February 2005

On November 12, 2004, the Federal Communications Commission (FCC) issued a historic decision and preempted the Minnesota Public Utilities Commission (MPUC) from applying its traditional “telephone company” regulations to Vonage’s Voice over Internet Protocol (“VoIP”) service. Soon afterwards, a Federal Court of Appeals for the Eighth Circuit upheld a permanent injunction prohibiting Minnesota from regulating Vonage. Despite these two favorable rulings, the California Public Utilities Commission nevertheless chose to file an appeal of the unanimous FCC order. What now? This article explores the basis for the FCC decision and considers its impact on state and federal regulation of IP enabled voice and video services.

The FCC decision arose from a 2003 MPUC finding that Vonage was subject to state utility regulation. As a practical matter this meant that Vonage would have to comply with the same tariffing, certification, and 911 rules that apply to traditional carriers. As a broadband VoIP provider, Vonage can never know which of its customers are actually using the service in Minnesota, nor can it know whether they are making intrastate or interstate VoIP calls.

Furthermore, it is impossible for VoIP companies to comply with state utility rules because they can not technically offer their services in a manner similar to switched wireline telecommunications carriers. As a result, Vonage appealed the MPUC order both at the FCC and in federal court. Although a federal district court soon issued a permanent injunction — a ruling that was recently upheld by the Eighth Circuit — the FCC continued to evaluate the merits of the petition filed with the agency.

In a 5–0 decision, the FCC acted to preempt the MPUC from regulating VoIP providers such as Vonage. In issuing its preemption order — the FCC found that while Vonage’s VoIP service resembled traditional telephone service provided over the PSTN, there are fundamental differences between the two types of services.

• Vonage does not know where its users are located because service can be accessed over any broadband Internet connection and users can access the service from any broadband connection anywhere in the world;
• The service requires the use of specialized software or customer premises equipment;
• The service combines voice with a suite of integrated features and capabilities; and
• While the Company uses telephone numbers, the telephone number is not necessarily tied to the user’s physical location, rather, the number correlates to the digital signal processor of the Vonage customer’s equipment so as to allow for the routing of the call over the Internet.

In reaching its ruling, the FCC applied Commerce Clause jurisprudence. Under this reasoning, a state regulation violates the Commerce Clause if:

1. It has the practical effect of regulating commerce outside of its borders; or
2. If it is excessive when compared to the local benefits of the regulation; or
3. In certain instances, commerce, by its unique nature, demands cohesive national treatment.

The FCC determined that the MPUC order runs afoul of the Commerce Clause under any of the three tests. The MPUC has the practical effect of regulating interstate commerce due to the inability to segregate the intrastate and interstate components of Vonage’s service.

Even if it were possible to segregate out an intrastate component of the Vonage service, the efforts would be costly and impractical with no clear benefits achieved though economic regulation of the service. Finally, due to the unique nature of the Vonage service that cannot be constrained by geographic boundaries, inconsistent state economic regulation would cripple the service.

In a similar vein, the FCC determined that Vonage offers a “jurisdictionally mixed” service and as a result it can not be subject to state regulation. When separating a service into interstate and intrastate communications is impossible or impractical, the FCC has the authority to preempt state regulation that would thwart or impede the lawful exercise of federal authority over the interstate component of the communication. The FCC concluded that it was impossible to either directly or indirectly identify the intrastate portion of a Vonage communication. Using telephone numbers as a proxy to determine whether a call was local or interstate fails because telephone numbers associated with rate centers in Minnesota can be used by customers located outside of the state. Similarly, using billing address or address of residence as a proxy for determining jurisdiction fails because whenever Vonage’s service is used from a location outside of the state, the interstate communication would wrongly be deemed as intrastate.

While the pending litigation in the Ninth Circuit creates some additional uncertainty, VoIP providers should be heartened by both the Vonage ruling and the Eighth Circuit holding. In the meanwhile, companies should keep their eye on the Ninth Circuit case and continue to look to the FCC for further clarification concerning what social obligations VoIP providers will be required to comply with.

William B. Wilhelm is a partner in the firm of Swidler Berlin Shereff Friedman, LLP. For more information, please visit www.swidlaw.com. The preceding represents the views of the author only and does not necessarily represent the views of Swidler Berlin Shereff Friedman, LLP or its clients.

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