But there are two factors pressuring for Commission attention and, by implication, legislative action.

    First, industry players are deploying these applications today, and are bringing their questions to the Commission. VoIP only started to become more widely used in the domestic market within the last several years. Thus, beginning in September 2002, a variety of companies from across the telecommunications industry—VoIP applications providers, ILECs, data companies and interexchange carriers (''IXCs'')—filed petitions with the Commission seeking clarification regarding regulatory treatment of VoIP.1 The petitions filed over the last two years demonstrate the need for clarification and a measure of certainty on important regulatory questions, especially since it is uncertain how the FCC is going to rule in this very new environment.
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    Second, because of the important traditional role state public utility commissions play in regulating intrastate telecommunications, states have now begun to look at these questions, raising the possibility of differences among state regulatory regimes, and between various state and federal regulatory regimes. Some state commissions have decided to wait until this service further develops or until the FCC acts. But others have moved forward to examine VoIP, and some, such as Minnesota and New York, have already taken steps to classify VoIP applications as regulated telecommunications services. Federal courts in both states have stayed the effectiveness of these rulings. Nevertheless, companies offering VoIP are dealing today with multiple attempts to apply potentially inconsistent regulatory regimes, with the imminent prospect of more to come. This uncertainty and potentially conflicting regulatory regimes is an impossible position for companies wanting to provide VoIP service on a national basis.

    It is not surprising, therefore, that while there is investment capital that would fuel even further innovation in this high tech area, there is hesitance to bring this capital to market while the regulatory regime remains unclear. While this might be said of any number of areas of telecommunications law, it is particularly true of VoIP, given that much of the innovation in the area is coming from small companies and entrepreneurs who are most vulnerable to shortages of investment capital. Therefore, the FCC has begun to examine this area not because it is looking for something to do, or because it is interested in any way in regulating the Internet. Rather, the FCC has begun to examine this area because of the demonstrated need for clarity because of the very real possibility that deployment of this new technology will be hampered by burdensome and conflicting regulatory requirements.

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    On March 10, 2004, the Commission released its Notice of Proposed Rulemaking (''NPRM'') on IP-Enabled Services, docket number 04–36 in order to address the need for the Commission to provide clarity to consumers, industry and the investment community. This NPRM asked commenters to tell the Commission how it could best craft a regime for VoIP and other IP enabled services that would encourage innovation and ensure that the benefits of this technology could reach consumers.

    The NPRM discusses how VoIP will change how voice service is delivered to business and residential customers, and then asks whether the Commission can best serve the public interest by continuing its policy of minimal regulation of the Internet and applications provided over it. It asks for comment on how the Commission could determine whether a service using VoIP is a regulated telecommunications service or an unregulated information service under the 1996 Act: Should the Commission establish the line at the point where VoIP technology interfaces with the public switched telephone network? Should the Commission use a purely functional approach that makes the distinction based on whether the given service is a replacement for traditional telephony? Should the Commission use a test that examines whether the service substitutes for traditional telephony as determined by a traditional market analysis? Should the Commission instead adopt a layered approach, view VoIP purely as an application riding over a network, and thus regulate applications very lightly while applying a more stringent regime to facilities? And what impact should it have on the Commission's analysis that VoIP can be provided via peer-to-peer services that simply connect two users, as opposed to the centrally managed networks used by traditional service providers? In the case of traditional service providers, there is an entity to regulate that, presumably, has some control over and information about the calls routed over its network. In the peer-to-peer case, consumers communicate directly with one another, and aside from assisting in linking the participants, the provider of the peer-to-peer application may have little or no control over the call.
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    Related to the question of classification, the NPRM asks how the Commission might best achieve a minimally regulated environment. If classified as an information service, the service is nevertheless subject to the Commission's general jurisdiction to regulate all interstate and international communications by wire and radio. Alternatively, even if a service is classified as a telecommunications service, Congress has directed the Commission to forbear from enforcing its own regulations or the requirements of the statute if enforcement is not necessary to protect consumers, ensure against unjust, unreasonable or unreasonably discriminatory practices, or protect the public interest.

    The NPRM goes on to solicit comment as to jurisdiction. It notes the Commission's recent order in response to a petition for declaratory ruling filed by Pulver.com regarding Free World Dialup—as described in the petition, a free peer-to-peer application facilitating voice communication between members of a closed group, which does not interconnect with the public switched telephone network. The Commission's Order, released on February 19, 2004, held that Free World Dialup was an information service subject to federal jurisdiction. The Pulver.com order further held that state regulation treating Free World Dialup like a regulated telecommunication service would most likely be preempted given the Commission's finding and an explicit Congressional policy against burdening the Internet with unnecessary federal and state regulation. The NPRM acknowledges that the Pulver.com Order only addressed one type of VoIP, and asked about the extent to which the reasoning in the case can be applied to other types, such as VoIP applications that interface with the public switched telephone network.

    Having solicited comment on how the Commission should classify VoIP, and who should have jurisdiction as to whether to regulate VoIP, the NPRM then asks what regulations, if any, should apply, and develops an important distinction. The NPRM asks whether economic regulations such as entry, exit, tariff and accounting rules designed to protect against the power of a monopoly provider of services, with control over the bottleneck facility of the wire into the consumer's home, have any application in an environment where consumers can choose any number of applications providers, and use those applications over multiple networks. If technology has redressed the imbalance in power between customers and providers by lowering barriers to entry and allowing the consumer to choose his or her service provider, and change that choice easily, does this type of legacy economic common carrier regulation continue to have any relevance, at least as regards VoIP providers? Certainly, precedent indicates that where competitive choice is possible, lower regulatory burdens are justified. This has been the case with cellular providers, which are not subject to many of the common carrier requirements that might otherwise apply to them. It has also been the case with nondominant wireline providers. The NPRM solicits comment on these issues.
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    Traditional economic common carrier regulation is distinguished from requirements that can be characterized as social obligation regulation. These are requirements that, as a society, we have decided should apply broadly to any provider of voice services, as opposed to only those providers that have a dominant market position. Thus, even if a provider of voice is not dominant, we still believe that it is important that its customers have access to emergency services. Even if the market for voice services is changing in fundamental ways, it is still a basic goal of the Communications Act to ensure that all Americans have access to service at affordable prices. One might say that free voice service would achieve that goal. But if it is necessary to first purchase some form of broadband service, then it may be necessary to examine how we understand universal service and support for it may need to change over time. The social obligations raised in the NPRM and related proceedings include emergency service via the 911/E911 system, access to telecommunications by people with disabilities, universal service, and authorized law enforcement access to electronic communications—important societal goals that should not be compromised as the market changes. But the NPRM recognizes that the ways to achieve these goals are likely to change as the result of widespread VoIP adoption. Thus, while it makes clear these goals continue to be important, the NPRM also asks how the Commission can best achieve them in the new environment, acknowledging both the difficulties and opportunities presented by new technology.


    The response by the public to the NPRM has provided the Commission with a rich record, and features original and thought-provoking analyses of the issues. By May 28, 2004, the date for filing of initial comments, the Commission had received over 150 sets of comments. And, by last count, the Commission has received 86 reply comments by the July 14 filing date. These comments and replies have come to the Commission from a wide range of sources, indicating the broad interest this proceeding engenders not only among industry actors, but across American society as a whole. These sources include:
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 multiple public utility commissions, and two organizations representing state commissioners, the Federation for Economically Rational Utility Policy and the National Association of Regulatory Utility Commissioners;

 county 911 administrators;

 the Department of Homeland Security and the Department of Justice;

 groups involved in studying and advocating public policy as it relates to high tech issues, such as the Electronic Frontier Foundation;

 public interest groups representing specific groups of consumers, such as AARP, the American Foundation for the Blind, Communication Service for the Deaf, the National Consumer League and the Ad Hoc Telecommunications Users Committee;

 trade groups representing the interests of telecommunications and high tech industries, including the Telecommunications Industry Association, CTIA, NCTA, the Information Technology Association of America, and the High Tech Broadband Coalition;

 cable TV providers, including Cablevision, Time Warner, and Comcast;

 wireless providers, including Nextel, Cingular, Ericsson, and T-Mobile; and

 Internet Service Providers;
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 many well-known high technology companies such as Microsoft and Cisco;

 local exchange carriers, both incumbent and competitive, as well as their trade associations;

 rural telephone companies, as well as their trade associations; and

 numerous VoIP application providers, such as 8X8, Net2Phone, Skype, Pulver.com, Callipso, Dialpad, Vonage, and the Voice on the Net Coalition.

    The commenting parties have, by and large, acknowledged the significant changes that VoIP technology will bring. They differ, however, as to the specific regulatory implications of that change.

    A number of commenters, largely state commissions and rural incumbent local exchange carriers (''rural ILECs''), argue that if VoIP provides the functional equivalent of a voice call, then it should be regulated in the same way as traditional voice telephony. Others argue for a multi-factor test to determine whether a service should be regulated or not. For example, the National Cable Television Association argues that a VoIP application should be subject to the same regulation as telecommunications service providers if the following applies: (1) it makes use of 10 digit numbers under the North American Numbering Plan; (2) it is capable of receiving calls from the public switched telephone network at one or both ends of the call; and (3) it represents a possible replacement for traditional telephone service. However, NCTA also argues that if a service meeting all of these criteria also uses IP protocol between the service provider and the consumer, including use of an IP terminal adapter and/or IP-based telephone set, it should be subject to minimal regulation. Still others, such as AT&T, SBC, many of the high technology companies and software providers, and all VoIP application providers, argue that functional approaches or factor approaches are doomed to obsolescence as technology develops, and that the Commission should instead broadly classify services using IP technology, or at least those reaching or leaving the customer in IP format, as information services.
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    Another strain of comments advocates a layered approach to regulation. These commenters argue that the primary benefit of using IP to transmit voice is that it allows industry to move from using networks that are optimized for and dedicated to a single function, voice, to a network capable of delivering multiple functions. Therefore, regulation should reflect the fact that services and applications are no longer tied to the physical infrastructure. If dozens or hundreds of competing services and voice applications are provided over the infrastructure layer, there is little or no justification for continued common carrier regulation at those levels. Rather, they argue that the focus of common carrier regulation, if any, should be on underlying facilities, where issues of market power might still exist.

    Interestingly, differences on classification among commenters did not necessarily translate to differences over jurisdiction. Some rural ILECs, their trade organizations, many of the commenting state commissions and NARUC argue that VoIP applications, if they are classified as telecommunications services, can and should be regulated at the state level. Other rural ILECs, the Federation for Economically Rational Utility Policy, and virtually all companies interested in offering VoIP applications, whether ILEC, IXC, CLEC, VoIP provider or other high tech company, have argued that VoIP applications are inherently interstate—that it is impossible to determine geographic end points for calls when customers can use VoIP applications from anywhere in the world, that IP networks ignore domestic and international boundaries when transporting bits, thus rendering the intrastate/interstate distinction meaningless, and that the Internet and services provided over it have always been considered to be subject to federal jurisdiction only.

    With regard to whether economic common carrier regulation should apply, high tech companies and VoIP application providers overwhelmingly also agreed that there is no need for it. Many commenters that argued some VoIP applications should be classified as telecommunication services, nevertheless, also argued that they should be subject to federal jurisdiction only and that the Commission should forbear from applying economic common carrier regulation. The Illinois Commission, while arguing that state and federal regulation should coexist, with preemption only applying to state requirements that are inconsistent with federal requirements, nevertheless thought that extension of traditional utility regulation to emerging IP-enabled services was unwarranted. Some state commissions and many commenting rural ILECs concluded that VoIP applications should be subject to the same level of regulation as traditional voice providers, although America's Rural Consortium pointed out that this parity could be achieved through federal preemption of state regulation of voice service and removal of regulations from both VoIP and traditional providers.
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    There was general agreement among the commenters that universal service, 911 and other social obligations of this type will continue to be important in the new environment. There was, however, disagreement as to how best to achieve these goals. VoIP application providers and many of the technology-oriented trade groups tended to argue that obligations like access to 911 should only be made mandatory over time in response to a market failure, and that there has already been significant progress through voluntary industry action. They also argued that universal service and access charges should not apply until broader reforms to these systems are completed, as otherwise the Commission would impose unsustainable systems on a new technology. Others argue for mandatory application of these requirements, with most commenters focusing on specific areas: groups involved with advocating for disabilities access argue that mandatory disabilities access requirements should apply; some incumbent and rural ILECs that receive support from the Universal Service Fund and access charges argue that these obligations should apply pending changes in the system.

    The Commission has received a wealth of comments that truly represent views across the spectrum.


    In addition to our work on the IP-Enabled Services Proceeding, the Commission also is working on several petitions regarding VoIP in addition to recently resolved petitions.

    The Commission recently resolved the following petitions:
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 Pulver.com. As previously mentioned, on February 19, 2004, the Commission released an order resolving a petition for declaratory ruling filed by Pulver.com. In that order, the Commission found that Pulver.com's Free World Dialup Service was neither telecommunications nor a telecommunications service, but was instead an information service subject to federal jurisdiction, and that state regulation conflicting with this classification would most likely be preempted. This order was significant in terms of clearly establishing that Internet-only voice applications would be treated very much like any other applications traveling over the Internet: as being unfettered by federal or state regulation.

 AT&T. On April 21, 2004, the Commission released an order resolving a petition for declaratory ruling filed by AT&T. In this order, the Commission denied AT&T's request to exempt from access charges its use of VoIP in providing voice service where AT&T only used the technology to transport calls that originated and terminated on the public switched telephone network, and did not provide any enhanced functionality, cost savings, or net protocol conversion for the end user. This transport was carried out as part of AT&T's conventional service offerings and was transparent to the consumer. The Commission, by issuing this decision, did not prejudge the application of access charges to other types of VoIP service, which are still subject to consideration in both the IP-Enabled Services Proceeding and the Intercarrier Compensation docket. Thus, this decision was explicitly limited to the factual circumstances described by AT&T.

    Petitions pending before the Commission are as follows:

 Vonage. On September 22, 2003, after the Minnesota Public Service Commission ruled that Vonage's service was a regulated telephone service under state law, Vonage filed a petition for preemption of this decision. Subsequently, Vonage obtained a reversal of this decision from a federal district court. An appeal of that court decision to the United States Court of Appeals for the Eighth Circuit is pending, while Vonage's preemption petition is still pending before the Commission.
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 Level 3. On December 23, 2003, Level 3 filed a petition for forbearance, requesting that the Commission forbear from applying access charges to calls that originate or terminate as Internet protocol calls on one end, with the other end originating or terminating over the public switched telephone network. Level 3 excluded from its petition those areas served by rural ILECs as defined in section 251(f)(1) of the Communications Act. The twelve month deadline for Commission action in this proceeding is December 23, 2004, with a possible extension of three months beyond that date.

 SBC. On February 5, 2004, SBC filed a petition for forbearance asking the Commission to find that services and applications provided over Internet protocol platforms are information services subject only to federal jurisdiction, and as such to forbear entirely from applying Title II common carrier regulation to such services. The twelve month deadline for Commission action in this proceeding is February 5, 2005, with a possible extension of three months beyond that date.

 Inflexion. On February 27, 2004, Inflexion filed a petition for declaratory ruling, asking the Commission to find that calls made to or from Inflexion's VoIP service in areas that it characterizes as underserved are exempt from access charges. Inflexion's definition of underserved areas incorporates areas served by rural ILECs that Level 3 explicitly declined to cover in its petition.

    In addition to the IP Enabled NPRM, these petitions also present opportunities to resolve specific questions related to VoIP. In addition, many of the issues that relate to universal service and intercarrier compensation are being considered by the Commission in other proceedings. Moreover, the Commission expects to release in the near term a Notice of Proposed Rulemaking addressing issues regarding VoIP and the Communications Assistance for Law Enforcement Act (''CALEA'') raised by the Department of Justice, the Federal Bureau of Investigation, and the Drug Enforcement Agency in their recently filed petition for rulemaking. Consideration of VoIP issues will not delay broader resolution of those dockets, and the Commission hopes to move expeditiously on all fronts.
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    The Commission is very aware that VoIP is leading to significant developments in telecommunications markets challenging traditional industry economics as well as traditional regulatory institutions and processes. Perhaps most importantly, from the perspective of a regulator, VoIP is changing the nature of the relationship between consumers and providers. It would be irresponsible, as well as counterproductive, for any regulator to impose obsolete regulations reflexively, simply in order to protect a legacy regime. The examples of mobile wireless service and the Internet are perhaps most instructive in this respect. In both cases, the technologies have developed free of many of the regulatory requirements and regimes applicable to traditional monopoly common carriers, notwithstanding long and hard fought battles to impose such requirements. Indeed, it took an Act of Congress before the FCC could preempt counterproductive state regulation of cellular service. Today, the American consumer and economy are far better off because of the deregulatory course that helped these two industries develop, innovate, expand and now touch millions of lives, brining considerable benefits to consumers, and generating substantial economic growth. All without traditional common carrier utility regulation.

    The Commission's decisions regarding VoIP will have the farthest-reaching consequences of anything the Commission will consider in the near future. The Commission is considering nothing less than the future of electronic communications for today's and future generations. Consumers, the many industries that rely on information technology and advanced communications in their business, the telecommunications, computer and software industries, and the investment community are all counting on the Commission to get it right. It also is not an overstatement to say that the world, also, is watching how the U.S. decides to treat these services. Telecommunications regulators and policy makers in other countries want to know whether the United States will create an environment that is conducive to growth and investment in innovation, or an environment where the United States becomes mired in reflexive, legacy regulation and regulatory processes that stifle progress.
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    Clearly, I believe we should look forward rather than backwards. When dealing with revolutionary new technologies we need to start from the perspective of how to best create the world we all want to live in, rather than applying tired regulations quickly being rendered obsolete. The Commission, however, is constrained by the Act, which divides the world into regulated telecommunications services and unregulated information services. While the Commission certainly has some ability to fine tune treatment of new technologies given its discretion and the flexibility granted to it by Congress, the Commission is still constrained by this structure. If you believe that VoIP and other new technologies are transforming the telecommunications market in ways that cry out for new regulatory approaches, you may need to consider whether the tools the Commission has today are appropriate for the task.

    In the meantime, the Commission will continue forward, and the guidance and leadership of Congress is crucial to the success of its process. On behalf of the FCC, I want to thank you, Mr. Chairman, for calling this hearing, and we look forward to working with you and other members on these issues.

    1 The Commission did receive a petition regarding VoIP services as early as 1996, and received another following the release of its 1998 report to Congress regarding universal service, often called the ''Stevens Report.'' There was not, however, any consequential activity following these petitions.

    Mr. CANNON. Thank you, Mr. Pepper.

    Mr. Langhauser.
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    Mr. LANGHAUSER. Mr. Chairman, Congressman Chabot, thank you very much for giving me the opportunity today to discuss voice-over-Internet protocol.

    AT&T intends to provide IP-based services to all of our key markets. In March of this year, we launched our residential VoIP service, known as AT&T CallVantage. Today, it is offered in 32 States and Washington, D.C. That is 100 major markets in 4 months. Voice-over-IP is a foundation for our future. Indeed, because of recent Federal policy changes concerning unbundled network elements, VoIP will soon become AT&T's only viable alternative for offering new competitive local service, but unfortunately, only for those customers who can obtain and afford broadband.

    Much of Silicon Valley will benefit from an IP explosion. Small businesses will profit from a portable VoIP services. The resulting productivity gains can, in turn, drive broader economic growth. These benefits will only emerge if policymakers bring certainty and stability to the regulatory rules surrounding VoIP. It should be regulated with a light hand at the Federal level. In particular, it should not be saddled with the current, flawed intercarrier compensation markets.

    VoIP cannot be allowed to develop into yet another Bell-controlled technology. AT&T's ability to compete for customers and invest in VoIP will be hampered if the Bells are allowed to continue such anticompetitive practices as refusing to sell broadband to customers purchasing voice services from a competitor.
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    Let me provide more details: VoIP holds the promise of choices and capabilities far beyond today's circuit-switched offerings. In the IP environment, voice services and futures can be provided and enhanced much more efficiently. VoIP could well become the killer application that drives broadband adoption.

    AT&T fully intends to lead the VoIP revolution. We have invested heavily to upgrade our total network, including some $3 billion last year alone. Our consumer offer includes advanced features such as the ability to check voice mail from your computer and dynamically control your feature settings yourself.

    AT&T has long been committed to providing a choice for local telephone service. Today, we provide local service to about 4.7 million residential customers and 4.5 million business lines. Virtually all the residential customers are served using Uni-P. But VoIP, which requires broadband, is not an option for the majority of our current local customers.

    Legislative and regulatory certainty, which fosters VoIP as an emerging technology, will encourage AT&T to invest in VoIP and remain in the domestic residential voice market. Congressman Pickering's bill provides for Federal regulation and access and universal service reform. Chairman Sensenbrenner and Congressman Conyers have offered legislation ensuring that the Telecommunications Act is not construed to supersede the antitrust laws.

    We commend these efforts to restore the potential for a competitive communications marketplace. We agree with those who have said that VoIP must provide access for the disabled, 911 and must cooperate with requests from law enforcement. In contrast, the universal service and intercarrier compensation schemes of today are badly broken and require substantial revisions before they can or should be applied to VoIP.
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    The FCC's delay in reforming these regimes benefits the incumbents. Nothing about VoIP threatens universal service. The real threat is the shrinking base of interstate revenues that support the system today. AT&T has proposed moving to a flat rate charge for each telephone number, which would include VoIP, be competitively neutral and provide a solid foundation for the fund. The FCC has full authority to implement such reforms, but AT&T's petition has been pending for over 15 months.

    Current access charge regulations are especially unworkable, but the FCC's long-promised overhaul of intercarrier compensation has yet to occur. VoIP collectively serves several hundred thousand customers nationwide, while the Bells serve nearly 100 million. It makes no sense to require nascent VoIP providers to subsidize the monopoly local carriers. Nobody demanded that the auto industry subsidize the buggy manufacturers or the computer industry the typewriter providers.

    If VoIP is to deliver on its promising potential, then, it cannot be regulated like plain old telephone service. Today, we are asking for your support to keep that from happening so that all Americans can realize the competitive and innovation benefits of VoIP technology.

    Thank you again for inviting me here today, and I look forward to your questions.

    [The prepared statement of Mr. Langhauser follows:]

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    Mr. Chairman and Members of the Committee, thank you very much for giving me the opportunity today to discuss Voice Over Internet Protocol. AT&T intends to provide IP-based services to all of the key market segments—large enterprises, call centers, small offices, teleworkers, and residential users. We've been delivering Business IP services since 1997, and in March 2004, AT&T launched its residential VoIP service, known as AT&T CallVantagesm Service. Today it is offered in 32 states and Washington D.C.—that's 100 major markets in less than four months.

    VoIP is the convergence of voice and data, with the potential to bring choice and innovation to the telecommunications marketplace. If allowed to grow unimpeded by legacy regulation, it will offer consumers an increasing array of advanced features not available today to enhance ways of communicating and simplify busy lives.

    VoIP will also contribute significantly to the business world. Teleworkers using VoIP will be far more productive and successful at their work. VoIP will bring the kind of advanced voice and data service now available only to Fortune 500 companies within the reach of small and medium-sized businesses. Much of Silicon Valley is now in the IP value chain and will benefit from an IP explosion in this market. The resulting productivity gains can, in turn, drive broader economic growth and raise standards of living for all Americans.

    These benefits will only emerge, however, if policymakers act promptly to limit regulation to a light-handed regime that allows VoIP to develop free of burdensome regulation at the federal, state or local level. Imposing today's inflated access charges on nascent VoIP providers would severely impede the growth of VoIP. VoIP providers are already paying substantial compensation to local exchange carriers for the right to terminate traffic on their networks. They should not have to subsidize their established competitors as well. With respect to intercarrier compensation, the priority should be on reform rather than burdening innovative new services and technologies with an outmoded regulatory model heavy with subsidies.
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    VoIP seeks only the favorable regulatory treatment that other emerging voice technologies have received. Relieving wireless carriers of much incumbent economic regulation led to amazing increases in investment, innovation, and consumer adoption. While the FCC authorized commercial cellular services in 1981, in 1992 there were only nine million subscribers. It was only when Congress empowered the FCC in 1993 to forbear from imposing legacy regulation on cellular providers and made significant additional spectrum available for their use, and the FCC exempted them from tariffing and entry and exit regulation, that wireless use exploded. By the end of 2002, there were 141.8 million subscribers nationwide.

    Many questions regarding whether to foster VoIP's emergence as a competing technology or saddle it with legacy wireline regulation and stifle its development are currently before the FCC. Unless and until Congress acts, we believe it is incumbent on the FCC—indeed, consistent with its congressional mandate—to take steps to establish an appropriate regulatory framework that encourages investment and innovation. The FCC's unreasonable delays to date in resolving even the most preliminary regulatory issues surrounding VoIP do not meet the basic requirements of sound administrative procedure.

    Firm resolve in enforcing the pro-competitive policies of the 1996 Act is a necessary first step on the path to VoIP. Business cases based on a ''build it and they will come'' approach to deploying mass-market local facilities have been almost uniform failures. Congress recognized this when it passed the 1996 Telecommunications Act and provided for resale and the unbundled network elements platform (UNE-P) to enable carriers to develop local subscriber bases which would support a migration to building their own local facilities. In both the business and residential markets, however, facilities-based service requires a significant concentration of demand to be economic. To the extent multiple networks can ever economically compete, a significant customer base is needed to justify network deployment and reduce the risk of such deployment. Today, AT&T provides local service to more than 4.3 million residential lines and 4.5 million business lines, including 1 million small business lines. We have done so through a combination of facilities-based entry—we have invested billions of dollars in our own local facilities since 1996—and the lease of Bell network elements.
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    In the wake of the regulatory certainty generated by the U.S. Supreme Court TELRIC decision and the highly contested FCC Triennial Review announcement in February 2003, AT&T entered local service in thirty-seven additional states for a total of forty-six states. However, in view of the regulatory uncertainty generated by this same Administration and FCC's decision not to appeal the D.C. Circuit reversal of the February 2003 order, AT&T has had to re-assess the business case for local and long distance residential markets. The re-introduction of regulatory uncertainty has strangled mass-market local competition in its very infancy.

    AT&T strongly believed that the D.C. Circuit decision is both wrong and flatly contradicts Supreme Court precedent, but the Administration refused to appeal it. The Bell companies' refusal to negotiate reasonable interconnection and leasing agreements in the wake of that decision has left AT&T no choice but to stop incurring the costs to solicit new local phone customers in its residential markets. With the Bell companies poised to raise wholesale rates for UNE-P as early as November, we will simply not be able to provide a bundle of local and long distance services economically and build the customer base that so greatly facilitates our VoIP deployment.

    Without appropriate legislative and regulatory treatment, VoIP could develop into yet another technology controlled by the Bells. Without competition, the Bells may digitize voice but have no incentive to develop the myriad software applications for advanced and converging features that truly promise to change the way we communicate. Remember that these are the same companies that held back the deployment of DSL services to residential customers for some ten years so customers would have to take their other, higher priced services. Only when forced by competition, in that case the deployment of broadband Internet connections by cable operators and competitive carriers Covad and Rhythms, did the Bells finally introduce mass-market, high-speed Internet access service. Similarly, without the threat of losing customers to a VoIP rival, the Bells will have no incentive to invest in and deploy this new technology or the rich array of features it is capable of providing.
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    The prospects for competition will be thwarted, if the Bells are allowed to continue such anticompetitive practices as refusing to sell their broadband service to customers that purchase voice service from a competitor, or requiring their broadband customer to purchase a local exchange line as well. The Bells' ability to restrict broadband customers from subscribing to anyone else's voice services has attracted widespread attention and many states have sought to prohibit these anticompetitive practices—but they continue. Unless we and other competitors are allowed—quickly—to fairly compete for voice customers, we will not be able to invest in VoIP, and VoIP will become just another Bell-controlled technology.

    Legislation proposed by Chairman Sensenbrenner and Congressmen Conyers would greatly further the goal of competition and protect against the incumbents' anticompetitive practices by reaffirming the application of the antitrust laws to the telecommunications sector. It would prevent the Bells from attempting to perpetuate their monopolies by unlawful tying or refusing to share network facilities with competitors at reasonable prices. AT&T strongly endorses this legislation.

    Let me provide more detail on each of these points.


    VoIP holds the promise of choices and capabilities far beyond today's circuit-switched offerings. It enables consumers to enhance and tailor their communications services to their needs and lifestyles at competitive prices. It very well could be the ''killer app'' to drive widespread broadband adoption for which we have all waited. It could also be an important economic driver for our nation.
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    AT&T fully intends to lead the VoIP revolution for businesses and consumers. We have invested heavily to upgrade our total network, including some $3 billion in 2003 alone, and we have already met our goal of providing VoIP service in the top 100 markets in the country this year.

    With VoIP, voice service is just another ''hosted application'' like e-mail, letting customers take their phone numbers wherever they go and access connections over any device, such as a standard home telephone, wireless phone, or computer. AT&T's consumer offer, AT&T CallVantagesm Service, for example, already includes a host of new advanced features and the ability for consumers to dynamically tailor and control their feature settings via website or telephone any time day or night as often as they want. Advanced features include advanced call forwarding features and ''do not disturb'' options that enable consumers to program the service so that the phone answers to their needs instead of the other way around. AT&T CallVantagesm Service provides subscribers a ''Personal Call Manager Web Site,'' which gives subscribers complete, dynamic control over their answering, voice mail and other capabilities. Subscribers can check their voicemail from their computer and forward information as a ''talking'' e-mail. Innovations, and the resulting benefits to consumers, will only increase as device manufacturers, network operators, service providers and application developers take full advantage of the ability to integrate voice, data and advanced computer capabilities.

    In the IP environment, voice services can also be provided much more efficiently. IP technology allows for more efficient routing of calls than traditional circuit-switching. These efficiencies enable more innovative service packages. Current VoIP offerings allow customers that have a broadband connection to place unlimited calls anywhere in the country for a single, low monthly price. The Alexis de Tocqueville Institution concluded earlier this year that government at all levels could save $3–10 billion annually—up to 60% of their current phone bills—by replacing circuit-switched service with VoIP. You should not, however, think of VoIP as ''cheap phone service.'' It promises to be lower-cost, yes, but with a host of new communications management features and options that go well beyond today's ''plain old telephone service'' (''POTS'').
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    Allowing VoIP to develop in the marketplace is a critical step to bringing this Nation into the digital age. AT&T welcomes the fact that many Members of Congress support a ''hands off'' approach to VoIP and have introduced legislation that would bring the benefits of competition and innovation to the telecommunications marketplace. Congressman Pickering, for example, has proposed a deregulatory approach to VoIP that acknowledges the need to reform the current subsidy system and allow this nascent service to flourish.

    Fundamentally, VoIP legislation must recognize that because the Internet is global in nature and these services will be deployed nationwide, a federal framework makes the most sense. Forcing U.S. VoIP providers to develop 50 different varieties of VoIP services to comply with a patchwork of potentially inconsistent state regulatory burdens could hinder their development. Continuing regulatory uncertainty as to federal versus state regulation of VoIP, or worse yet, the regulatory uncertainty that would accompany implementation of 50 different regimes to regulate VoIP, would inevitably impede investment, in direct opposition to the federal policy of creating a regulatory framework that promotes the growth and development of broadband services. Indeed, recognizing the critical importance of a uniform, nationwide deregulatory environment, the Pickering bill prohibits even the FCC from regulating VoIP applications except as specifically authorized.

    Such an approach will be critical to VoIP's ability to lead the United States' broadband revolution: the United States' broadband penetration lags behind that of a number of other countries. Many of those who have higher rates of broadband penetration have recognized that allowing VoIP to flourish will contribute to a positive economy and allow them a competitive edge in the global marketplace. The United States, too, must protect its economic interests by abandoning outdated policies favoring and protecting incumbent revenue streams.
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    Allowing emerging VoIP services to develop free of unwarranted, legacy regulation allows carriers to design the service to respond to customer needs and interests, and to remain flexible in their business plans as customer preferences emerge, rather than be bound by a government-dictated vision of what the service should include and what is a benefit to consumers. As FCC Chairman Powell stated on February 8, 2004:

the case for government imposed regulations regarding the use or provision of broadband content, applications and devices is unconvincing and speculative. Government regulation of the terms and conditions of private contracts is the most fundamental intrusion on free markets and potentially destructive, particularly where innovation and experimentation are hallmarks of an emerging market.

    The wisdom of this approach was confirmed recently—in reverse—when a new local VoIP provider concluded it could not stay in business in any of the states in which it had been operating when faced with an order from Washington state regulators to register as a telephone company and comply with the same laws as other long distance companies (including the payment of access charges). Regulators must be able to approach VoIP service flexibly if they expect VoIP to bring its promised benefits to consumers and competition.

    We agree with those who've said that providers of VoIP services must meet important social policies. Providing access for the disabled, enabling public safety (911) response, and cooperating with lawful requests for information from law enforcement are issues that the industry can and is working to resolve, and AT&T is taking a lead in these efforts. While government has a legitimate role in ensuring that these things get done, it should refrain from regulating this new service in these or other areas in the absence of a demonstrated failure on the part of industry to act appropriately. We may also need some flexibility and reasonable transition periods to achieve these policy goals, in recognition of the fact that IP-enabled services present different technical and operational issues than those considered when the legacy common carrier regulations were originally developed. Nonetheless, we believe that the enormous flexibility and power of VoIP promises to address these issues in ways superior to current circuit-switched technology.
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    Other legacy regulations, however, will require substantial revisions before they can or should be applied to VoIP. The universal service and intercarrier compensation schemes are irremediably broken and indeed, no longer make sense even in the context of the traditional, circuit-switched wireline telephone services for which they were developed. Prompt attention to these fundamental flaws in existing regulation is urgently needed so that IP-enabled services are not burdened with costly and outdated, broken regulatory schemes that would prevent VoIP services from reaching their potential.

    Let me emphasize that nothing about VoIP threatens universal service. The problem with the universal service fund (USF) is that it is still supported by a shrinking base of interstate revenues for traditional telecommunications services. A growing fund with a shrinking base cannot be sustained. It's long past time for the universal service systems in this country to be reformed, and we support VoIP being part of the broader reform of the USF system. We think VoIP providers should contribute to a reformed universal service system—in a sustainable, fair, and nondiscriminatory manner.

    AT&T has proposed a contribution system to the FCC that would replace the current revenues-based system with a numbers/capacity-based system that is fairer and more sustainable. Under our proposal, providers would pay a flat-rated charge for each assigned telephone number that maps to a unique end-user's service. Services known as ''special access services'' would also be assessed a flat-rated charge based on the capacity of the service. Such a system would be competitively neutral, and would provide a solid foundation for the fund because the use of numbers is increasing. Moreover, VoIP providers would be fully included, since their service nearly always uses traditional phone numbers—as would future technologies, which are likely to retain the use of numbering. The Commission has full authority to implement such reforms—but it has yet to do so. In fact, it has delayed action on every major VoIP issue it has confronted thus far. It took the FCC 18 months to decide the merits of a petition AT&T filed—and nearly as long to rule on a similar one filed by pulver.com—regarding the regulatory consequences of offering VoIP services. Such delay fails to meet basic notions of fairness in administrative procedure—and harms competition. Carriers need clarity and predictability in the marketplace if they are to make the risky investment needed to make VoIP widely available.
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    Especially unworkable and in need of attention are the Commission's vastly outdated access charge regulations. The access charge scheme was developed decades ago to ensure that whenever a long distance company used the local network, it would subsidize local service by paying grossly inflated rates to the local carrier. While there was much in this framework to which one could object, it remained workable as long as local carriers and long distance carriers operated in separate markets. Its infirmities became apparent and unsustainable when those carriers entered each others' markets, and even more so when wireless companies and ISPs became the largest users of access minutes. For that reason, eight years ago, Congress ordered that implicit subsidies, including those in access charges, must be eliminated. Unfortunately, they still remain in place eight years later, and the FCC's long-promised overhaul of its intercarrier compensation regime has yet to occur. While Chairman Powell commendably opened a proceeding examining needed revisions as one of his first acts as Chairman, that docket remains unresolved more than three years later.

    Now, the emergence of VoIP services dramatically underscores the urgent need for the Commission to meet its responsibilities under the APA and complete intercarrier compensation reform. Whatever the historical wisdom of requiring interexchange carriers to subsidize through inflated access charges local exchange carriers operating in a different market, it makes no sense to require nascent VoIP providers to subsidize the monopoly local exchange carriers against whom they will be directly competing. VoIP providers collectively serve only several hundred thousand customers, while the Bells serve nearly one hundred million. Having VoIP providers subsidize the incumbents cannot be the right answer. No one demanded that the auto industry subsidize the buggy manufacturers, or the computer industry the typewriter providers, or email the post office.
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    The far better course is comprehensive reform of the intercarrier compensation regime to eliminate market distortions and opportunities for regulatory arbitrage. Nearly every segment of industry agrees that there is a need to move to a rational system in which all traffic is exchanged under the same compensation rules. Even OPASTCO—the Organization for the Promotion and Advancement of Small Telecommunications Companies—acknowledges the need for intercarrier compensation reform, although its members directly benefit from current law. In a hearing before the Senate Commerce Committee on June 16, 2004, Arturo Macias, current Chairman of OPASTCO, testified that although it was important for rural carriers to be able to recover their costs of providing access to their networks, current intercarrier compensation rates are not cost-based, and OPASTCO would not oppose their reform.

    Until that reform occurs, however, these legacy access charges should not apply to IP-enabled services, even on an interim basis. Even Qwest agrees with us that providers using IP at either the origination or termination points of telephone traffic should not pay access charges, even if the traffic at some point traverses the public switched telephone network. The imposition of above-cost access charges on IP telephony would radically alter the economics of providing VoIP services and would severely impede the development of those services.

    Contrary to the Bells' claims, VoIP providers do not get a ''free ride'' when they don't pay access charges. To the contrary, VoIP providers typically purchase what are known as Primary Rate Interfaces (''PRIs'')—a type of high-speed line—or other local business lines to connect to the public switched telephone network, and they pay for termination as an enhanced service.

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    AT&T agrees that affordable service needs to be maintained in high-cost areas of the country. Applying the legacy access charge regime to VoIP, however, is not the way to achieve this result and would prove counterproductive and market-distorting. It simply slows the deployment of new and desirable technologies while driving users away.


    Today we are at a crossroads where we must call upon your leadership. If VoIP is to deliver on its promising potential—and offer something truly different in the marketplace—then it cannot be treated and regulated like plain old telephone service. We are asking for your support to keep that from happening, so that Americans can finally realize the long-promised benefits of widespread competition and the innovations promised by VoIP.

    Thank you again for inviting me here today, and I look forward to your questions.

    Mr. CANNON. Thank you, Mr. Langhauser.

    Mr. Cordi.


    Mr. CORDI. Thank you, Mr. Chairman, Congressman Chabot. Good morning and thank you for the opportunity to testify on the regulatory aspects of voice-over-Internet protocol.
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    I am here on behalf of the Federation of Tax Administrators. The FTA is an association of tax agencies of all 50 States, New York City and the District of Columbia. My comments today will be limited to the State and local aspects and preemptions found in H.R. 4129, a bill that has been referred to this Committee, and I will leave the regulatory matters to those with expertise in those areas.

    We have four major objections to the preemption of State tax authority found in H.R. 4129: it discriminates against other providers of voice communications services; It represents a considerable fiscal cost to the State governments; it runs completely counter to the country's established system of federalism; and no case has been made for preempting State and local tax authority.

    Our reasoning for this is as follows: first, voice-over-IP is an exciting new technology, and it is always tempting to want to nurture a new product. But in doing so, we must not forget existing and competing products. One of the primary goals of tax policy is to treat similar taxpayers and similar goods and services in a similar fashion. Government should not choose the winners and losers in the marketplace through tax policy.

    One thing is clear: preempting State taxation of voice-over-IP services will put land phone services and wireless phone services at a competitive disadvantage. The technologies are different, but they are functional equivalents. All three industries provide voice communications services. All three, and those that will emerge in the future, should be taxed in a similar manner. Preempting State taxing authority with respect to voice-over-IP goes 180 degrees in the wrong direction.
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    Secondly, State and local governments currently collect about $10 billion annually on sales of telecommunications services. The Congressional Budget Office has estimated that preempting the taxation of voice-over-IP could reduce State revenues by at least $3 billion a year within 5 years, and that may be, as the Chairman said in his opening remarks, an underestimation of the growth of voice-over-IP. And we anticipate that preemption would also accelerate the growth of voice-over-IP and quickly lead to the loss of much of the remainder of the $10 billion.

    Beyond that, it is possible that H.R. 4129, as written, would also prohibit the States from collecting some substantial part of the $7 billion we now collect in property, income and sales taxes from existing telecommunications providers as assets are shifted to voice-over-IP. In short, preempting the taxation of voice-over-IP services will have a major and adverse impact on State and local fiscal systems and constitute a de facto repeal by the Congress of a source of taxation available to State and local governments for over a century.

    Third, broad preemption of State tax authority to tax voice-over-IP services will represent a radical departure from historical practice for Congress. Both the States and Federal Government are sovereign entities with the right to tax. Congress has heretofore generally limited preemption of State and local taxation to narrow situations where there has been an excessive reporting burden or a compelling need for uniformity.

    Finally, not only is this a uniquely broad preemption, but no evidence suggests that there is a compelling national interest in eliminating the State taxation of this technology. It has certainly not been showing of a need for preemption on the basis of complexity or lack of uniformity. There may indeed be bona fide issues that need to be resolved on how State and local taxes should be applied to voice-over-IP services. Any new type of business creates the need for new regulations and policy adjustments. But it certainly seems excessive to preempt the better part of an entire tax on the theory that there may be issues that need to be resolved.
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    Any issues can best be dealt with through an honest and constructive dialogue involving all affected parties. And in conclusion, voice-over-IP services hold significant potential to improve our society. Congress can promote competition, preserve State tax authority and protect the public interest by refraining from any policy that unnecessarily preempts State and local taxing authority, discriminates against traditional voice communication providers and disrupts State and local fiscal systems.

    Thank you.

    [The prepared statement of Mr. Cordi follows:]


    Mr. Chairman and Members of the Committee:

    Thank you for the opportunity to appear before you today on the important question of the appropriate federal policy regarding the regulation and taxation of Voice over Internet Protocol (VoIP) technology. My name is Stephen M. Cordi. I am the Deputy Comptroller for the State of Maryland, and I appear before you today on behalf of the Federation of Tax Administrators, an association of the principal state tax administration officials from the 50 states, D.C. and New York City.(see footnote 1) I am the Immediate Past President of the Federation.

    My comments today will be limited primarily to the issue of potential federal legislation that would eliminate, limit or otherwise preempt the ability of state and local governments to impose taxes on VoIP services. There are important issues involving potential federal preemption of state authority to regulate VoIP services, but I leave those to others with expertise in the area. Further, I will direct my comments principally to the state and local taxation provisions in H.R. 4129, The VoIP Regulatory Reform Act of 2004, that was introduced by Rep. Pickering and others since that is the clearest expression of potential federal policy in existence today.(see footnote 2)
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    The thrust of my comments today can be summarized as follows: Congress should not take action at this time that would preempt the ability of state and local governments to impose taxes on VoIP communications services. Such an action would discriminate against other providers of voice communications services using technologies that are subject to tax and would deprive states and localities of significant amounts of revenue in the very near future. In addition, such an action would run counter to our system of federalism and to the traditional Congressional posture of not intervening in state taxing matters. Finally, we believe that no case has been made that would warrant federal intervention at this point, and that federal action of the sort envisioned in H.R. 4129 would obviate any possibility of a cooperative state-industry dialogue to identify and resolve any issues that may be present in state and local taxation of VoIP services.


    There is no doubt that VoIP is an exciting new technology that holds significant potential to provide enhanced, more convenient communications services to some consumers and businesses at costs that are sometimes lower than they face today. Each week seems to bring the announcement of another VoIP offering, not only from start-up companies, but also from established telecommunications companies of all types.(see footnote 3) At its core, however, we must remember that VoIP is one of several competing technologies that can be used for providing voice communications services.

    One of the primary goals of tax policy is to treat similar taxpayers and similar goods or services in a similar fashion when it comes to taxation. Only by taxing similar or functionally equivalent services in the same fashion, can we ensure that consumer choices are based on price and quality of service and not distorted by tax policy. Preempting state and local taxation of VoIP services as proposed in H.R. 4129 would create an unprecedented tax preference for one form of voice communications services (VoIP), and it would place other traditional land-line and wireless voice providers at a substantial competitive disadvantage because they would still be obligated for existing state and local taxes. Such a policy creates an unlevel playing field that works against those providers not employing VoIP and will cause a misallocation of resources in the economy. Enacting such a discriminatory arrangement will undoubtedly create additional calls for federal intervention in an effort ''to level the playing field.''
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    In considering the appropriate tax policy for VoIP, Congress must consider function over form. That is, the function of VoIP is to provide voice communications services, and it is the functional equivalent of other forms of voice communications services. It should be taxed in a manner similar to other voice communications services to avoid distorting consumer choices and to avoid placing Congress in the position of choosing winners and losers from among competing telecommunications providers. H.R. 4129 runs directly counter to that proposition.

    If Congress chooses to base its tax policy decisions on the technology employed in VoIP services, rather than the function of VoIP, it is likely to find itself continually one step behind the technology curve and facing a continuing set of requests for intervention. A prime example of this result is the passage of the Internet Tax Freedom Act in 1998 that was written when dial-up access was the predominant, if not exclusive, method of providing Internet access. Within a relatively short period of time, however, other technologies developed and not all were treated in the same manner under the federal law as juxtaposed against state tax systems. This led to demands for further interventions and preemptions by the Congress as it considered extending the Act this year.

    In short, preempting state and local taxation of VoIP services, while leaving the taxation of other forms of voice communication intact, constitutes an unsound tax policy that discriminates against traditional voice communication providers. This is not to suggest that there are not likely bona fide issues of the manner in which state and local taxes should be applied to VoIP services. Such issues can only be identified and resolved through an honest and constructive dialogue among the affected parties. Adoption of policies such as those contained in H.R. 4129 would prevent such a dialogue from occurring and create a discriminatory tax environment.
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    According to the Congressional Budget Office, state and local governments collect about $10 billion annually in general purpose transaction taxes (including sales taxes and telecommunications excise taxes) on sales of telecommunications services at the present time.(see footnote 4) Further, CBO estimates that under current projections, it is expected that up to one-third of traditional voice traffic would migrate to VoIP within five years, thus implying a revenue loss to states and localities of upwards of $3 billion annually by that time. Enacting a tax exemption for VoIP services would undoubtedly accelerate that revenue loss and lead to the loss of a substantial portion of the $10 billion in a relatively short period of time.

    In addition, depending on interpretations of the breadth of the tax preemption in H.R. 4129 as well as the interpretation of the state prohibition on regulating VoIP services in the bill,(see footnote 5) a substantial portion of the $7 billion that CBO estimates states and localities collect from business taxes (property taxes, business profits taxes, and taxes on purchases) on telecommunications providers could be preempted as well.(see footnote 6) That is, as assets of traditional telecommunications providers are shifted to VoIP services or are taken out of service due to the migration of traffic to VoIP providers, revenue from these business taxes will also be lost to state and local governments.

    In short, a broad preemption of state and local taxation of VoIP services would have a substantial detrimental revenue impact on states and political subdivisions. It would, in fact, constitute a de facto repeal by the Congress of an entire category of taxes on which states and localities have long relied—taxes on telecommunications services and providers. States and localities would have two alternatives to deal with the preemption: reduce expenditures or raise the revenues from other taxpayers. Given that approximately 55 percent of all state and local expenditures are for education, social services and public safety, the impact of expenditure reductions will likely be felt in services considered critical by the citizens.(see footnote 7)
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    Our system of federalism is founded on the concept that both the states and the federal government are sovereign entities and that both possess the sovereign ability to tax. The shared sovereignty with regard to taxation is a core element of political sovereignty. Moreover, our system is based on a precept that state and local elected officials, respecting the safeguards afforded all citizens by the U.S. Constitution, are in the best position to determine the appropriate tax policy for their citizens and for economic activity occurring within their borders.

    Despite its plenary authority to regulate interstate commerce, Congress historically has been respectful of state tax sovereignty and has substantially limited the instances in which it has preempted state taxing authority.(see footnote 8) Congressional preemptions (beyond those assuring respect for the Supremacy Clause) have generally been limited to relatively narrow areas where there has been a substantial showing of excessive burden or need for uniformity. Examples include the individual income tax treatment of workers in interstate commerce, treatment of nonresident pension income and property taxation of certain interstate transportation industries. In addition, Congress has in some instances fostered state tax sovereignty. Examples include the federal Tax Injunction Act that prohibits the federal courts from restraining the collection of a state tax where an adequate remedy exists in the state courts and the Mobile Telecommunications Sourcing Act that endorsed a resolution to the need for a single rule in sourcing wireless telecommunications services that was developed by the industry and the states.

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    Enactment of H.R. 4129 or similar policies preempting states from taxing a particular technology would represent a substantial departure from traditional Congressional positions and our federal system. Congress would be substituting its judgment for the judgment of state and local elected officials and effectively determining that states and localities should no longer tax voice communications services.(see footnote 9) This stands in sharp contrast to the rich tradition of federalism on which our government was founded and which has served our country well. As our national and state economies have evolved, states have developed their tax policies with an eye toward accommodating new technologies as members of a stable marketplace. This system has worked well, and no evidence has been presented to suggest that state tax policies have impeded the growth of new technologies or state or national economies.


    We believe that enacting the broad regulatory and tax preemptions contained in H.R. 4129 is unwarranted in that there has been no showing of a need for federal intervention.(see footnote 10) Moreover, a policy of preemption would likely impede or preclude the development of sound long-term policy for VoIP that treats all voice telecommunications providers in an equitable fashion and that is respectful of the tax sovereignty of the states.

    The types of VoIP services that will be offered are still evolving as is the understanding of the issues involved in the taxation and regulation of VoIP. On the tax front, there has not, to my knowledge, been any attempt to demonstrate a need for federal preemption on the basis of complexity or lack of uniformity. A review of recent tax literature reveals only one article examining state tax issues associated with VoIP,(see footnote 11) and the bulk of the issues identified in that piece involve whether VoIP would qualify as a telecommunications service under state tax statutes, not issues of complexity or uncertainty that would make a tax on VoIP services difficult to administer or comply with. While there may well be issues that should be addressed, we do not believe it is appropriate to preempt all state and local taxation on the theory that there may be issues to deal with. Through efforts such as the Mobile Telecommunications Sourcing Act and the Streamlined Sales Tax Project, states have shown their willingness and ability to work with stakeholders to address bona fide issues of complexity and uniformity. A broad federal preemption would preclude any such discussions.
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    VoIP services hold significant potential to provide consumers with more choices for voice communications at lower costs. As the technology evolves, the legal framework governing VoIP will also evolve. There will likely be a number of issues that will need to be addressed, but they are best addressed through meaningful dialogue among affected stakeholders that have a view and an incentive to create ''win-win'' solutions that benefit all parties. It seems that the prudent thing for Congress to do at this point is to foster that dialogue by taking a holistic approach to examining VoIP technology with an emphasis on promoting competition, preserving state authority, and protecting the public interest, rather than moving forward with a policy that preempts state taxing authority, discriminates against traditional voice communications providers, and disrupts state and local fiscal systems.


Resolution Seventeen

Preemption of State Authority to Tax

    WHEREAS, the power to define the state tax system is a core element of state sovereignty, and

    WHEREAS, the United States Constitution establishes appropriate bounds to the sovereignty of the states in the tax arena, and
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    WHEREAS, the system of federalism that is defined by the United States Constitution further cedes to state and local governments the responsibility for supplying the majority of the daily services due to its citizens and residents, and

    WHEREAS, a vibrant state and local tax system is essential to meeting those needs, and

    WHEREAS, the U.S. government has traditionally shown substantial deference to the tax sovereignty of the states, and

    WHEREAS, there is an increasing number of groups seeking to preempt state taxation authority in particular areas, and

    WHEREAS, federal preemption of state tax authority has the effect of establishing a preferred class of taxpayer and shifting the tax burden to other non-preferred taxpayers, and

    WHEREAS, federal preemptions often have unintended consequences, and

    WHEREAS, our system of federalism can result in substantial administrative compliance burdens for persons with tax responsibilities in multiple states, and

    WHEREAS, many of the legitimate goals that might be pursued in preemptive legislation can be effectively achieved through cooperative state efforts and improved uniformity among the states, now, therefore, be it
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    Resolved, that the Federation of Tax Administrators respectfully urges the Congress and the U.S. federal agencies to refrain from enacting measures, taking actions or making decisions which would abrogate, disrupt or otherwise restrict states from imposing taxes that are otherwise lawful under the U.S. Constitution or from effectively administering those taxes, and be it further

    Resolved, that Congress should undertake an active program of consultation with states as it considers measures that would preempt state tax authority, and be it further

    Resolved, that states should actively pursue such uniformity and simplification measures as are necessary and effective in addressing concerns of administrative burden in complying with the tax laws of multiple states.

    This resolution shall automatically terminate three years after the Annual Business Meeting at which it is adopted, unless reaffirmed in the normal policy process.

Adopted at the FTA Annual Meeting, June 9, 2004

    Mr. CANNON. Thank you, Mr. Cordi. We are on a remarkable roll here, where three out of three witnesses have done under 5 minutes.

    Mr. KIRKLAND. I think the rule means that I get that much time to myself now. Is that——
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    Mr. CANNON. Well, it depends on what you say. [Laughter.]

    You keep us interested, you probably have a long time. Thanks.

    Mr. Kirkland, please go ahead.


    Mr. KIRKLAND. Good morning, Chairman Cannon and Congressman Chabot. Thank you for offering me the opportunity to provide Covad's perspective on voice-over-IP and how best to ensure that this exciting new technology is rolled out as rapidly as possible.

    The Judiciary Committee's oversight in this area is as important today as it has ever been, in light of recent activity in the D.C. Circuit, and frankly, companies like Covad who have invested around the 1996 act in competitive businesses, investing hundreds of millions of dollars in facilities at some point start to feel like there has been kind of a bait and switch. In January, I read the Trinko decision, where the Supreme Court discussed how the role of regulation perhaps reduced the importance of antitrust scrutiny, and 2 months later, we have a major court decision that essentially removes fundamental elements of the regulatory scheme, and we are wondering, you know, where does the buck stop?

    We need antitrust enforcement. We need rigorous antitrust oversight. We also need market-opening regulation to facilitate the introduction of new competitive technologies. I think in the voice-over-IP area, this is a very exciting technology, but it is easy to get lost in terms of what it means in the marketplace and competition. And the new services that are in the marketplace, companies like Vonage and AT&T's CallVantage services, are essentially what we call applications or software. They operate on a computer, but they do not directly interrelate with the underlying broadband network.
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    These applications or software programs can be delivered over any kind of broadband network, and the providers who provide these services by definition do not control the underlying transmission facilities that these services ride over. They are like a Web browser or any other application that rides over the Internet. They are simply software, and the underlying transmission facilities are provided by either the phone companies like DSL, by companies like Covad over DSL, by cable companies over broadband facilities.

    This is a critical point, because every time you hear about a new technology, new forms of competition, there is a big emphasis on, well, revisting the need for underlying regulation of bottleneck facilities. The local phone network remains the one ubiquitous set of loops that connects all homes and all businesses in this country. While you hear a lot about new technology, for example, the cable companies, they predominantly serve residential areas. They do not serve the small businesses of this country. All of the new technologies you hear, broadband over power line and broadband wireless, are many years away.

    So for the foreseeable future, to the extent that you want innovation and competition, companies like Covad will still need to access that ubiquitous network of loops in order to provide our services. In addition, you know, the history of innovation is driven not just by the software or by the application but also by the network. The software has an area in which it can operate and function, but if you can combine innovation in software with innovation in the network, you will have a much better, more accelerated introduction of advanced features, more of a productive spiral of innovation.

    And so, for example, Covad is able in the voice-over-IP arena not just to provide an excellent software package that provides all the exciting features that we have been talking about: an ability to dial phone calls off of your computer; a single inbox that has all of your voice mail, email and faxes in a single inbox; an ability to control those features, to forward calls to different numbers on the fly, so if you are going somewhere different for a weekend. And in order to do that, however, we are also able to protect the voice quality of the service that goes over that line because we control our network.
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    I think I would just point out, you know, voice-over-IP is here. Covad is launching the service in 100 cities. We recently had our launch party in Washington, D.C., and we expect to be nationwide by the end of this year. We raised $125 million in new capital to fund this rollout, and we are very excited about this technology, but procompetitive market regulation still has a very critical role to play.

    I think one other final point is I think the history of innovation of this country shows that while large companies have been a source of innovation, small companies have been a very important source of innovation as well. So it is critical that this Committee, via its oversight as well as the legislative process preserve that competitive, those competitive alternatives, and we appreciate your attention to these issues and look forward to your questions.

    [The prepared statement of Mr. Kirkland follows:]


    Good morning Chairman Cannon, Ranking Member Watt, and Members of the Subcommittee. My name is James Kirkland, and I am the General Counsel of Covad Communications. I would like to thank Chairman Cannon for convening this important hearing on VoIP services, and for allowing me the opportunity to offer Covad's perspective on ensuring the rapid rollout of VoIP. At the outset, let me also commend Chairman Sensenbrenner and Ranking Member Conyers for their foresight and leadership in promoting the rapid deployment of VoIP services through H.R. 4412.

    The Judiciary Committee's oversight of the enforcement of the antitrust laws is of particular importance today in light of recent actions by a Federal court and the FCC. The D.C. Circuit's decision to vacate the primary competition-enabling rules governing access to the last mile of the telecommunications network created a vacuum which places the large monopoly phone companies in the enviable position of having a monopoly over a critical portion of the local phone network with few regulations requiring they open those lines to competitors. The FCC's efforts to fill this vacuum are critical, but unfinished. These developments, coupled with the Supreme Court's decision in Law Offices of Curtis Trinko v. Verizon limiting the applicability of the antitrust laws with regard to activities governed by the Telecommunications Act, force us to consider whether the large local phone companies now have market power to limit what would otherwise be a very vibrant VoIP marketplace. That is why it is so important for this Committee to have this hearing today, and that is why we are supportive of the Chairman and the Ranking Member's efforts to ensure that the antitrust laws and procompetitive loop access requirements continue to remain an appropriate tool to open local monopoly markets.
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    I would first like to discuss what Covad is doing with VoIP, then give you an overview of and some key statistics concerning the VoIP market, and finally touch on the key policy issues that are important to this Committee.

Covad and VoIP

    Covad will be at the forefront of the deployment of VOIP technology. We were the first company to deploy mass market broadband DSL services in the nation, and have invested hundreds of million of dollars in building the leading nationwide facilities-based broadband network, reaching nearly 50 million homes and businesses in 35 states. Covad's broadband facilities reside in over 2000 neighborhood central offices across the nation. Today, we continue to invest in facilities-based competition. This year, Covad acquired a leading VOIP service provider, Gobeam, and in March we raised $125 million in new capital to help fund a nationwide VoIP rollout. By the end of 2004, Covad plans to roll out its business-class VoIP services nationwide to 100 major markets. In 2005, Covad will develop consumer VoIP services across its nationwide broadband facilities. As its name suggests, Voice over Internet Protocol based services bring the flexibility and capacity for rapid innovation found in other IP enabled services to public voice services. These services have traditionally relied upon the hard wired, and relatively inflexible, capabilities of the public telephone network. Covad's VOIP services illustrate the power of this combination of voice and IP. Covad's services provide businesses with all of the capabilities of expensive PBX systems, with little investment in hardware. Each user receives a unique phone number to consolidate their multiple phone numbers. Find me and follow me capabilities allow calls to find you no matter what phone you are using, and are all configurable in real time using a ''Dashboard'' web-interface to manage incoming and outgoing phone calls through a computer. The service includes a personal virtual fax number to handle all incoming faxes; a unified visual mailbox to manage voicemail and faxes like e-mail; and robust call logs and integration with Microsoft Outlook, allowing users to make and return calls from their PC. Covad's VoIP services also include easy to use web collaboration and voice conferencing tools. These features dramatically enhance the speed and ease with which end users can access the enhanced functionalities of VoIP telephony, combining the familiarity of a traditional telephone handset with the flexibility and power of a computer-based interface.
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    It is not an understatement to say that facilities-based VoIP services truly hold the potential to revolutionize the telecommunications industry, all within a few short years. Indeed, the VoIP revolution is not just around the corner—it is already underway. The U.S. VoIP market has been forecasted to grow to more than five million subscribers by 2007, a five-fold increase over 2002 levels. Furthermore, the Internet Protocol-PBX market, which has just under 100,000 lines today, is expected to grow to more than 1.7 million lines by 2007. Covad adds a unique and critical ingredient to this revolution—namely, its own nationwide, facilities-based broadband network. Covad's management of last-mile broadband transmission facilities enables it to offer VoIP services that rival the legacy public switched telephone network in their reliability, quality of service, and public safety features, such as access to 911.

The Importance of Facilities-Based VoIP Competition

    Covad is able to provide innovative new services like VoIP because Congress had the vision and the foresight in 1996 to create a flexible regulatory framework to manage the transition from local telephone monopolies to robust local competition. This transition is still at a very early stage. The local telephone network remains the sole, ubiquitous public infrastructure connecting virtually every home and business in this country. By requiring that the local telephone companies allow competitors to utilize and integrate these ubiquitous loops into innovative, facilities based service platforms, competitors can develop new and innovative services like VoIP.

    Vigorous innovation in the provision of telecommunications services requires that a service provider control both the ''application'' portion of the service it provides as well as the underlying transmission capabilities used to carry a service. By controlling its own broadband facilities, which utilize telephone company lines from a customers' premise to central offices where Covad maintains its own broadband points of presence, Covad is able to control the quality of service it provides to its customers, and introduce innovative features that are both software and network based. On the other hand, if the lines which connect homes and businesses become the exclusive province of a monopoly phone company in any area, the deployment of new technologies like VoIP will be determined by the decisions and business objectives of one, or at most two large incumbents that control facilities in any market. Covad respectfully submits that the history of innovation in this country has been driven as much, if not more, by small entrepreneurial companies as large, well funded incumbents. If VoIP is to truly flourish, there must be room for both small and large competitors. With the competitive spur of smaller, often nimbler and more focused competitors, the large incumbents are far more likely to deliver on their promises of future investment in advanced facilities.
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    Without robust facilities-based competition from multiple players, Covad believes that the revolutionary potential of VoIP may not be fully realized, or may be realized much more slowly. At this initial stage in the development of VoIP services, VoIP service providers that do not operate their own broadband transmission facilities have had some initial success in developing the marketplace for VoIP services. For example, in a few short years, Vonage has grown its subscriber line count to more than 100,000 consumers and small businesses across the nation.(see footnote 12) AT&T recently announced its own entry into the third party VoIP marketplace, with the rollout of its CallVantage Service. AT&T plans to enter 100 major markets by year's end, and expects to sign up 1 million consumers and businesses for CallVantage services by year-end 2005.(see footnote 13)

    These services offer innovative features, but are limited by their providers lack of control over the facilities used to carry them. Indeed, as Banc of America Securities recently wrote,

Because they have no legacy voice business, the virtual carriers, like Vonage, have every reason to press ahead aggressively . . . But they have significant risks long term. The current regulatory arbitrage from which they benefit (namely the ability to circumvent access charges and the USF), may go away eventually; they have little brand awareness or reputation; they can't bundle multiple services; and they are at the mercy of the infrastructure provider to maintain the plant sufficiently; and, at least today, they can't offer a quality of service (QoS) guarantee.(see footnote 14)
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    Control over and operation of underlying broadband transmission facilities will confer significant advantages to service providers offering integrated transmission and VoIP services, such as:

[the abilities] to control the quality of service, leverage existing customer relationships and take advantage of their on-the-ground field service networks to assist with customer installation.(see footnote 15)

For example, Covad's control over its network based facilities allows it to use packet prioritization techniques to ensure that voice quality is maintained even as a user downloads large files or watches streaming media.

    Competition in the underlying transmission facilities layer will become increasingly more important over time in ensuring the competitiveness of services and applications like VoIP. In other words, to preserve and extend the competition being created by third party providers of IP enabled services, it will become increasingly more important to preserve and extend competition in the underlying provision of broadband transmission services. Robust competition in the broadband transmission facilities layer for competitors like Covad who are unencumbered by legacy businesses will help ensure that the exciting innovation being witnessed today in the provision of third party IP enabled services like VoIP will continue unabated.

The Market Structure

    Robust facilities-based competition in the provision of the broadband services that VoIP requires does not yet exist. Amidst all the hype over the broadband future and new technologies, the underlying reality is stark. According to recent FCC data, the incumbent telephone companies and cable providers control more than 93% of the nation's broadband access lines.(see footnote 16) Moreover, many end users lack a choice even amongst this limited set of two providers—for example, cable providers have historically focused their network deployment in residential areas, leaving most businesses with the incumbent telephone company as their only broadband option. In fact, recent figures show that cable penetration in the small business segment has actually dropped: ''We projected cable modem would surpass DSL in this [the small business] segment by year-end 2003. However, cable modem penetration dropped precipitously in the small business market, or businesses with between 20 and 99 people. Cable operators also achieved limited success in the remote office market, reaching only 4.2 percent of the market in 2003.''(see footnote 17) As the Yankee Group now recognizes, ''DSL operators dominate the U.S. [small business] broadband and enterprise remote-office broadband market.''(see footnote 18) Even more fundamentally, as both the Department of Justice and the FCC have long recognized, duopoly conditions are insufficient to produce competitive outcomes. Duopoly competition is problematic not simply because the firm with the larger market share may exercise market power, but also because both participants are likely to have the incentive and ability to maintain prices above competitive levels rather than attempting to ruthlessly compete with each other, as they would need to do in a market with multiple firms.(see footnote 19) Accordingly, as the FCC has concluded, ''both economic theory and empirical studies'' indicate that ''five or more relatively equally sized firms'' are necessary to achieve a ''level of market performance comparable to a fragmented, structurally competitive market.''(see footnote 20) Most importantly, large incumbents with substantial investments in existing facilities are less likely, left to their own devices, to be aggressive innovators in disruptive technologies like VOIP.
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    The incumbent telephone companies, with substantial legacy businesses, face conflicting incentives in deploying VoIP, which threatens their core circuit-switched voice businesses with VoIP services:

SIP threatens to strand the Bells' core network . . . VoIP customers bypass, obsolete and strand the Public Switched Telecom Network (PSTN).(see footnote 21)

Given nearly $150 billion invested in circuit-switched telephone plant,(see footnote 22) it is easy to see why incumbent telephone companies have severely conflicting incentives in rolling out VoIP: ''the Bells will be reluctant to cannibalize themselves . . .''(see footnote 23) The Bells' history in deploying DSL technology is instructive. As is now widely acknowledged, the incumbent phone monopolies were slow to deploy ADSL precisely because it threatened to cannibalize lucrative, legacy monopoly services such as ISDN, T1, and second line telephone service.

    The cable industry also has conflicting incentives. Cable providers have much stronger incentives to aggressively roll-out bundles of VoIP and broadband transmission. After all, ''[r]elative to the Bells, [cable's] major advantage is obviously that it doesn't have a legacy voice business it needs to protect.''(see footnote 24) Viewed in the broader context of their own legacy monopoly, however, the picture gets murkier. Under duopoly conditions, the ILECs and cable providers have every incentive not to aggressively compete in each others' core businesses:

[W]e think cable operators are wary of being too successful . . . the chief risk is that being too successful in VoIP could induce the Bells to be more aggressive in the data and video businesses (such as ratcheting up marketing activity and price pressure). To put it another way, we think cable operators want to be successful with VoIP only up to the Bells' threshold of pain; maximizing the value of VoIP may not maximize the value of the cable business if it invokes a predatory response . . .(see footnote 25)
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[W]e think cable regards the potential Bell threat as much larger [than virtual carriers like Vonage] and we think it is highly unlikely to risk baiting the Bells with an aggressive push into VoIP just to preempt what it regards as a smaller threat.(see footnote 26)

Indeed, alongside the flurry of press announcements announcing cable operators' ambitious future VoIP rollout plans is a note of caution:

Most are wary of using big, new capital expenditures to take on entrenched local phone giants, such as Verizon, while they are also spending heavily on fancy, new set-top boxes and cable modems. ''To dislodge a competitor that large takes a lot of money, and cable operators are still loaded with debt,'' says Richard Nespola, CEO of telecom consultant TMNG. ''Investors would not jump for joy.''(see footnote 27)

    This economic reality highlights another limitation of duopoly competition in the IP transmission layer. To the extent that the cable industry does pursue VOIP services, this is no guarantee that the industry will make further investments to optimize their transmission networks for VOIP. They may merely elect to provide VOIP services on a ''best efforts'' basis utilizing their existing internet access capabilities. In this scenario, cable companies would not drive any significant transmission layer innovation, but would simply be ''virtual'' voice carriers, like Vonage, over their own networks.

    Unlike the established telephone and cable companies, Covad and other competitors have no legacy business to protect. Thus, we believe that including Covad's facilities-based VoIP offerings in the overall marketplace will significantly speed the rate at which broadband services like VoIP are adopted, and the development of innovations in these services.
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Lessons from Abroad

    The experiences of countries like South Korea and Japan are instructive. Both nations enjoy significant leads over the U.S. in broadband penetration, and both nations have experienced explosive growth in broadband deployment after adopting and enforcing unbundling regimes. South Korea's market-opening measures included the formation of a new company (Hanero) to compete with incumbent Korea Telecom,(see footnote 28) and opening Korea Telecom's network with requirements for local loop unbundling, including sharing of the local loop.(see footnote 29) The result has been thriving competition in the broadband market, with three main suppliers,(see footnote 30) and rock-bottom prices (as low as $25 a month(see footnote 31)) for consumers. As a result, ''[a]t the end of June 2003, South Korea ranked third in the world by the total number of DSL lines and first in the world in terms of DSL penetration, with 14.27 DSL lines per 100 population.''(see footnote 32)

    Japan's market-opening measure included being one of the first countries to introduce line sharing, reducing line sharing charges to the lowest rates in the world, reducing collocation costs, shortening provisioning intervals, and unbundling backhaul facilities.(see footnote 33) As a result of such actions, at the end of 2003, Japan led the U.S. in broadband penetration, and a competitor named Softbank—not the incumbent—was the top DSL carrier in Japan.(see footnote 34) The experiences of South Korea and Japan show that maintaining competitive access to local loop and transport facilities spurs the deployment and adoption of innovative new services like broadband. Similarly, preserving competition among multiple facilities-based providers of VoIP will dramatically speed the pace at which VoIP services are developed, deployed and adopted here in the U.S.
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VoIP Policy Issues

    Aside from minimal regulation ensuring access to the last mile of the phone network, we believe that policy makers should adopt a generally deregulatory stance towards VoIP. We believe there is promising evidence that traditional social policy objectives can be met without enacting new regulatory requirements for VoIP services. Of particular importance to this Committee is law enforcement access to communications conducted over IP enabled services. First and foremost, I can tell you that Covad is committed to working with all law enforcement agencies to ensure that those officials have access to all the information from a VoIP call that they currently have access to for a regular phone call. In fact, we have complied with such requests in the past. In addition, last December, the National Emergency Number Association (NENA) and the Voice on the NET (VON) Coalition, of which Covad is a member, announced a voluntary agreement on approaches to provide VoIP subscribers with basic 911 service, and to work together to develop solutions for enhanced 911 functionality.

    Furthermore, we believe that many critical social policy objectives can be met by focusing on enforcing and rationalizing existing telecommunications service regulations, rather than by extending them to information services like VoIP. For example, we generally believe that regulators should refrain from imposing legacy access charge regulations on VoIP services, and instead should focus their efforts on reforming existing regulations to develop a comprehensive intercarrier compensation mechanism. Similarly, rather than imposing new universal service obligations on information services like VoIP, we believe that regulators can help safeguard universal service by rationalizing the existing contribution mechanism, so that all providers of broadband transmission services contribute equitably. In sum, we believe that the enforcement of existing regulations on broadband telecommunications service providers like Covad, combined with voluntary industry collaborative efforts and standards setting, can meet critical social policy objectives like public safety and universal service—without imposing intrusive new forms of regulation on information services like VoIP.
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    Mr. Chairman, Members of the Subcommittee, we are in the midst of a revolution in the telecommunications industry. We are moving away from the limitations of traditional phone service towards all of the enhancements, efficiency gains and innovation that VoIP makes possible. We are moving away from competition through legacy circuit switches to facilities-based competition over packet-switched broadband networks. Because of all that, now more than ever this Committee's oversight and stewardship of the antitrust laws is crucial. I hope that we can work with you in the future on these very important issues.

    Thank you again for this opportunity and I welcome questions from the panel.

    Mr. CANNON. Thank you, Mr. Kirkland.

    The Chair recognizes the gentleman from Ohio, Mr. Chabot, for 5 minutes.

    Mr. CHABOT. Thank you, Mr. Chairman.

    Unfortunately, I have a flight in less than an hour, and security being what it is these days, one never knows how long it is going to take to get through security. So I will yield my time to the Chairman to grill the witnesses here this morning, and I want to thank them for their very interesting and informative testimony, and my staffer is here as well, so we will be following very closely and look forward to working with all of you in the future on this important technology.
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    Thank you. I yield to the Chair.

    Mr. CANNON. Thank you. I thank the gentleman and appreciate your being here today to help us getting started.

    I want to apologize to the minority, which is not here. Both Mr. Watt and Mr. Delahunt asked that we defer the hearing. Both recognized the commitments by the members of the panel, and since Mr. Kirkland had already embarked from California to arrive, we suggested that we would go forward with the hearing. And we will try and keep the interests of all parties in mind as we ask some questions. Actually, the ''we'' is not royal. The ''we'' is actually me, I think, here today. So I appreciate your attendance, and I know that is at some sacrifice coming from across the country. I appreciate that, Mr. Kirkland, and thank you for your testimony.

    You know, Mr. Kirkland, you just mentioned the issue of small companies and how they relate here, and I think that is actually one of the most interesting issues before us. My district has a huge amount of information technology, and having the rules clear on VoIP is important. So you have a few genius type guys who with some few thousand lines of code can come up with an entirely new product or concept that transforms the world.

    If you have VoIP available, it seems to me that is important. I would actually like your thoughts on that Mr. Kirkland and also Mr. Cordi, but in addition, if I could just point out that we had a company—I think it was in Washington, yes, the Washington State regulators found that VoIP provided by a local company called Local Dial was a telecommunications service. This was a very tiny company and then ordered Local Dial to register and comply as such, which included the remission of access charges.
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    About a week later, Local Dial shut down, because it concluded it could not comply with the order and stay in business. Is this not a clear demonstration of the destructive power of taxation and that in an environment where we want to create a fertile field for innovation, taxation in this new area may actually be deathly?

    And Mr. Kirkland, do you want to comment and then Mr. Cordi?

    Mr. KIRKLAND. Yes, this is why we support the approach taken in the Pickering legislation. We do believe that a very light regulatory touch on voice-over-IP is critical. This technology is very exciting, but it is very much in a nascent stage, and the kinds of entrepreneurs that you described as well as even larger companies would struggle with a 50-State regulatory regime over voice-over-IP. So we are very supportive of that approach. We are also supportive of a very light touch with the caveat that I discussed in my testimony, and that is structural regulation of the telecommunications market remains critical, and in fact, it will enhance the rollout of these technologies.

    So we are very sympathetic, and even with larger companies, there are substantial costs involved in complying with the whole myriad of State regimes, and so we do think the Federal level is the appropriate level for policy here.

    Mr. CORDI. Mr. Chairman, on the tax question, we certainly do not deny that compliance with State tax requirements and local tax requirements presents some burden. There is no question about that. But we do not think that the first reaction of the Congress should be because of that burden to preempt State taxation in its entirety. It is clear to us that to create this preemption creates an unlevel playing field which threatens the remainder of a very large source of State and local revenue.
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    The States and taxpayers have proven that they can work together to address burden problems, and I think we feel strongly that we should be given a chance to do so.

    Mr. CANNON. Can I just follow up with that, Mr. Cordi, for a moment, and ask you to help balance for me the burdens. Let me say it this way: you have this new technology. Mr. Pepper referred to it as comparing VoIP and traditional telephony with a garage sale and an Ebay sale, and I think that, literally, the magnitude of difference is that much. Maybe the same thing is that you have stuff in your garage you want to sell; one is more efficient.

    There is another element here of differentiation, which is that we cannot even imagine the kind of tools, the kinds of products that may become available as people look at this. So those products, in my experience, and I have—we have had some large IT companies, and one of the funniest things I have ever watched in my lifetime is we had a fellow named Ray Norda who ran one of our great companies, and he had the view that he should fire 10 percent of his people every year. And so, every year, he would have a 10 percent layoff, and these guys would all go out, and they would say, well, I have got three offers from big IT companies, and I have five buddies who each have a new IT idea that they are working on, and before the bubble, of course, that was a lot more attractive.

    I will say that most of those guys are back to work now, which is very nice. But I have lived with, and I actually did venture capital with some of these companies. So the amazingness of some of the ideas is what I think we ought to be aware of in the future. But, you know, there are all kinds of problems with a start-up. In the first place, if it is really a good idea, and it is really going to threaten the establishment, it gets absorbed pretty quickly, and the world changes. And, of course, the major companies in America have proved that they can be adaptive, led, by the way, by AT&T, which did an audacious thing 5 years ago or 6 years ago to enter this space.
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    So what I would like you to do, Mr. Cordi, is to sort of respond. I understand that this is a source of cash, and in fact, if I might just go a little bit further, I heard an estimate the other day that the cost of switching, the cost of providing a phone call over the Internet, a VoIP phone call, is less than one-fifteenth of a switched call, and I think it is probably significantly less than that, and the scaling makes it even less.

    But in a context where you have a shrinking cost base, if your taxation stays at a relatively constant percentage, your revenues are going to shrink anyway. As those revenues shrink, as we are in a market where new ideas emerge that make the world a better place and which drive the whole economy, because but for the last couple of years when we have had a little bit of a slowdown, the information technologies have driven State revenues at a remarkable pace.

    Is there not a reason for the States to back off and say we probably ought to let this grow?

    Mr. CORDI. Well, I guess first of all, the number we are talking about here is not a small number, because we perceive this as threatening the whole source of revenue.

    Mr. CANNON. Now, when you say the whole source of revenue, you mean the telecommunications taxation.

    Mr. CORDI. In general; certainly, the money we take in from landline phone services and from this. And it gets worse to the extent that this preemption would facilitate——
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    Mr. CANNON. Right.

    Mr. CORDI.—the move of business in that direction.

    Mr. CANNON. That was a long question, so let me break it down in pieces. As you look at a reduced cost of services, you either have to expand the rate of taxation, or your revenues are going to fall. Is that not a concern?

    Mr. CORDI. Well, our taxes are based on the charges in general, not on the costs. And so——

    Mr. CANNON. Well, if it is a percentage of the charges by the phone company, except for some of the fixed costs; there are some fixed taxes, and there are some percentage taxes. If the cost declines, that is, if the cost of providing the service declines, and you are in a highly competitive environment, which we are, you are going to see a decline in the cost or in the charges that the phone companies make and therefore a decline in revenues.

    Mr. CORDI. Revenues will go down, Congressman. You are quite right. And that will present a problem for local policy makers. And to the extent that they need that revenue, they are either going to have to increase rates for their services or find other sources of revenue or cut expenditures. I do not think there is any other alternative. I am sorry; you were about to say something.

    Mr. CANNON. Let me just go a little bit, a step further. I met with AT&T recently to see their VoIP product in anticipation of this hearing, and the woman who made the presentation said this is a $34.95 price, but for the first 6 months, it is $19. So, I said, well, does the $19 fee require some long-term contract, or if prices decline in the future, you know, and I sign up, am I going to have a reduced price?
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    And there was some confusion, and finally, one of the guys said look: we are in a market where prices are declining. You will be lucky to maintain that $19 price. So the introductory hook price is likely to be the high end of the long-term price, and you are talking about a service that retails for $34 but is selling for $19 and is going to fall to $8 or whatever I would like. You set your prices, not me.

    So in that environment, you are looking, and now, of course, the QWest has a naked DSL, meaning you can do just DSL without a line. That means—I use QWest at home. My bill recently went from $150 to $75 with virtually all of the same services. I cannot get DSL where I am right now, although I think that is coming in the near future. When I get DSL, I will be able to have a line charge—they have got two, now, standards. One is 512K, I think the other is 1.7 meg.

    So for the same price as one line today, which is not taxed, by the way, because currently, at least, Utah is not taxing, I will get DSL service, and then, for $19 or some other amount of dollars. So for less than two-thirds of what I am paying right now, I am going to have all of the telephony that I can use, because I think that includes long distance if I use AT&T's product; I am not sure what the QWest product is. I know that my bill is going to go down in the future, and even my underlying DSL service is going to go down as other competitive services come on board.

    So I am looking at a reduction in my phone bill today of a third and probably a reduction to about half or less over the next year or two or three. That means your revenue base is declining like crazy, and your constituents are not going to let you keep that cost up, do you think?
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    Mr. CORDI. Well, I think you are completely correct. The likelihood is that revenues may come down here, and that will present a revenue problem for State governments. But I would argue we do not want to aggravate that. That is going to happen regardless of what you do here. We do not want to aggravate that by creating a preemption that sort of takes all of it out of the picture and over a short period of time.

    Getting back to the underlying problem, which is dealing with the burden question, I mean, what we see here is the big players, AT&T already, you know, pay taxes around the country. They have existing systems to do that. The burden here will be incremental. The new players, for the most part, will not be subject to our reach because of nexus questions, that we will not have the authority to reach a player that is out in California in Maryland unless he has got some presence there.

    And so, I see for the startup people a period of time during which they are not going to have this tax obligation until they become more present or unless Congress passes something like the streamlined sales tax which would provide a tax payment requirement without regard to nexus.

    Mr. CANNON. This is a real complicated issue, and I really actually want to hear from our other panel members. But I am not letting you off the hot seat, because this is the dialogue that we need, that is really important. And I apologize for giving such long questions, but the context, I think, is important.

    And now, you have touched on several different things. If I might just deal with SSTP for a moment, the streamlined sales tax program, it seems to me that we just got a letter from, which we will make part of the record without objection——
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    [The information referred to follows:]

    Mr. CANNON.—the National Governors Association and the National Council of State Governments, the National League of Cities, the U.S. Conference of Mayors and the National Association of Counties which pretty much lays out in brief your main points.

    What we have, I believe here, if I can just make a statement, is an attempt by people who live in the status quo to strangle the emerging future, which is better for us all. I liken it to the golden goose. It is laying eggs of great value to society and to the States and to State revenues in particular. And I might say that it has implications for the rest of the world.

    To the degree that we scale up, it makes it easier for people in other parts of the world to get these services. We are now talking, a group of us are trying to work with Haiti to get a WiFi system on the cheap there that would allow people there to change their lives dramatically by having medical resources they do not currently have by having agronomists help them with their crops by having a market like Ebay's market to sell their products.

    You know, the biggest employer in Afghanistan today is a Utah company called Overstock.com. They employ the largest number of people and the largest number of women. So we have a bunch of women who have made carpets for their whole lives now make their carpets and sell them directly on Ebay. Overstock.com creates a context where they assure quality and delivery, and you have made the world a dramatically better place in Afghanistan.
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    So the issue here is not what happens in Maryland or in Utah so much as it is what happens throughout the whole world. And I cannot overemphasize the fact that the tools that we can make available very cheaply like Overstock.com has done are much more important in the long run than the soldiers who risk their lives day-to-day there in the parts of the world that are unstable.

    So the transformation that we are dealing with here, the discussion that we are having about VoIP is not a discussion about the tax health of any particular State or one industry over another or one technology over another but the health of the world in a very real sense. That said, by way of admonition and maybe by counsel for you, it seems to me that if I were in the State's position, I would be saying we have the telephone revenues and the Internet tax moratorium. We have got the SSTP and what that provides for us, and then, we have got the business activity tax. And those three things combined represent the future of taxation by the States.

    And to resist mightily on the Internet tax moratorium seems to me to be counterproductive for the other two. And I think that Mr. Delahunt, who serves on this panel as well and who is the leading minority pusher of the SSTP agrees entirely with me on the subject.

    First of all, am I right about the relationship between those three different taxes and the future, and secondly, is there a way that we can get the various groups together so that we can come up with a rational decision instead of strangling the baby as it is born?

    Mr. CORDI. We need to all be talking, you know. The State governments disagree vociferously that the business activity tax should be related to anything else, and we do not see that as a reasonable price for either the streamlined sales tax legislation or, for that matter, an acceptable Internet tax freedom act. We see that as simply unrelated. You know, for the most—for many States, the cost of that exceeds any conceivable benefit from the streamlined sales tax. So State governments, I believe, resist the linking that you have suggested.
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    Mr. CANNON. Perhaps we can come back to that, but stepping back, am I correct about the importance of these new technologies? And should there be a relationship between the Internet tax moratorium and the SSTP? In other words, could the States give up the potential revenues that are going to decline anyway in the context of improved revenues through the SSTP?

    Mr. CORDI. Well, we are talking on these telecommunications taxes upwards of $10 billion. I do not have off the top of my head what the conceivable numbers are on the streamlined sales tax, but I am not sure they are in that range. Forgive me, Congressman, for not knowing that off the top of my head.

    Mr. CANNON. You know, I have seen lots of different numbers. Business Week had a number about a month ago of $35 billion lost to the States through sales over the Internet. That seemed a little high to me, but that is one of the numbers that is out there.

    Mr. CORDI. It seems very high to me, and as you know, the streamlined sales tax legislation has thresholds in it that really take out a lot of the potential revenues. And so, I do not think the number is anywhere like that, Congressman, but I do not have the numbers in front of me.

    Mr. CANNON. That is right, but, you know, the MTC number which we are talking about, the $10 billion, I think, came mostly from the MTC, the Multistate Tax Commission, represents a number that we have already agreed here, I think, is going to decline significantly just because the charges that are made to the customer are going to decline. So it is not $10 billion versus some portion of $35 billion; it is a shrinking $10 billion against a growing other source. And so what I am asking is, is the question I am asking relevant to the States?
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    Mr. CORDI. I think the question deals with the Internet tax freedom act and the streamlined sales tax. The answer is—yes, although there is not a whole lot of overlap between the two proposals.

    Mr. CANNON. That is right.

    Mr. CORDI. There is some, but, you know, you can discuss the two of those separately.

    Mr. CANNON. That is true, but, of course, the States have held up our version of the Internet tax in the Senate, and I think they did that without a lot of thought. What I am wondering is is there a possibility of getting the folks together that are actually thinking about this and changing the paradigm among the States?

    Mr. CORDI. I think that probably, the Federation of Tax Administrators is not the key player here.

    Mr. CANNON. Right.

    Mr. CORDI. I think you need to be dealing with the National Governors Association and the NCSL and the other senior——

    Mr. CANNON. There are other players. You guys are sort of the——
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    Mr. CORDI. Humble tax collectors.

    Mr. CANNON.—smart guys, though, with all due respect, and I am hoping that you will take up the burden.

    Mr. CORDI. Yes, sir.

    Mr. CANNON. Let me just point out: there is a difference between the BAT. The reason I raise them in the same context is because to the degree that the States need revenues, they need clarity of rules, so that, in other words, I am not using the BAT to bat the States over the head but rather to say we need to have clarity about how revenues are generated so that business can operate in an environment that is predictable, and that seems to me to be the major connection there.

    Let me shift here. Thanks, Mr. Cordi. I appreciate this. You know, this is a real difficult topic, and it is difficult in large part because of the fundamental transformative nature of what we are dealing with here.

    And so, Mr. Kirkland, if I could just ask a couple of questions of you, how many companies do you know of that are doing VoIP, and can you give me a sense of the size? You have the monsters, but you also have the small companies and the real startups.

    Mr. KIRKLAND. A lot of companies have talked about doing voice-over-IP. AT&T, obviously, showed some leadership in the space. Vonage is another company that has a lot of voice-over-IP customers. We acquired a company called Go Beam that focuses on the small and medium-sized business, and they were venture-backed and running, you know, basically trying to raise their next round, and we are now taking their product and launching it nationwide.
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    When we bought it, they had about 13,000 line equivalents. There are—it runs the gamut. I do not know if you read—there was an article, I think, in the Wall Street Journal this morning about a company called Skype that basically just allows downloadable software so you can make free calls over the Internet so long as the person on the other side has the same software on their computer.

    So there is a whole range of companies providing these services. I think in the aggregate, it is still probably less than 0.3, 0.1 percent of the total number of communications lines out there, so it really is a nascent technology. But that is what is great about it. There are probably companies that none of us have heard of here that are providing the service and a lot of diversity out there.

    Mr. CANNON. Let me ask a question, Mr. Kirkland, of you, and Mr. Langhauser and others may want to comment on this as well. I think, Mr. Langhauser, that you announced yesterday that you are leaving the local market. So you are facing some pretty significant transition in your business. You mentioned, probably when we were talking beforehand that probably about only 20 percent of the homes in America have broadband. But you pass more than 80 percent of the houses in America, as I understand it; is that not correct, with your broadband services?

    Mr. LANGHAUSER. Actually, we offer broadband connectivity only in partnership with other companies, including Covad.

    Mr. CANNON. Yes; thank you.
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    But Covad, Mr. Kirkland, Covad passes, with your partnerships, with QWest, with AT&T, how many homes do you pass in America?

    Mr. KIRKLAND. Our network, as we said, we are a facilities-based company. We actually have our own facilities in 2,000 central offices throughout the country. All we use are those local loops to connect to our own DSL equipment. We pass about 50 million homes and businesses in the United States, so that is approximately half the country; generally the top 100 markets.

    Mr. CANNON. My sense is that about between cable and DSL, 85 or 90 percent of the homes have access to if they do not use broadband; is that right, Mr. Pepper?

    Mr. PEPPER. That is right. We estimate—it is hard to know precisely, but we estimate between 80 and 90 percent, 85 and 90 percent of households have broadband available to them through either their cable company or through DSL, trough the incumbent carriers and providers or competitors like Covad.

    Based upon the latest numbers that we have seen in terms of industry reports, about 25 percent of American households now subscribe to some form of always-on, high-speed Internet service. And we also believe that some of the more exciting new technologies to provide broadband, especially in rural areas, are with wireless networks. We estimate that there is between 1,500 and 2,000 small wireless Internet service providers, many of them using unlicensed bands and unlicensed devices to provide broadband in rural communities that do not have DSL or cable modem service available.
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    Mr. CANNON. And those wireless services are broad enough bandwidth to support VoIP?

    Mr. PEPPER. Yes.

    Mr. CANNON. Mr. Langhauser, you talked about VoIP being the killer app. What does that mean in the market? I mean, if you have all of these people who have access who have chosen not to take broadband because of the cost, because they do not get the benefit, what does it mean? And may I ask also, we have had a lot of confusion in pricing. QWest's price for very narrow broadband was up to $70, $69.95 for a significant period of time. That was not the kind of thing that anybody except the real geeks wanted.

    As the uncertainty settles out, as prices fall, will prices fall, and will the cost of VoIP services fall, and what will that do to the market, in your estimation?

    Mr. LANGHAUSER. What I mean by VoIP possibly becoming the killer app is, as you point out, houses are passed by broadband, but for a number of reasons, consumers have not subscribed in overwhelming numbers. It is about 25 percent. And they need a reason to pay the $30, $40 a month for broadband. Some people are reluctant to use it for narrow band email, and it may not be useful for narrow band email.

    This may be the application, especially as we add to it and enhance it that gives consumers a reason to have that broadband connection into their house. What is exciting about this service are some of the applications that you can put on top of the voice traffic. Mr. Kirkland mentioned some of the features. There are going to be more. And these are going to provide a real opportunity for entrepreneurial companies to help us develop features that we could put on our service.
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    The VoIP pricing so far has been extraordinarily competitive, almost frighteningly competitive for a service that is just being rolled out, and I expect it will continue that way, and competition tends to lower prices.

    Mr. CANNON. I think of thrilling as opposed to frightening, but I am on the other side of the equation.

    You spoke earlier, Mr. Langhauser, about taxing by phone number. Now, at this point, I am pretty anxious not to see any taxes go any way, and so, you can you a little bit of opposition there, but does that not have some inherent problems? For instance, my understanding is that most VoIP services, I can get an area code where I want it. You know, if my mother lives in Utah, and I am out here, I can use a Utah area code so she can call me directly, or if I want the status of a Manhattan area code, I can do that as well.

    And by the way, I live in two places, and many people have different places that they locate. Does that create a problem in your mind?

    Mr. LANGHAUSER. I think the fact that voice over the Internet does not comply with any of the traditional jurisdictional notions certainly causes a problem on State taxation. And you are absolutely right. You could take your Washington VoIP number to Utah, and you would have a real issue of which jurisdiction taxes that.

    What I was referring to, though, was our proposal to reform the Federal universal service fund. Right now, that fund is funded only through interstate telecommunications revenues. It is a very narrow base. It is a shrinking base. It is a fund that is headed for severe problems. And what we are suggesting rather than tack on additional services like VoIP to this broken fund that the FCC should fundamentally reform it.
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    They should probably base the charge on telephone numbers or other connections to the Internet; subject all telephone numbers to a monthly charge. It would include VoIP; it would include wireless; it would be nondiscriminatory, and it would also sustain the life of the fund.

    Mr. CANNON. So you are only thinking about the universal service fund when you think about that.

    Mr. LANGHAUSER. That is right.

    Mr. CANNON. But I think the States are going to have something to say about that.

    Mr. Cordi, do you want to respond to the difficulty that represents or the opportunity?

    Mr. CORDI. Well, I am not certain that I have anything to add to that.

    Mr. CANNON. I am just concerned here about if people, if we tax, if we create or if we use the phone number as the basis of taxation, how do States participate in that process? How do they get a revenue stream?

    Mr. CORDI. Well, phone bills generally are controlled by the billing address of the customer and not by the area code he happens to be in. You know, there is good precedent for collecting tax on telephone services, not only the Mobile Telecommunications Sourcing Act but elsewhere for taxing phone services at the principal place of use. And typically, if you cannot identify it to any other place, it is the billing address.
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    Now, that is something that even an Internet provider, anyone who takes a credit card over the Internet asks for an address. And so, even if you are billing to a credit card and not, maybe, like AT&T, sending a bill to someone's home, I think this is a manageable problem.

    Mr. CANNON. I worry at some point that if we have a regime that is based on addresses or billing addresses that people will be driven to the jurisdiction with the lowest taxes, which is part of the reason that I think we need a rational solution for all States as opposed to competing interests.

    Let me come back to USF, and this is a question, Mr. Pepper; you may want to talk about this; Mr. Langhauser, you may want to as well or Mr. Cordi, Mr. Kirkland. The fact is the costs of using the VoIP are much lower than the costs of switched telephony. Does that lower cost not have significant implications for the need for the USF fund? You said you have serious problems coming, but if you can use a lower-cost system, is that not actually helpful for the USF?

    Mr. PEPPER. Well, I think that this is why we have some optimism. Number one, affordable phone service is a goal shared by, you know, the FCC, State commissions, Congress, State legislatures, everybody. So the goal of affordable phone service does not change. What will need to change, as you have been pointing out, is the way in which we achieve it in this new world.

    In a world in which the costs are actually lower, right, it makes it easier to achieve the affordability goal. So if the costs are lower, prices can be lower, and it will be easier to provide affordable phone service to everybody. So I think you are absolutely correct that there are some significant advantages using not just voice-over-IP but other new technologies to provide the physical transmission connection as well as the applications like voice-over-IP. And again, I think back and look at some of the wireless broadband providers that are providing services to, broadband services to communities that do not have any other broadband choice. And 2 years ago, we were told those communities would never have broadband. Today, they have broadband service, and it is being provided by people with no subsidies.
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    Mr. CANNON. Exactly; thank you very much for that comment.

    Let me go back to just one point you made and flesh that out a little bit. You talked about affordability, and this is for the whole panel, not just for you, Mr. Pepper, but affordability. Is not a tax on a fundamental service the most regressive tax you can have? In other words, as you think about that for just a moment, John Conyers and I, the Ranking Member of the full Committee, have had a long association in this particular battle, because the digital divide leaves people that he believes he is representing on the wrong side.

    And so, we have worked strongly together to try to help bridge that digital divide. To the degree that we are taxing these kinds of services, is that not extraordinarily regressive, and Mr. Pepper, I would like you to respond first. You seem to be interested, Mr. Langhauser, as well, but we will let you do the cleanup, Mr. Cordi, and give the other argument.

    Mr. PEPPER. I am not a tax expert, but you are absolutely right that, you know, people at the bottom end of the economic scale can least afford to pay more for services, and one of the ironies that we have seen is that many of the universal service or other fee or tax obligations tend to fall very heavily on low-income people, especially low-income people who make a lot of long-distance calls. And that really also applies to immigrants.

    So we have a lot of, you know, people who come to the United States. You know, it is still the country of everybody's dreams because of economic opportunity. They do not make a lot of money. They call family members back home. They are paying very high fees that actually increase their costs, and so, in some ways, it does not really help close that gap.
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    Mr. LANGHAUSER. I think one thing I would add to that is for some reason, and it is probably history, telecommunications in general has been singled out for a myriad of different State and local taxes. In some respects, it is treated as if it were tobacco or alcohol, with almost a punitive tax burden. I think this is something that is very important to address, and we are not arguing that we should not be taxed at all. We are arguing that we should be taxed like regular businesses and not singled out for excessive tax burdens.

    Mr. KIRKLAND. To build on what John said, I think you also see in the various taxes and fees, as you often see in communications issues, real inequities in what kinds of services, even services that appear like like services, some contribute; some do not. You know, USF is a good example, where cable modem service does not contribute into USF; other forms, like DSL, do in certain circumstances.

    And so, there is a whole legacy set of different fees, taxes, other sorts of things that the current system needs some rationalization. And before you then take some exciting new technology which certainly has great potential but extend, you know, systems that are in need of sort of a fundamental re-look or fundamental reform, another example being access charges, you know, we would suggest that you do not just take the old legacy system and try to figure out where to pigeonhole voice-over-IP but really look at the fundamental premises of these.

    And that is not to say that voice-over-IP should not bear its fair share, but there is some fundamental restructuring and equity that needs to be brought to the process. And I would argue that while this technology is nascent, while it is evolving, while it is still developing, and we will see where it ultimately ends up and what it really looks like on the ground, because really, there are all sorts of varieties out there, perhaps there is a case to be made to take a wait and see approach on this.
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    Mr. CANNON. Thank you.

    Mr. Cordi?

    Mr. CORDI. Yes, let me start out by agreeing with your general observation. Obviously, flat taxation on basic services or goods that the whole population buys tend to be regressive. You are right. What we are looking at here, though, interestingly would have—this preemption would have the opposite effect, because, of course, who would avoid taxation as a result of this is necessarily people who are computer-literate, able to afford DSL connections, more sophisticated people; basically, the better off would be who would get the tax benefit, indirectly, frankly of this preemption, the immediate benefit of it.

    And who is left holding the bag are all the people who will be locked into landline services for all the reasons that they cannot get this. So I would argue this preemption makes existing telephone taxes, as regressive as they may be, worse.

    Mr. CANNON. Well, let me just follow up a little bit, because my sense is that people who have landlines in cities will tend to be close to DSLams or switches so they can get DSL relatively cheaply. It is the rural folks that have a long distance and are going to have a hard time getting DSL services that are left in a sort of a box. But I think as Mr. Pepper just said, those people in many cases are already getting broadband services.

    So people who are living closely together and have landlines now are the people that are most likely to benefit from the plummeting costs of DSL, broadband or VoIP. It seems to me that—are we seeing the same issue, or am I missing something here?
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    Mr. CORDI. Well, that is correct as far as you are going. I guess my concern, though, is for those people who cannot take advantage of that, which is a very large chunk of the population that cannot throw up the money for a computer, get the cost of DSL, and those are the people who will be left using landlines, and frankly, my sense is preemption leaves this more regressive and not less regressive. That is an opinion.

    Mr. CANNON. I do not mean to be tenacious about this, but you are going to have VoIP with just a phone. In other words, you will not even need a computer to do it. So you are not at the $1,000 or $500, I mean, today with Linux, you are probably at less than that for a computer that would work; in fact, we were pricing for Haiti refurbished computers at $100 a piece.

    So the cost of a computer, I do not think is going to be a hurdle, and yet, the poorest tend to be the most closely-packed. They tend to have telephones already, and those are the folks who are going to lose a third to half of their phone bill by doing a VoIP, and a big chunk of that is tax, I grant you, but some of that is going to be purely economic, and over time, more of it will be purely economic. Are those not the very people that you want to bring into the—you want to not put on the wrong side of the digital divide?

    Mr. CORDI. I will agree with that.

    Mr. CANNON. Thank you, because here, we are not just talking about the taxation as being regressive. We are talking about the context being regressive. And I appreciate that information.
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    Let me ask all the witnesses about what happened in the Senate Commerce Committee yesterday. We passed, or they passed, Senator Sununu's VoIP bill that would preempt certain State taxes and regulations for 3 years but only 3 years. What potential problems do you see from a lack of certainty that is inherent in just a 3-year moratorium, or is the 3 years too much, whatever your view on that may be?

    And Mr. Pepper, could we start with you and then just move through the panel?

    Mr. PEPPER. We actually have not—I have not seen the latest language, but my understanding is that the 3-year moratorium language was a start in order to build a consensus to provide time for a more lasting approach.

    Mr. CANNON. And so, you think 3 years is appropriate?

    Mr. PEPPER. You know, I think we need clarity, you know. The question is, you know, will a 3-year approach at least provide clarity for 3 years while Congress considers what to do beyond that? I mean, that is my understanding from reading the trade press this morning. And clarity is the thing that investors need if they are going to roll out new services and make investments.

    Mr. CANNON. Does 3 years provide enough certainty for investment, or is that too short a period of time?

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    Mr. PEPPER. I would ask the companies that question.

    Mr. CANNON. That is a good point.

    Mr. LANGHAUSER. We believe it should be permanent. We believe it should include VoIP. Certainty is just vital in this industry, and it is particularly acute to my company after what we have been through based on a flip-flop in Federal policy.

    Mr. CANNON. Do you have, at the top of your mind, by any chance, the amount of money, the amount of capitalization that was lost from the top of the bubble to the bottom for telecom companies? My sense is something like $500 billion or $600 billion.

    Mr. LANGHAUSER. I do not have that number in my head, but that sounds like a reasonable estimate.

    Mr. CANNON. There have been a huge number which argues for clarity now and certainty now.

    Mr. LANGHAUSER. Absolutely.

    Mr. CANNON. Mr. Cordi?

    Mr. CORDI. My understanding, and I am getting this only from press reports of what the Senate did, was they took out the State tax preemption language. The 3-year moratorium pertains only to regulation, and the tax language has gone away, but that is only from press reports, Congressman.
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    Mr. CANNON. Thank you.

    Mr. KIRKLAND. We would support certainty again. We would echo the constant changes in the environment make it very hard to make investment decisions. And so, to the extent there can be a resolution that is at least permanent, obviously, nothing is permanent at the end of the day, but if—we prefer greater definition.

    Mr. CANNON. Thank you.

    Mr. Pepper, how long did it take the FCC to rule on the Pulver order, and how long did it take to rule on the AT&T order?

    Mr. PEPPER. I would have to go back and check specifically. But I think it was Pulver was probably a little over a year, and I think the AT&T also—you may have the exact dates. About 18 months, probably about 18 months for each.

    Mr. CANNON. Is there something that you can commit to for the FCC today about making these time frames shorter?

    Mr. PEPPER. I wish I could make commitments on behalf of my bosses, but that is tough. We are working very quickly. I mean, literally, even here in July on a Friday, I talked to them this morning. We have staff working through the reply comments that came in on the notice of proposed rulemaking, so we actually are working on it, and we expect to have some pieces of this staff recommendations to the Commissioners by the end of the year.
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    Mr. CANNON. Six months there, 18 months there; the shelf life of these technological products is relatively short. We would encourage you that.

    Mr. Pepper, in 2004, the FCC issued its order declaring AT&T's—yes, this is actually different, AT&T's IP telephone service was not exempt from paying the access charges applicable to circuit-switched interexchange calls. At a hearing a few weeks ago before the Energy and Commerce Committee, FCC Senior Deputy Chief Jeffrey Carlisle stated that the order applies only to AT&T until the broader VoIP questions are addressed in the IP-enabled services NPRM.

    However, we have received information that despite the narrow read of the FCC order, incumbent carriers have applied this decision to other VoIP providers that are distinguishable from AT&T such as Calypso.com. We understand the incumbents continue to impose or threaten to impose access charges on these companies by misapplying the FCC order, what appears to be a misapplication of the FCC order.

    In essence, the incumbents are freezing out the VoIP providers either directly or through threats to competitive carriers. What should be done about companies such as Calypso.com whose viability is threatened by a distorted interpretation of the AT&T order?

    Mr. PEPPER. We became—first of all, the AT&T decision applies only to the specific facts of the AT&T case, and so that is absolutely correct. And we have learned over the last week or so of these kinds of actions on the part of incumbent carriers wanting to impose access charges on other forms of voice-over-IP on which the Commission has not yet made a determination.
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    So my recommendation to Calypso is to come in and talk to the people at the Commission. We also have other petitions pending as well as the notice of proposed rulemaking that is addressing situations that go beyond the AT&T set of facts.

    Mr. CANNON. Thank you. Could you tell us a little bit about the FCC's efforts to address the social issues associated with VoIP, including universal service and 911 service?

    Mr. PEPPER. Yes; we believe that it is very important that we separate economic regulation from what we call the social or consumer policies. Those include things like affordable phone service, access for law enforcement for first responders, access for people with disabilities, access for lawful intercept. And the Commission began a series of what we call solution summits, bringing the parties together to work through these issues. And for example, we had a solution summit with the law enforcement community and service providers to focus on 911 issues for first responders.

    And frankly, there has been a lot of progress. There was wide agreement, for example, in that particular meeting that, number one, the voice-over-IP providers who were there said, you know, they actually believe it is important as a competitiveness necessity to provide 911 service going forward. There are some technical difficulties on figuring out location-based for certain forms of voice-over-IP, and they are working with the National Emergency Numbering Authority, NENA, which is the body which does the work for the law enforcement community and first responders, hospitals, fires and so on, firefighters, to work through those issues.
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    And in fact, on December 1, the two communities entered into a memorandum of understanding for short-term agreements while they work through long-term solutions. And I have a copy of that here if you would like to have that in the record.

    Mr. CANNON. I would appreciate that for the record.

    I mentioned earlier that I had been to the AT&T presentation. They have a registration process which allows you to put an address in, and from what I understand from what you're saying is there is now a context for that address to be useful, and I suspect in most cases, it would be useful to a local emergency responder.

    Mr. PEPPER. Well, this is what they're working through. One of the questions for the first responders and the public safety access points is whether or not those what we call PSAPs actually have the equipment that could do something with that information. And so, part of the answer is funding for and upgrading the local first responder facilities, not just doing something with the voice-over-IP technology on the service provider side.

    This, by the way, is very analogous to the issues with having location-based e-911 for mobile wireless, cell phone service, right, where the industry is, you know, stepping forward and providing it on their networks, but there are many of the local authorities that have not yet upgraded their facilities, because they just do not have the funds to do that.

    Mr. CANNON. Thank you.
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    What efforts has the FCC made to address the issue raised by Mr. Langhauser concerning intercarrier compensation with regard to VoIP, and what is the position of the FCC on this point?

    Mr. PEPPER. Well, the Commission and individual Commissioners have said that resolving the intercarrier compensation questions are among our highest priorities. And the reason is very simple: the intercarrier compensation arrangements that have grown up over the last 40, 50, 60 years were based upon monopolies and a single form of communications.

    And essentially, what has happened is that we now have many competitive providers, and we have different prices for the same thing. What I mean by that is that we talk about intercarrier compensation; essentially what we are talking about is what one provider of service pays another to terminate a call. Those prices, and by the way, if you are the local carrier, the cost of terminating a call from your central office to your home or office is the same no matter where that call originates from.

    Today, we have a regime in which if the call originates across the country, you pay one price; if it originates within the State but not your community, you pay another price; if it is from across town, you pay—a carrier pays a third price. If it's a cell phone company, you pay a different price. There are multiple prices for the same thing, and as a result, there is significant incentive for arbitrage.

    And to give you an idea of the range of prices for this termination, if you are AT&T, and you are providing a long-distance call, and you want to terminate it, and it comes across the country, and you are going to a major, a big Bell company, you will pay about a half a cent per minute to terminate that. On the other hand, if you are taking that call to a small telephone company, the rural telephone companies, and the call originates within the State, for instance, Wisconsin, there is a small rural phone company in Wisconsin that has an intrastate access charge, in other words, intrastate termination charge of 12 cents per minute.
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    That is not sustainable going forward, because everybody eventually is going to have services like their wireless phone, where your local calling area, in terms of your pricing, is the United States. So we think this is extremely important. We have an open proceeding. There are industry negotiations, and this is one of the things that we are going to be working toward as soon as we can.

    Mr. CANNON. Is this an issue that the FCC expects to resolve in its notice of proposed rulemaking on IP-enabled services?

    Mr. PEPPER. No, there is a separate proceeding on intercarrier compensation.

    Mr. CANNON. Thank you very much.

    This has been an extraordinarily informative hearing. I appreciate the depth of understanding and clarity of statements. Are there any things that any of you would like to add at this point to the record?

    It has also been, given the contentious nature, the difficult nature of it, it has been remarkably agreeable. I think that we understand—and, in fact, if I can just comment on the course of this, 3 months ago, I had people telling me that the 911, it was never going to work, and that was a terrific difficulty. We have made dramatic progress in recent times, and I think if I can characterize this hearing, there is dramatic consensus on the nature of the transition but concern about how we deal with that transition, especially from the point of view of the States and State revenues, because this is a larger threat, I think you have indicated, than the SSTP may represent, and so, we have to—let me just say that it is going to be extraordinarily important that we grapple with this.
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    It is just not acceptable to have the Senate stop stuff because one Senator can put a hold over there, because stopping is not going to change the course. And stopping may just end up leaving the States in much worse condition than if we are thoughtful and work out a process for resolving it. So, Mr. Cordi, I really appreciate your insights, the clarity of your thinking. I understand the urgency of it. And I am committed to helping, at least from this Committee's perspective, helping VoIP move forward, because I think it solves a host of problems, including for the poorest among us, recognizing that if that happens, something else has to happen to create a balance.

    And so, I appreciate your input, especially, Mr. Cordi. I think it has been very thoughtful, very helpful and very agreeable, and I appreciate the technical and other kinds of input that we have gotten from the other panelists, which have been most enlightening.

    Thank you, and this hearing is adjourned.

    [Whereupon, at 11:30 a.m., the Subcommittee was adjourned.]


Material Submitted for the Hearing Record


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(Footnote 1 return)
The Federation of Tax Administrators is an association of the state tax agencies in the 50 states, District of Columbia and New York City with principal programs in information exchange, training and intergovernmental coordination. FTA policy regarding federal preemption of state taxing authority was adopted by the membership at its 2004 Annual Meeting. That policy statement is attached.

(Footnote 2 return)
H.R. 4129 would, among other things, prevent any state or political subdivision from imposing any tax, fee or other charge on the offering or provision of VoIP services. It would also preempt any state regulation of VoIP services and would limit the extent to which the Federal Communications Commission could regulate VoIP services.

(Footnote 3 return)
There are several types of VoIP services and a variety of consumer features available from various VoIP providers. Some VoIP services do not use the publicly switched telephone network (PSTN), but estimates are that currently 90 percent of all VoIP calls either originate or terminate on the PSTN.

(Footnote 4 return)
Letter to Senator Lamar Alexander from CBO Director Douglas Holz-Eakin regarding S. 150, the ''Internet Tax Nondiscrimination Act,'' dated February 13, 2004. This does not include about $3–4 billion in 911 and Universal Service Fund fees that would be preempted under the bill as well.

(Footnote 5 return)
In the bill ''regulate'' is defined to mean ''any governmental action that restricts, prohibits, limits or burdens, or imposes any obstacle, obligation or duty, or interferes with, [a VoIP] application

(Footnote 6 return)
For further discussion, see Michael Mazerov, ''Proposed 'Voice over Internet Protocol Regulatory Freedom Act' Threatens to Strip States and Localities of billions of Dollars In Annual Tax Revenues, Center on Budget and Policy Priorities, Washington, D.C., July 20, 2004.

(Footnote 7 return)
U.S. Bureau of Census, Preliminary Estimate, State and Local Government Finance, 2002 Census of Governments, found at http://www.census.gov/govs/www/estimate02.html.

(Footnote 8 return)
For a more complete discussion (as well as an evaluation of certain current federal preemption proposals), see Charles E. McLure, Jr. and Walter Hellerstein, ''Congressional Intervention to State Taxation: A Normative Analysis of Three Proposals,'' State Tax Notes, March 1, 2004.

(Footnote 9 return)
Most observers expect a rapid migration to VoIP even without a tax preference. Michael K. Powell, the chairman of the Federal Communications Commission, was quoted as saying, ''We think pretty quickly there's no reason why virtually any communication service [won't be Internet-based].'' Yuki Noguchi, ''Identity Crisis,'' The Washington Post, Oct. 23, 2003. Preempting taxation of VoIP would constitute a de facto repeal of all taxes on voice telecommunications because all or nearly all forms of voice telecommunications would move to VoIP.

(Footnote 10 return)
The U.S. Senate has twice taken action to clarify that its actions are not intended to preempt state and local taxation of VoIP services. The Internet Tax Nondiscrimination Act (S. 150) as passed by the Senate in April 2004, contains a provision contained in a Manager's Amendment stating, ''Nothing in the Act shall be construed to affect the imposition of taxon a charge for voice . . . service utilizing Internet protocol. . . .'' On July 22, 2004, in a mark-up of its version of the ''VoIP Regulatory Reform Act'' (S. 2281), the Senate Commerce Committee approved an amended version of the bill that does not contain a preemption of state and local taxing authority and a dialogue with the sponsor of the bill established that the bill was not intended to preempt taxing authority.

(Footnote 11 return)
Walter Nagel and Ari M. Lev, ''VoIP: The Second Battle of the Internet Tax Wars,'' State Tax Notes, June 3, 2004.

(Footnote 12 return)
See ''Vonage Becomes First Broadband Telephony Provider To Activate 100,000 Lines,'' Press Release, Vonage, Feb. 2, 2004 (available at http://www.vonage.com/corporate/press—index.php?PR=2004—02—02—0).

(Footnote 13 return)
See ''AT&T Ushers In New Era in Communication With Launch of AT&T CallVantage Service—New Jersey,'' Press Release, AT&T, March 29, 2004 (available at http://www.att.com/news/item/0,1847,12989,00.html).

(Footnote 14 return)
See ''Straight Talk on VoIP,'' David W. Barden, et al., Banc of America Securities Equity Research, April 15, 2004, at 4.

(Footnote 15 return)
See ''Everything Over IP,'' Glenn Campbell, et al., Merrill Lynch Research Report, March 12, 2004, at 19 (available at http://www.vonage.com/media/pdf/res—03—12—04.pdf).

(Footnote 16 return)
See High-Speed Services for Internet Access: Status as of June 30, 2003, Industry Analysis and Technology Division of the Wireline Competition Bureau, Federal Communications Commission, at Table 5 (December 2003). Specifically, out of a total of 23,459,671 high-speed lines (over 200kbps in at least one direction), RBOCs served 7,266,765 lines, other ILECs served 948,828 lines, and cable providers served 13,684,225 lines.

(Footnote 17 return)
Yankee Group, Cable and DSL Battle for Broadband Dominance (February 2004), at 4–5 (emphasis added).

(Footnote 18 return)
Id. at 4 (emphasis added).

(Footnote 19 return)
See United States Department of Justice/Federal Trade Commission, Horizontal Merger Guidelines, Section 2 (rev. Apr. 8, 1997).

(Footnote 20 return)
Report and Order, 2002 Biennial Regulatory Review—Review of the Commission's Broadcast Ownership Rules and Other Rules Adopted Pursuant to Section 202 of the Telecommunications Act of 1996, 18 FCC Rcd. 13620, 289 (2003).

(Footnote 21 return)
See ''SIP Happens: How VoIP Technology 'Re-unbundles' Telecom,'' Scott Cleland, et al., Precursor Telecom and Media Research, Apr. 12, 2004.

(Footnote 22 return)
See id.

(Footnote 23 return)
See ''Straight Talk on VoIP,'' supra n. 3, at 4.

(Footnote 24 return)
See ''Straight Talk on VoIP,'' supra n. 3, at 5.

(Footnote 25 return)
See id.

(Footnote 26 return)
See id. at 6.

(Footnote 27 return)
See ''Cable Poised to Offer Phone Service—Just Not So Fast,'' USA Today, May 27, 2004.

(Footnote 28 return)

(Footnote 29 return)
See ''Developments in Local Loop Unbundling,'' Organisation for Economic Cooperation and Development, Working Party on Telecommunications and Information Services Policies, Sept. 10, 2003, at 49 (available at http://www.oecd.org/dataoecd/25/24/6869228.pdf).

(Footnote 30 return)
Korea Broadband, PDS Consulting Short Paper, Version 12 June 2003.

(Footnote 31 return)
Seoul's Strong Hand Sets Pace on Web, International Herald Tribune Online, November 26, 2001.

(Footnote 32 return)
South Korea, Korea Broadband Overview, Point Topic, October 20, 2003.

(Footnote 33 return)
On a roll: Japan's success with DSL, Ovum Research, DSL: Business Models for Exploiting the Local Loop, July 2002.

(Footnote 34 return)
How the ''Japanese Miracle'' of Broadband Came About, Glocom Platform, Japanese Institute of Global Communication, Colloquim #43, December 24, 2003.