UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

SCHEDULE 14A

Proxy Statement Pursuant to Section 14(a) of the Securities
Exchange Act of 1934 (Amendment No.  )

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UNISOURCE ENERGY CORPORATION

(Name of Registrant as Specified In Its Charter)

 

(Name of Person(s) Filing Proxy Statement, if other than the Registrant)

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One South Church Avenue
Tucson, Arizona 85701

March 21, 2011

Paul J. Bonavia
Chairman of the Board		(520) 571-4000

Dear Shareholders:

You are cordially invited to attend the UniSource Energy Corporation 2011 Annual Shareholders’ Meeting (the “Meeting”) to be held on Friday, May 6, 2011, at the U of A Tech Park, 9070 South Rita Road, Building 9052, Tucson, Arizona. The Meeting will begin promptly at 10:00 a.m., Mountain Standard Time, so please plan to arrive earlier. No admission tickets will be required for attendance at the Meeting.

Directors and executive officers will be available before and after the Meeting to speak with you. During the Meeting, we will answer your questions regarding our business affairs, and we will consider the matters explained in the enclosed Proxy Statement.

We have enclosed a proxy card that lists all matters that require your vote. Please complete, sign, date and mail the proxy card as soon as possible, whether or not you plan to attend the Meeting. You may also vote by telephone or the Internet, as explained on the enclosed proxy card. If you attend the Meeting and wish to vote your shares personally, you may revoke your proxy at that time.

Please note that, pursuant to the New York Stock Exchange rules, brokers are not permitted to vote your shares on the election of directors or the proposals relating to executive compensation if you have not given your broker specific instructions as to how to vote. Please be sure to give specific voting instructions to your broker so that your vote can be counted.

Your interest in and continued support of UniSource Energy Corporation are much appreciated.

Sincerely,

UNISOURCE ENERGY CORPORATION

Paul J. Bonavia
Chairman of the Board, President and
Chief Executive Officer

NOTICE OF ANNUAL SHAREHOLDERS’ MEETING

To the Holders of Common Stock of
UniSource Energy Corporation:

We will hold the 2011 Annual Shareholders’ Meeting of UniSource Energy Corporation at U of A Tech Park, 9070 South Rita Road, Building 9052, Tucson, Arizona, on Friday, May 6, 2011, at 10:00 a.m., Mountain Standard Time (“MST”). The purpose of the Meeting is to:

	1.		elect 12 directors to UniSource Energy Corporation’s Board of Directors for the ensuing year;
	2.		ratify the selection of the Independent Registered Public Accounting Firm for 2011;
	3.		approve the UniSource Energy Corporation 2011 Omnibus Stock and Incentive Plan;
	4.		hold advisory vote on executive compensation;
	5.		hold advisory vote on frequency of advisory vote on executive compensation; and
	6.		consider any other matters which properly come before the Meeting.

Only shareholders of record at the close of business on March 14, 2011, are entitled to vote at the Meeting.

We have enclosed with this notice: (i) UniSource Energy Corporation’s 2010 annual report on Form 10-K; (ii) the Proxy Statement; (iii) the Chairman’s letter to shareholders; and (iv) a stock performance chart. Proxy soliciting material is first being made available in electronic form on or about March 25, 2011. Your proxy is being solicited by UniSource Energy Corporation’s Board of Directors.

Please complete, sign, date and mail the enclosed proxy card as soon as possible, or vote by telephone or the Internet, as explained on the enclosed proxy card.

Linda H. Kennedy
Corporate Secretary

Dated: March 21, 2011

YOUR VOTE IS IMPORTANT

EACH SHAREHOLDER IS URGED TO COMPLETE, SIGN, DATE AND RETURN PROMPTLY THE ENCLOSED PROXY CARD BY MAIL, OR TO VOTE BY TELEPHONE OR THE INTERNET, AS EXPLAINED ON THE ENCLOSED PROXY CARD. IF THE MAIL OPTION IS SELECTED, USE THE ENCLOSED ENVELOPE, WHICH DOES NOT REQUIRE POSTAGE IF MAILED IN THE UNITED STATES. RETURNING A SIGNED PROXY WILL NOT PROHIBIT YOU FROM ATTENDING THE MEETING AND VOTING IN PERSON IF YOU SO DESIRE.

UNISOURCE ENERGY CORPORATION
One South Church Avenue
Tucson, Arizona 85701

ANNUAL SHAREHOLDERS’ MEETING
PROXY STATEMENT

ANNUAL MEETING:

May 6, 2011
10:00 a.m., MST

U of A Tech Park
Building 9052
9070 South Rita Road
Tucson, AZ 85747

RECORD DATE:

The record date is March 14, 2011 (“Record Date”). If you were a shareholder of record at the close of business on the Record Date, you may vote at the 2011 Annual Shareholders’ Meeting (“Meeting”) of UniSource Energy Corporation (“UniSource Energy,” as well as references to the “Company,” “we,” “our” and “us”). At the close of business on the Record Date, UniSource Energy had 36,680,398 shares of common stock outstanding.

AGENDA:

1.		Proposal One:		Elect 12 directors to UniSource Energy’s Board of Directors (“Board”) for the ensuing year.
2.		Proposal Two:		Ratify the selection of the Independent Registered Public Accounting Firm for 2011.
3.		Proposal Three:		Approval of the UniSource Energy Corporation 2011 Omnibus Stock and Incentive Plan.
4.		Proposal Four:		Advisory vote on executive compensation.
5.		Proposal Five:		Advisory vote on frequency of advisory vote on executive compensation.

We will also consider any other matters which properly come before the Meeting and any adjournments.

INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM:

Representatives of PricewaterhouseCoopers, LLP, are expected to be present at the Meeting with the opportunity to make a statement and respond to appropriate questions from our shareholders.

PROXIES:

In accordance with rules and regulations adopted by the Securities and Exchange Commission (the “SEC”), UniSource Energy is furnishing proxy materials to its shareholders on the Internet. The Notice of Internet Availability of Proxy Materials you received by mail will instruct you as to how you may access and review all of the important information contained in the proxy materials. If you would like to receive a printed copy of the Company’s proxy materials, you should follow the instructions included in the Notice of Internet Availability of Proxy Materials.

It is anticipated that the Notice of Internet Availability of Proxy Materials is first being sent to shareholders on or about March 25, 2011. The proxy statement and the form of proxy relating to the Meeting are first being made available to shareholders on or about March 25, 2011.

PROXIES SOLICITED BY:

The Board.

REVOKING YOUR PROXY:

You may revoke your proxy before it is voted at the Meeting. To revoke, follow the procedures listed on page 4 under “Voting Procedures/Revoking Your Proxy.”

COMMENTS:

Your comments about any aspects of UniSource Energy’s business are welcome. You may use the space provided on the proxy card for this purpose, if desired. Although we may not respond on an individual basis, your comments help the Company to measure your satisfaction, and UniSource Energy may benefit from your suggestions.

PLEASE VOTE — YOUR VOTE IS IMPORTANT

Prompt return of your proxy will help reduce the costs of re-solicitation.

CONTENTS

VOTING PROCEDURES/REVOKING YOUR PROXY			4
UNISOURCE ENERGY SHARE OWNERSHIP			6
PROPOSAL ONE: ELECTION OF DIRECTORS*			9
PROPOSAL TWO: RATIFICATION OF SELECTION OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM*			12
PROPOSAL THREE: APPROVAL OF THE UNISOURCE ENERGY CORPORATION 2011 OMNIBUS STOCK AND INCENTIVE PLAN*			13
PROPOSAL FOUR: ADVISORY VOTE ON EXECUTIVE COMPENSATION*			24
PROPOSAL FIVE: ADVISORY VOTE ON FREQUENCY OF ADVISORY VOTE ON EXECUTIVE COMPENSATION*			24
COMPENSATION DISCUSSION AND ANALYSIS			26
COMPENSATION COMMITTEE REPORT ON EXECUTIVE COMPENSATION			41
MINIMIZING COMPENSATION RISK			42
SUMMARY COMPENSATION TABLE — 2010			43
GRANTS OF PLAN-BASED AWARDS — 2010			44
OUTSTANDING EQUITY AWARDS AT FISCAL YEAR-END — 2010			46
OPTION EXERCISES AND STOCK VESTED			48
PENSION BENEFITS			48
NON-QUALIFIED DEFERRED COMPENSATION			50
POTENTIAL PAYMENTS UPON TERMINATION OR CHANGE IN CONTROL			51
DIRECTOR COMPENSATION			55
CORPORATE GOVERNANCE			57
DIRECTOR INDEPENDENCE STANDARDS			57
TRANSACTIONS WITH RELATED PERSONS			61
AUDIT COMMITTEE REPORT			62
SUBMISSION OF SHAREHOLDER PROPOSALS			64
DELIVERY OF PROXY MATERIALS TO HOUSEHOLDS			64
OTHER BUSINESS			65

VOTING PROCEDURES/REVOKING YOUR PROXY

You can vote by telephone, the Internet, mail or in person.

You may vote in person or by a validly designated proxy, or, if you or your proxy will not be attending the Meeting, you may vote in one of three ways:

	1.		Vote by Internet. The website address for Internet voting is on your Notice of Internet Availability of Proxy Materials. Internet voting is available 24 hours a day;
	2.		Vote by telephone. The toll-free number for telephone voting is on your proxy card. Telephone voting is available 24 hours a day; or
	3.		Vote by mail. If you have requested and received a copy of UniSource Energy’s proxy materials, mark, date, sign and mail promptly a proxy card. A postage-paid envelope will be provided for mailing in the United States.

If you vote by telephone or Internet, DO NOT mail a proxy card.

Under Arizona law, a majority of the shares entitled to vote on any single matter that may be brought before the Meeting will constitute a quorum. Business may be conducted once a quorum is represented at the Meeting. If a quorum exists, action on a matter other than the election of directors will be deemed approved if the votes cast in favor of the matter exceed the votes cast against the matter.

If you hold shares through an account with a bank or broker, the bank or broker may vote your shares on some matters considered routine, even if you do not provide voting instructions. Brokerage firms have the authority under the New York Stock Exchange rules to vote shares on routine matters when their customers do not provide voting instructions. However, on other matters, when the brokerage firm has not received voting instructions from its customers, the brokerage firm cannot vote the shares on that matter and a “broker non-vote” occurs. Please note that under the New York Stock Exchange rules an uncontested election of directors and matters concerning executive compensation are not considered routine matters. This means that brokers are not permitted to vote your shares on the election of directors or the proposals relating to executive compensation if you have not given your broker specific instructions on how to vote. Please be sure to give specific voting instructions to your broker so that your vote can be counted.

Directors are elected by a plurality of votes.

Directors are elected by a plurality of the votes cast by the shares entitled to vote if a quorum is present. A plurality means receiving the largest number of votes, regardless of whether that is a majority. Withheld votes and broker non-votes will be counted as being represented at the Meeting for quorum purposes but will not have an effect on the vote.

You may cumulate your votes for directors.

In the election of directors, each shareholder has the right to cumulate his votes by casting a total number of votes equal to the number of his shares of common stock multiplied by the number of directors to be elected. He may cast all of such votes for one nominee or distribute such votes among two or more nominees. For any other matter that may properly come before the Meeting, each share of common stock will be entitled to one vote.

You can revoke your proxy after sending it in by following these procedures.

Any shareholder giving a proxy has a right to revoke that proxy by giving notice to UniSource Energy in writing directed to the Corporate Secretary, UniSource Energy Corporation, One South Church Avenue, Suite 1820, Tucson, Arizona 85701, or in person at the Meeting at any time before the proxy is exercised. Those who fail to return a proxy or fail to attend the Meeting will not count towards determining any required plurality, majority or quorum.

The shares represented by an executed proxy will be voted for the election of directors or withheld in accordance with the specifications in the proxy. If no specification is made in an executed proxy, the proxy will be voted in favor of the nominees as set forth herein.

Proxy Solicitation

The Company will bear the entire cost of the solicitation of proxies. Solicitations will be made primarily by mail. In addition, the Company may make additional solicitation of brokers, banks, nominees and institutional investors pursuant to a special engagement of Mellon Investor Services, LLC, at a cost of approximately $11,000, plus reasonable out-of-pocket expenses. Solicitations may also be made by telephone, facsimile or personal interview, if necessary, to obtain reasonable representation of shareholders at the Meeting. UniSource Energy’s employees may solicit proxies but they will not receive additional compensation for such services. UniSource Energy will request brokers or other persons holding shares in their names, or in the names of their nominees, to forward proxy materials to the beneficial owners of such shares or request authority for the execution of the proxies. The Company will reimburse brokers and other persons for reasonable expenses they incur in sending these proxy materials to you if you are a beneficial holder of UniSource Energy’s shares.

UNISOURCE ENERGY SHARE OWNERSHIP

Security Ownership of Management

The following table sets forth the number and percentage of shares of UniSource Energy common stock beneficially owned as of March 1, 2011, and the nature of such ownership by each of the Company’s directors, Chief Executive Officer (“CEO” or “Mr. Bonavia”), Chief Financial Officer (“CFO”), and the three other most highly compensated executive officers (together with the CEO and CFO, the “Named Executives”) as of March 1, 2011, and all directors and executive officers as a group. Ownership includes direct and indirect (beneficial) ownership, as defined by the SEC rules.

		Amount and Nature of Beneficial Ownership(1)																				Other(2)
										Shares Subject
Name and						Shares				to Options																Deferred Shares
Title of		Directly				Purchased				Exercisable				Total								Restricted				Under Deferred
Beneficial		Owned				Under the				Within 60				Beneficial				Percent of				Stock Units				Compensation
Owner		Shares				401(k) Plan				Days				Ownership				Class				(3)				Plan				Total
Paul J. Bonavia			13,500				0				39,960				53,460				*				0				337				53,797
Chairman, President and Chief Executive Officer
Lawrence J. Aldrich			3,912				0				0				3,912				*				9,126				0				13,038
Director
Barbara M. Baumann			2,000				0				0				2,000				*				7,506				12,519				22,025
Director
Larry W. Bickle			12,384				0				4,358				16,742				*				8,112				0				24,854
Director
Harold W. Burlingame			7,875				0				4,358				12,233				*				10,455				0				22,688
Director (4)
Robert A. Elliott			2,872				0				1,196				4,068				*				7,928				0				11,996
Director
Daniel W. L. Fessler			2,511				0				2,358				4,869				*				13,051				0				17,920
Director
Louise L. Francesconi			3,000				0				0				3,000				*				3,256				0				6,256
Director
Warren Y. Jobe			7,671				0				0				7,671				*				10,050				0				17,721
Director
Ramiro G. Peru			4,000				0				0				4,000				*				4,988				0				8,988
Director
Gregory A. Pivirotto			8,500				0				0				8,500				*				4,988				0				13,488
Director
Joaquin Ruiz			300				0				0				300				*				7,507				0				7,807
Director
Kevin P. Larson			52,253				2,848				119,533				174,634				*				0				1,700				176,334
Senior Vice President, Chief Financial Officer and Treasurer
Raymond S. Heyman			18,432				5,965				94,533				118,930				*				0				94				119,024
Senior Vice President and General Counsel
Michael J. DeConcini			23,041				5,993				136,917				165,951				*				29,750				1,333				197,034
Senior Vice President, Operations
Karen G. Kissinger			49,021				0				74,610				123,631				*				0				2,169				125,800
Vice President, Controller and Chief Compliance Officer
All directors and			237,383				49,379				656,438				943,200				2.7	%			116,717				21,411				1,081,328
executive officers (including the Named Executives) as a group

(1)

Amounts include the following:

	•		Any shares held in the name of the spouse, minor children or other relatives sharing the home of the director or executive officer. Except as otherwise indicated below, the directors and executive officers have sole voting and investment power over the shares shown. Voting power includes the power to direct the voting of the shares held, and investment power includes the power to direct the disposition of the shares held.
	•		Shares subject to options exercisable within 60 days, based on information from E*Trade, UniSource Energy’s stock option plan administrator.
	•		Equivalent share amounts allocated to the individuals’ 401(k) Plan, which has a UniSource Energy Stock Fund investment option.

(2)

While amounts in the “Other” column do not represent a right of the holder to receive stock within 60 days, those interests are also disclosed because management believes they accomplish similar objectives in that they also 1) encourage directors and executive officers to have a stake in the Company, and 2) align interests of directors and executive officers with those of shareholders. Under UniSource Energy’s non-employee director compensation program, non-employee directors receive an annual grant of restricted stock units that have an underlying value equal to one share of UniSource Energy common stock. The value of the restricted stock units fluctuates based on changes in the Company’s stock price. All restricted stock unit grants to directors vest at the earlier of the next annual meeting following the grant date or the first anniversary of grant. The vested restricted stock units are distributed in actual shares of Company stock in January following termination of Board service. Similarly, the value of deferred stock units fluctuates based on changes in the Company’s stock price. Under the terms of the deferred compensation plan, distributions of deferred shares will be made in cash, unless the participant elects to receive the deferred shares in Company stock on dates selected by the director or the executive officer following termination of service. In UniSource Energy’s view, restricted stock units and deferred stock units are tantamount to actual stock ownership as the non-employee director and executive officer (in the case of deferred stock units) bear the risk of ownership during the restricted and deferral periods.

(3)

As of December 31, 2010, each of the outside directors held an additional 1,420 unvested share units, which are not included in these amounts.

(4)

The amount of shares directly owned by Mr. Burlingame includes 2,645 shares pledged as security.

Security Ownership of Certain Beneficial Owners

As of March 14, 2011, based on information reported in filings made by the following persons with the SEC or information otherwise known to UniSource Energy, the following persons were known or reasonably believed to be, as more fully described below, the beneficial owners of more than 5% of UniSource Energy common stock:

				Amount and
		Name and Address		Nature of		Percent
Title of Class		of Beneficial Owner		Beneficial Ownership		of Class
Common		Black Rock, Inc.		4,643,365	(1)	12.8	%
		40 East 52nd Street
		New York, NY 10022
Common		Wellington Management Co., LLP		2,624,166	(2)	7.2	%
		280 Congress Street
		Boston, MA 02210
Common		Vanguard Group, Inc.		2,115,787	(3)	5.8	%
		100 Vanguard Blvd.
		Malvern, PA 19355
Common		LSV Asset Management		1,937,671	(4)	5.3	%
		155 N. Wacker Drive, Suite 4600
		Chicago, IL 60606
Common		T. Rowe Price Associates, Inc.		1,877,167	(5)	5.1	%
		100 E. Pratt Street
		Baltimore, MD 21202

Section 16(a) Beneficial Ownership Reporting Compliance

Section 16(a) of the Securities Exchange Act of 1934, as amended, and regulations of the SEC require the Company’s executive officers, directors and persons who beneficially own more than 10% of UniSource Energy common stock, as well as certain affiliates of those persons, to file initial reports of ownership and transaction reports covering any changes in ownership with the SEC and the New York Stock Exchange (“NYSE”). SEC regulations require these persons to furnish the Company with copies of all reports they file pursuant to Section 16(a).

Based solely upon a review of the copies of the reports received by UniSource Energy and on written representations of its directors and executive officers, the Company believes that during fiscal year 2010, all filing requirements applicable to executive officers and directors were complied with in a timely manner except as described below.

A Form 4 reporting the purchase of shares of stock on March 2, 2010 by Mr. Bonavia, the Company’s CEO, was filed late.

PROPOSAL ONE: ELECTION OF DIRECTORS

General Information

At the Meeting, UniSource Energy’s shareholders of record will elect 12 directors to serve on the Board for the ensuing year and until their successors are elected and qualified. The shares represented by executed proxies in the form provided, unless withheld, will be voted for the 12 nominees listed below or, in the discretion of the persons acting as proxies, will be voted cumulatively for one or more of such nominees. All of the current nominees are present members of the Board. All of the nominees have consented to serve if elected. If any nominee becomes unavailable to serve for any reason, or a vacancy should occur before the election, it is the intention of the persons designated as proxies to vote, in their discretion, for other nominees.

BOARD NOMINEES

Directors — UniSource Energy

						Board				Director
Name		Age				Committee*				Since
Paul J. Bonavia			59				None				2009
Lawrence J. Aldrich			58				2,3,5				2000
Barbara M. Baumann			55				1,2,4				2005
Larry W. Bickle			65				3,4,5				1998
Harold W. Burlingame			70				2,3,5				1998
Robert A. Elliott			55				1,2,3,4,5				2003
Daniel W.L. Fessler			69				1,3,5				2005
Louise L. Francesconi			58				1,2,4				2008
Warren Y. Jobe			70				1,2,4				2001
Ramiro G. Peru			55				1,2,4				2008
Gregory A. Pivirotto			58				1,3,4				2008
Joaquin Ruiz			58				2,3,5				2005

(1) Audit

(2) Compensation

(3) Corporate Governance and Nominating

(4) Finance

(5) Environmental, Safety and Security

Paul J. Bonavia		Mr. Bonavia became Chairman, President and Chief Executive Officer of UniSource Energy and TEP in January 2009. Prior to joining UniSource Energy and TEP, Mr. Bonavia served as President of the Utilities Group of Xcel Energy. Mr. Bonavia previously served as President of Xcel Energy’s Commercial Enterprises business unit and President of Xcel Energy’s Energy Markets unit.
		Mr. Bonavia’s extensive experience in both the electric and gas utility businesses and his position as Chief Executive Officer of the Company provide him with intimate knowledge of the Company’s operations and contribute to the diverse knowledge, skills and qualifications of the Board.
Lawrence J. Aldrich		President and Chief Executive Officer of University Physicians Healthcare from 2009-2010. President of Aldrich Capital Company since January 2007; Chief Operating Officer of The Critical Path Institute from 2005-2007; General Partner of Valley Ventures, LP from September 2002 to December 2005; Managing Director and Founder of Tucson Ventures, LLC, from February 2000 to September 2002.
		Mr. Aldrich’s extensive experience in the areas of accounting, public relations/advertising, finance, legal, human resources, marketing, engineering, operations, audit, government/regulatory, banking, information technology and insurance/health care, and his significant community involvement in Arizona and Tucson contribute to the diverse knowledge, skills and qualifications of the Board.
Barbara M. Baumann		President and Owner of Cross Creek Energy Corporation since 2003; Executive Vice President of Associated Energy Managers, LLC from 2000 to 2003; former Vice President of Amoco Production Company; Director of SM Energy Company since 2002; member of the Board of Trustees of the Putnam Mutual Funds since 2010.
		Ms. Baumann’s extensive experience in the areas of accounting, finance, legal, human resources, engineering, operations, audit, government/regulatory, corporate tax, information technology, insurance/healthcare and gas operations contributes to the diverse knowledge, skills and qualifications of the Board.
Larry W. Bickle		Director of SM Energy Company since 1994; Retired private equity investor; Managing Director of Haddington Ventures, LLC from 1997 to 2007. Non-executive Chairman of Quantum Natural Gas Strategies, LLC since 2008.
		Mr. Bickle’s extensive experience in the areas of accounting, finance, legal, human resources, marketing, engineering, operations, audit, government/regulatory, information technology and gas operations contributes to the diverse knowledge, skills and qualifications of the Board.
Harold W. Burlingame		Executive Vice President of AT&T from 1986-2001; Senior Executive Advisor for ATT Wireless from 2001-2005; Chairman of ORC Worldwide from 2004-2010; President of IRC Foundation since December 2010; Director of Cornerstone On Demand since 2006.
		Mr. Burlingame’s extensive experience in the areas of public relations/advertising, finance, human resources/benefits, marketing, operations, government/regulatory, information technology and insurance/health care contributes to the diverse knowledge, skills and qualifications of the Board.
Robert A. Elliott		President and owner of The Elliott Accounting Group since 1983; Director and Corporate Secretary of Southern Arizona Community Bank from 1998-2010; Television Analyst/Pre-game Show Co-host for Fox Sports Arizona from 1998-2009; Chairman of the Board of Tucson Metropolitan Chamber of Commerce from 2002 to 2003; Chairman of the Board of Tucson Urban League from 2003 to 2004; Chairman of the Board of the Tucson Airport Authority from January 2006 to January 2007; Director of AAA since 2007; President and Chairman of the Board of the NBA Retired Players Association since 2011; and Director of the University of Arizona Foundation.

		Mr. Elliott’s extensive experience in the areas of accounting, audit, banking and corporate tax, and his significant community involvement in Arizona and Tucson contribute to the diverse knowledge, skills and qualifications of the Board.
Daniel W.L. Fessler		President of the California Public Utility Commission from 1991-1996; Professor Emeritus of the University of California since 1994; Of counsel for the law firm of Holland & Knight from 2003-2007; Partner in the law firm of LeBoeuf, Lamb, Greene & MacRae LLP from 1997 to 2003; previously served on the UniSource Energy and TEP boards of directors from 1998 to 2003; Managing Principal of Clear Energy Solutions, LLC since December 2004.
		Mr. Fessler’s extensive experience as a former member of the California Public Utility Commission and in the areas of public relations/advertising, legal, marketing and government/regulatory contribute to the diverse knowledge, skills and qualifications of the Board.
Louise L. Francesconi		President of Raytheon Missile Systems from 1997 to 2008; Director of Stryker Corporation since July 2006; Chairman of the Board of Trustees for TMC Healthcare; Director of Global Solar Energy, Inc. since 2008.
		Ms. Francesconi’s extensive experience in the areas of accounting, public relations/advertising, finance, legal, human resources/benefits, marketing, engineering, operations, audit, government/regulatory, information technology and insurance/healthcare, and her significant community involvement in Arizona and Tucson contribute to the diverse knowledge, skills and qualifications of the Board.
Warren Y. Jobe		Certified Public Accountant (licensed, but not practicing); Senior Vice President of Southern Company from 1998 to 2001; Executive Vice President and Chief Financial Officer of Georgia Power Company from 1987-1998; Director of WellPoint Health Networks, Inc. from 2003 to December 2004; Director of WellPoint, Inc. since December 2004; Trustee of RidgeWorth Funds since 2004; Director of Home Banc Corp. from 2005-2009.
		Mr. Jobe’s extensive experience as a utility company executive and in the areas of accounting, finance, audit, government/regulatory, corporate tax, insurance/health care and information technology contribute to the diverse knowledge, skills and qualifications of the Board.
Ramiro G. Peru		Executive Vice President and Chief Financial Officer of Swift Corporation from June 2007 to December 2007; Executive Vice President and Chief Financial Officer of Phelps Dodge Corporation from October 2004 to March 2007; Senior Vice President and Chief Financial Officer of Phelps Dodge Corporation from May 1999 to September 2004; Director of WellPoint Health Networks, Inc. from 2003 to December 2004; Director of WellPoint, Inc. since December 2004; Director of Southern Peru Copper Corporation from 2002 to 2004.
		Mr. Peru’s extensive experience in the areas of accounting, corporate communications, finance, legal, human resources/benefits, audit, government/ regulatory, corporate tax, information technology, insurance/health care and environmental contributes to the diverse knowledge, skills and qualifications of the Board.

Gregory A. Pivirotto		President and Chief Executive Officer and Director of University Medical Center Corporation from 1994-2010; Certified Public Accountant since 1978; Director of Arizona Hospital & Healthcare Association from 1997 to 2005. Director of Tucson Airport Authority since 2008; Member of the Advisory Board of Harris Bank since 2010.
		Mr. Pivirotto’s extensive experience in the areas of accounting, public relations/advertising, finance, legal, human resources/benefits; marketing, operations, audit, government/regulatory, banking, corporate tax, information technology and insurance/healthcare, and his significant community involvement in Arizona and Tucson contribute to the diverse knowledge, skills and qualifications of the Board.
Joaquin Ruiz		Professor of Geosciences, University of Arizona since 1983; Dean, College of Science, University of Arizona since 2000; Executive Dean of the University of Arizona College of Letters, Arts and Science since 2009.
		Mr. Ruiz’s extensive experience in the areas of public relations/advertising, human resources/benefits, operations, government/regulatory, information technology, renewable energy and environmental, and his significant community involvement in Arizona and Tucson contribute to the diverse knowledge, skills and qualifications of the Board.

The Board recommends that you vote “FOR” these nominees.

PROPOSAL TWO: RATIFICATION OF SELECTION OF INDEPENDENT REGISTERED PUBLIC
ACCOUNTING FIRM

The Audit Committee has selected PricewaterhouseCoopers, LLP (“PwC”) as the Company’s Independent Registered Public Accounting Firm for the fiscal year 2011, and the Board is asking the shareholders to ratify that selection. Although current law, rules, and regulations, as well as the charter of the Audit Committee, require the Audit Committee to engage, retain, and supervise the Company’s Independent Registered Public Accounting Firm, the Board considers the selection of the Independent Registered Public Accounting Firm to be an important matter of shareholder concern and, as a matter of good corporate practice, is therefore submitting the selection of PwC for ratification by shareholders.

Under Arizona law, if a quorum of shareholders is present at the Meeting, the ratification of the selection of PwC as Independent Registered Public Accounting Firm for 2011 will require that the votes cast in favor of its ratification exceed the votes cast against its ratification. Abstentions and broker non-votes are counted for purposes of determining whether a quorum exists at the Meeting but are not counted and have no effect on the results of the vote for Independent Registered Public Accounting Firm.

The Board recommends that you vote “FOR” the ratification of the selection of the
Independent Registered Public Accounting Firm.

PROPOSAL THREE: APPROVAL OF UNISOURCE ENERGY CORPORATION
2011 OMNIBUS STOCK AND INCENTIVE PLAN

General

Subject to shareholder approval, on March 17, 2011 (the “Effective Date”), the Board, upon the recommendation of the Compensation Committee, adopted the UniSource Energy Corporation 2011 Omnibus Stock and Incentive Plan (the “2011 Omnibus Plan”). The Board believes that the 2011 Omnibus Plan will promote the growth and prosperity of the Company by giving participants an interest in the Company and by encouraging those individuals to continue their services with the Company or its subsidiaries.

The 2011 Omnibus Plan is designed to supersede and replace the UniSource Energy Corporation 2006 Omnibus Stock and Incentive Plan (the “2006 Omnibus Plan”) and all other prior equity compensation plans or programs maintained by the Company (collectively the “Prior Plans”), provided that the Prior Plans shall remain in effect until all stock options and other awards granted pursuant to the Prior Plans have been exercised, forfeited, canceled, expired or otherwise terminated in accordance with the terms of such awards. No awards will be granted under any Prior Plans after the Effective Date.

The 2011 Omnibus Plan provides for the grant of incentive stock options, nonqualified stock options, stock appreciation rights (“SARs”), restricted stock, restricted stock unit, stock grant, stock unit, dividend equivalent, performance unit, performance share and performance cash awards. The 2011 Omnibus Plan also provides the framework pursuant to which the Company may grant awards that are intended to qualify for the “performance-based compensation” exception to the $1,000,000 limitation on the deduction of compensation imposed by Section 162(m) of the Internal Revenue Code of 1986, as amended (the “Code”).

In preparing the 2011 Omnibus Plan, the Company has taken into consideration current “best practices” with respect to equity-based and incentive compensation plans. The following features of the 2011 Omnibus Plan are consistent with these “best practices”:

	•		Limitation on Repricing. The 2011 Omnibus Plan prohibits the direct and indirect repricing of previously granted options and SARs without prior shareholder approval.
	•		No Discounted Options or SARs. The 2011 Omnibus Plan includes an express requirement that all options and SARs be issued with an exercise price that is not less than the fair market value of a share of Company stock on the grant date.
	•		No Payment of Dividends or Dividend Equivalents for Awards that Vest Based on Performance Goals until Performance Goals are Achieved. The 2011 Omnibus Plan precludes the payment of dividends or dividend equivalents for any restricted stock or restricted stock unit award that vests based on the attainment of performance goals or for any performance unit or performance share award until the participant attains the applicable performance goals.
	•		Minimum Vesting Schedule for Full Value Awards. The 2011 Omnibus Plan imposes a minimum vesting schedule on all full value awards such as restricted stock, restricted stock units, performance units and performance shares, other than stock grants and stock units. Restricted stock and restricted stock unit awards that are subject to time-based vesting must have a vesting period of at least three years, while those that are subject to performance-based vesting must have a vesting period of at least one year. Performance units and performance share awards are subject to a minimum vesting period of at least one year except, at the Compensation Committee’s discretion, in the event employment is terminated due to death, disability, retirement or change in control. Full value awards may vest in increments during the applicable three-year or one-year vesting period. There are limited exceptions to the minimum vesting periods for restricted stock and restricted stock unit awards described in Section 8.2 of the 2011 Omnibus Plan, which is attached to this Proxy Statement as Appendix A.

	•		Minimum Vesting Schedule for Options and SARs. The 2011 Omnibus Plan imposes a new minimum vesting schedule on options and SARs. No option or SAR award may fully vest and become exercisable prior to the third anniversary of the date of grant, except (in the Compensation Committee’s discretion) in the case of death, disability or change in control or in the case of any replacement awards. Options and SARs may vest in increments at the end of each year of the three-year vesting period.
	•		Double Trigger Change in Control Vesting. The 2011 Omnibus Plan provides for vesting of equity awards in the event of a change in control only if a participant also incurs a qualifying termination of employment during a 24-month protection period following the change in control.
	•		Forfeiture and Recapture of Awards. The award agreement for any award granted pursuant to the 2011 Omnibus Plan may provide for the forfeiture and recapture of all or any portion of the award in the event of certain accounting restatements.

A summary of the material terms of the 2011 Omnibus Plan is set forth below. The summary is qualified by reference to the full text of the 2011 Omnibus Plan, which is attached to this Proxy Statement as Appendix A.

Summary of Plan Features

Purpose. As mentioned above, the Board believes that the 2011 Omnibus Plan will promote the growth and prosperity of the Company by giving participants an interest in the Company and by encouraging those individuals to continue their services with the Company or its subsidiaries.

Administration. The 2011 Omnibus Plan will be administered by the Compensation Committee. The Compensation Committee shall consist of not less than two directors who are “non-employee directors” as defined in Rule 16b-3 of the Securities Exchange Act of 1934, as amended (“Exchange Act”); “outside directors” as defined in Section 162(m) of the Code and the regulations issued thereunder; and “independent directors” as described in the NYSE’s Listed Company Manual. Unless it decides to delegate some or all of its responsibilities to the Compensation Committee, the Board will serve as the Compensation Committee for the purpose of granting awards to non-employee directors.

The Compensation Committee is authorized to interpret the 2011 Omnibus Plan and any award agreement issued under the 2011 Omnibus Plan; to prescribe, amend, and rescind rules and regulations relating to the 2011 Omnibus Plan; to provide for conditions and assurances deemed necessary or advisable to protect the interests of the Company; and to make all other determinations necessary or advisable for the administration of the 2011 Omnibus Plan, but only to the extent not contrary to the express provisions of the 2011 Omnibus Plan.

The Compensation Committee has the authority, subject to the express provisions of the 2011 Omnibus Plan, in its discretion, (a) to determine the participants to whom awards shall be granted; (b) to determine the times when such awards shall be granted, the size and type of awards, the purchase price or exercise price of awards, the period(s) during which such awards shall be exercisable (whether in whole or in part), and any other terms, restrictions and conditions applicable to awards (which need not be identical); and (c) to amend or modify any outstanding awards under the 2011 Omnibus Plan to the extent the terms of the award are within the discretion of the Compensation Committee as provided under the 2011 Omnibus Plan. As permitted by law and the rules of the New York Stock Exchange or any other established securities market on which the stock is traded, the Compensation Committee may delegate any authority granted to it pursuant to the 2011 Omnibus Plan; provided, however, that the Compensation Committee may not delegate to the Company’s executive officers the power and authority to make, cancel, or suspend awards to executive officers or directors.

Stock Subject to the 2011 Omnibus Plan. The aggregate number of shares of stock reserved and available for grant pursuant to the 2011 Omnibus Plan is 1,200,000. This share award pool shall be reduced by one share for each share that is subject to awards granted under any Prior Plans on or after January 1, 2011. No awards shall be granted under any Prior Plans on or after the Effective Date. The amount of stock reserved for grants pursuant to the 2011 Omnibus Plan is subject to adjustment in the event of certain changes in capital structure as described below under “Adjustment Provisions.”

If any award granted under the 2011 Omnibus Plan or outstanding under any Prior Plan after December 31, 2010, is forfeited or canceled, terminates, expires, or lapses for any reason, any stock subject to or surrendered for the award will again be stock available for the grant of an award under the 2011 Omnibus Plan. In addition, if shares of stock are not delivered pursuant to a restricted stock unit, stock unit, dividend equivalent or performance unit award or a SAR award that is not related to an option, because the award is paid in cash, the shares will not be deemed to have been delivered for purposes of determining the maximum number of shares available for delivery under the 2011 Omnibus Plan. The exercise of a stock-settled SAR or broker-assisted “cashless” exercise of an option (or a portion thereof) will reduce the number of shares of stock available for issuance pursuant to the 2011 Omnibus Plan by the entire number of shares of stock subject to that SAR or option (or applicable portion thereof), even though a smaller number of shares of stock will be issued upon such an exercise. Also, shares of stock tendered to pay the exercise price of an option or tendered or withheld to satisfy a tax withholding obligation arising in connection with an award will not become available for grant or sale under the 2011 Omnibus Plan. Shares of stock purchased on the open market with the cash proceeds generated by the exercise of an option will not increase or replenish the number of shares of stock available for issuance under the 2011 Omnibus Plan. See the discussion under “Replacement Awards” below for the effect of corporate transactions on shares available for issuance under the 2011 Omnibus Plan.

Limitation of Awards to Participants. The maximum number of shares of stock that may be issued as incentive stock options under the 2011 Omnibus Plan shall be 1,200,000. No participant shall be granted options or SARs in any 12-month period covering more than 600,000 shares. No participant shall be eligible to earn a performance-based compensation award that is payable in stock for any 12-month performance period with a potential value in excess of 150,000 shares of stock. No participant shall be eligible to earn a performance unit and/or performance cash award for any 12-month performance period with a potential value in excess of $2,000,000. If a performance period is less than or exceeds 12 months, the limitations described in the preceding sentences will be reduced or increased proportionately, as the case may be. The Company intends to grant performance cash awards to “covered employees” (as defined under Section 162(m) of the Code) pursuant to the 2011 Omnibus Plan in the form of annual short-term incentive awards payable in cash. The annual short-term awards will be subject to the limits described above to ensure that such awards qualify for the “performance-based compensation” exception to the deduction limitation imposed under Section 162(m).

Eligibility. All employees, officers, non-employee directors of, and consultants to, the Company or an affiliate are eligible to participate in the 2011 Omnibus Plan. As mentioned above, the Compensation Committee has the authority to determine the participants to whom awards shall be granted pursuant to the 2011 Omnibus Plan.

Awards Available Under the 2011 Omnibus Plan. The following types of awards may be granted pursuant to the 2011 Omnibus Plan: incentive stock options, nonqualified stock options, SARs, restricted stock, restricted stock units, stock grants, stock units, dividend equivalents, performance units, performance shares and performance cash. As of the time of the finalization of this Proxy Statement, no determination has been made as to the types or amounts of awards that will be granted to specific individuals under the 2011 Omnibus Plan.

Stock Options. The Compensation Committee may grant, among other things, incentive stock options and nonqualified stock options under the 2011 Omnibus Plan. Incentive stock options will be granted only to participants who are employees. The exercise price of all options granted under the 2011 Omnibus Plan will be at least 100% of the fair market value of the common stock on the grant date. Options may be exercised as determined by the Compensation Committee; provided, however, that no option shall be fully vested prior to the third anniversary of the grant date, except (in the Compensation Committee’s discretion) in the case of death, disability or change in control or in any replacement award (as described below under “Replacement Awards”). An incremental portion of an option may become vested and exercisable at the end of each year of the three-year vesting period, as described in the award agreement. No option may be exercised more than ten years from the grant date. The Compensation Committee will determine the methods by which the exercise price of an option may be paid, the form of payment, including, without limitation, cash, shares of stock, any net-issuance arrangement or other property acceptable to the Compensation Committee (including broker-assisted “cashless exercise” arrangements), and the methods by which shares of stock will be delivered or deemed delivered to participants. Special rules will apply to incentive stock options as provided in the 2011 Omnibus Plan. The Compensation Committee shall set forth in the applicable award agreement the extent to which a participant shall have the right to exercise an option following a termination of employment or termination of service. A participant will have no rights as a shareholder with respect to options until the shares of stock are actually issued in connection with the award.

Stock Appreciation Rights. The Compensation Committee also may grant SARs under the 2011 Omnibus Plan. A SAR gives the participant the right to share in the appreciation in value of one share of common stock. Appreciation is calculated as the excess, if any, of (i) the fair market value of a share of common stock on the date of exercise over (ii) the price fixed by the Compensation Committee on the grant date, which may not be less than the fair market value of a share of common stock on the grant date (or, in the case of a SAR granted in tandem with an option, the exercise price of the related option). The SARs granted pursuant to the 2011 Omnibus Plan may be tandem SARs, which are SARs granted at the same time as options and that may be exercised by a participant as an alternative to the options, or non-tandem SARs, which are SARs that are not granted at the same time as options. SARs may be exercised as determined by the Compensation Committee; provided, however, that no SAR shall vest prior to the third anniversary of the grant date, except (in the Compensation Committee’s discretion) in the case of death, disability or change in control or in any replacement award (as described below under “Replacement Awards”). An incremental portion of the SAR may become vested and exercisable at the end of each year of the three-year vesting period as described in the award agreement. No SAR may be exercised more than ten years following the grant date (SARs granted in tandem with an option shall have the same term as the related option). Additional restrictions apply to SARs issued in tandem with options. Payment for SARs shall be made in cash or stock, or deferred cash or stock, or any combination thereof. The Compensation Committee shall set forth in the applicable award agreement the extent to which a participant shall have the right to exercise a SAR following a termination of employment or termination of service.

Restricted Stock. The Compensation Committee also may grant restricted stock under the 2011 Omnibus Plan. A restricted stock award gives the participant the right to receive a specified number of shares of common stock at a purchase price determined by the Compensation Committee (including and typically zero). Restrictions limit the participant’s ability to transfer the stock and subject the stock to a substantial risk of forfeiture until specific conditions or goals are met. As a general rule, the period of restriction for any restricted stock award with respect to which restrictions lapse solely based on the passage of time shall not be less than three years. The period of restriction for any restricted stock award with respect to which restrictions lapse based solely on the satisfaction of performance criteria generally shall not be less than one year. In addition, restricted stock awards granted to any newly hired employee to replace a forfeited award granted by a former employer must have a one-year period of restriction, while restricted stock awards granted to directors will have a period of restriction determined by the Compensation Committee. The Compensation Committee shall set forth in the applicable award agreement the extent to which a participant shall have the right to retain restricted stock following a termination of employment or termination of service. Except as otherwise provided in an award agreement, participants holding shares of restricted stock may exercise full voting rights with respect to those shares during the period of restriction and will be credited with regular cash dividends on the underlying shares during the period of restriction. Dividends will not be paid for any restricted stock award that vests based on the achievement of performance goals until the award is earned by the achievement of the applicable performance goals.

Restricted Stock Units. The Compensation Committee also may grant restricted stock unit awards under the 2011 Omnibus Plan. A restricted stock unit award gives the participant the right to receive cash or stock, or deferred cash or stock, or any combination thereof (as determined by the Compensation Committee), equal to the fair market value of the common stock (determined as of a specified date) in the future, subject to certain restrictions and to the risk of forfeiture. Restricted stock units are subject to the same minimum periods of restriction as restricted stock, as described above. The Compensation Committee shall set forth in the applicable award agreement the extent to which a participant shall have the right to retain restricted stock units (and any related dividend equivalents) following a termination of employment or termination of service. Participants holding restricted stock units have no voting rights with respect to the shares of stock subject to their restricted stock unit awards prior to the issuance of such shares pursuant to the awards.

Stock Grant Awards. The Compensation Committee may grant stock awards under the 2011 Omnibus Plan. A stock grant award gives the participant the right to receive, or the right to purchase at a predetermined price, shares of common stock free from vesting restrictions. The purchase price, if any, for any stock grant award may be paid in cash or any other form of consideration acceptable to the Compensation Committee. A stock grant award may be granted or sold as consideration for past services, other consideration or in lieu of cash compensation due to any participant.

Stock Unit Awards. The Compensation Committee may grant stock unit awards under the 2011 Omnibus Plan. A stock unit award gives the participant the right to receive shares of stock, or a cash payment equal to the fair market value of a designated number of shares of stock, free from vesting restrictions. A stock unit award may be granted or sold as consideration for past services, other consideration or in lieu of cash compensation due to any participant.

Dividend Equivalents. The Compensation Committee may grant dividend equivalents under the 2011 Omnibus Plan. A dividend equivalent award gives a participant who has received a restricted stock unit, stock unit, performance unit or performance share award the right to receive a payment equal in value to the dividends paid on the shares of stock subject to the award during the time period between the grant date for the award and the date on which the award is exercised, vests or expires, as determined by the Compensation Committee. A dividend equivalent award made with respect to a restricted stock unit award that vests based on the attainment of performance goals or a performance unit or performance share award may not be paid unless and until the award is earned by satisfaction of the applicable performance goals. Dividend equivalents are payable in cash or stock, as determined by the Compensation Committee or by a participant, if the Compensation Committee permits the participant to elect the form of payment of the award. Dividend equivalents will not be granted with respect to options or SARs.

Performance Units. The Compensation Committee also may grant performance units under the 2011 Omnibus Plan. A performance unit award gives the participant the right to receive cash or stock, or deferred cash or stock, or any combination thereof, contingent on achievement of certain performance goals specified by the Compensation Committee during a performance period specified by the Compensation Committee. The performance period for a performance unit shall not be less than one year. The Compensation Committee, in its discretion, may provide for vesting of a performance unit award on termination of employment due to death, disability, retirement or change in control. The Compensation Committee shall set forth in the applicable award agreement the extent to which a participant shall have the right to receive performance units (and any related dividend equivalents) following a termination of employment or termination of service.

Performance Shares. The Compensation Committee also may grant performance shares under the 2011 Omnibus Plan. A performance share award gives the participant the right to receive shares of stock if the participant achieves the performance goals specified by the Compensation Committee during a performance period specified by the Compensation Committee. The performance period for a performance share shall not be less than one year. The Compensation Committee, in its discretion, may provide for vesting of a performance unit award on termination of employment due to death, disability, retirement or change in control. The Compensation Committee shall set forth in the applicable award agreement the extent to which a participant shall have the right to receive performance shares (and any related dividend equivalents) following a termination of employment or termination of service.

Performance Cash Awards. The Compensation Committee also may grant performance cash under the 2011 Omnibus Plan. A performance cash award gives the participant the right to receive a cash payment if certain performance goals specified by the Compensation Committee are satisfied during a performance period specified by the Compensation Committee. The Compensation Committee shall set forth in the applicable award agreement the extent to which a participant shall have the right to receive performance cash following a termination of employment or termination of service.

Performance-Based Compensation Awards. When the Compensation Committee grants restricted stock, restricted stock units, performance shares, performance units, and performance cash awards, it may designate the award as a “performance-based compensation award.” Performance-based compensation awards are designed to qualify for the “performance-based compensation” exception to the limitations on the deduction of compensation imposed by Section 162(m) of the Code. Section 162(m) of the Code only applies to “covered employees,” as that term is defined in Section 162(m) of the Code and the regulations issued thereunder. Therefore, only covered employees are eligible to receive awards that are designated as performance-based compensation awards. The Compensation Committee has complete discretion regarding whether to grant awards to covered employees that qualify for the “performance-based compensation” exception to Section 162(m) of the Code. Options and SARs granted pursuant to the 2011 Omnibus Plan should, by their terms, qualify for the “performance-based compensation” exception.

A covered employee is only entitled to receive payment for a performance-based compensation award for any given performance period to the extent that pre-established performance goals set by the Compensation Committee for the performance period are satisfied. The Compensation Committee shall establish the performance goals for a particular performance period in writing no later than ninety days after the commencement of the performance period for a given award, provided that the outcome is substantially uncertain at the time the Compensation Committee establishes the performance goal. In no event will the Compensation Committee establish a performance goal for a given award after 25% of the performance period for such award has elapsed.

These pre-established performance goals must be based on one or more of the following objective performance criteria: revenue; revenue growth; earnings (including earnings before taxes, earnings before interest and taxes or earnings before interest, taxes, depreciation and amortization); operating income; pre- or after-tax income; cash flow (before or after dividends); cash flow per share (before or after dividends); net earnings; earnings per share; return on equity; return on capital (including return on total capital or return on invested capital); cash flow return on investment; return on assets or net assets; economic value added (or an equivalent metric); share price performance; total shareholder return; improvement in or attainment of expense levels; and improvement in or attainment of working capital levels. The performance criteria may be stated in terms of absolute levels or relative to another company or companies or to an index or indices.

With respect to any performance-based compensation award granted to a covered employee that qualifies for the “performance-based compensation” exception to the deduction limitations imposed by Section 162(m) of the Code, the Compensation Committee has the discretion to select the length of the performance period, the type of performance-based compensation award to be issued, the kind and/or level of performance goal or goals and whether the performance goal or goals apply to the Company, an affiliate or any division or business unit of any of them, or to the individual participant or any group of participants. The Compensation Committee also has the discretion to evaluate the achievement of the performance goals in a manner that includes or excludes certain events that may occur during the performance period, as described in Section 10.5 of the 2011 Omnibus Plan, a copy of which is attached to this Proxy Statement as Appendix A. The Compensation Committee has the sole discretion to decrease the amount of compensation payable pursuant to any performance-based compensation award, but the Compensation Committee may not increase the compensation payable pursuant to any performance-based compensation award. The Compensation Committee must certify in writing prior to the payment of any performance-based compensation award (other than options or SARs) that the performance goals and any other material terms and conditions precedent to such payment have been satisfied.

If a performance-based compensation award is payable in stock, the maximum performance-based compensation award any one participant may earn during a 12-month performance period with respect to that award is 150,000 shares of stock. If a performance-based compensation award is payable in cash, the maximum performance-based compensation award any one participant may earn during a 12-month performance period with respect to that award is $2,000,000. If a performance period is less than or exceeds 12 months, these limits will be reduced or increased proportionately, as the case may be.

Prohibition on Repricing. The 2011 Omnibus Plan includes provisions that prohibit the Compensation Committee from directly or indirectly repricing previously granted options or SARs (reduction in option exercise price or SAR grant price, surrender in exchange for cash or another award under the 2011 Omnibus Plan, or surrender or exchange for another option or SAR with a lower exercise or grant price) without shareholder approval.

Forfeiture, Recapture and “Clawback” of Awards. The Compensation Committee may, in its sole discretion, include in any award agreement the requirement that such award be subject to additional forfeiture conditions. The Compensation Committee, in its discretion, also may include in any award agreement the requirement that the award be subject to forfeiture and recapture in the event of certain accounting restatements. A participant agrees to these conditions by accepting the award. In addition, every award issued pursuant to the 2011 Omnibus Plan shall be subject to potential forfeiture or “clawback” to the fullest extent called for by applicable federal or state law.

Restrictions. The Compensation Committee shall impose such restrictions on any awards under the 2011 Omnibus Plan as it may deem advisable, including without limitation, restrictions under applicable federal securities law, under the requirements of the New York Stock Exchange or any other exchange or automated quotation system upon which the stock is then listed, quoted or traded and under any blue sky or state securities laws applicable to such awards.

Change in Control. Unless otherwise provided in an award agreement, if a change in control occurs in which the successor company assumes the award or issues a substitute award or in which the Company is the ultimate parent and continues the award, and within 24 months following the change in control, an employee participant’s employment is terminated in a “qualifying termination” (which is defined to mean a termination by the Company without cause or a termination by the participant for “good reason” as defined in any agreement between the participant and the Company), the following rules will apply: (i) any and all options and SARs shall become immediately exercisable for their remaining term; (ii) any restrictions on restricted stock or restricted stock units shall lapse; and (iii) performance units and performance shares shall be converted to restricted stock, which will vest over the then-remaining performance period (or, if earlier, upon termination of service, death or disability as provided in the award agreement). If 50% or more of the performance period has elapsed as of the date of the change in control, the conversion of performance shares and/or performance units to restricted stock will be based upon the value of the performance units and/or performance shares determined based on actual performance to date; and if less than 50% of the performance period has elapsed, the conversion will be made based upon the target value of the performance units and/or performance shares.

The award agreement for any award may prescribe different vesting provisions that will become applicable in the event of a change in control in which the successor company either does not assume the award or does not issue an award in substitution for the award or in which the Company is the ultimate parent and does not continue the award.

The rules described above will not apply if both the Board of the Company prior to the change in control and the Board of the Company (or any successor thereto) after the change in control reasonably conclude, in good faith, that participants holding awards will be protected by legally binding obligations of the Company either because such awards will remain outstanding after the change in control or will be assumed and adjusted by the surviving entity resulting from the change in control and that changes in the terms of the award resulting from the change in control will not materially impair the value of the awards and their opportunity for future appreciation.

Non-transferability. As a general rule, awards granted pursuant to the 2011 Omnibus Plan may not be transferred by a participant, except by will or by the laws of descent or distribution. However, the Compensation Committee, in its discretion, may permit the transfer of any award (other than a restricted stock or restricted stock unit award) to a family member, family trust or partnership or to a charitable organization provided that the participant does not receive any value in connection with the transfer.

Adjustment Provisions. In the event of any change in corporate capitalization, such as a stock split, or a corporate transaction, such as a merger, consolidation, separation, spin-off or similar event, an adjustment will be made in the number and class of shares available for awards, in the limits on shares that may be granted pursuant to an option or SAR award and shares that may be earned during any 12-month period in connection with a performance-based compensation award, and in the number and class of and/or price of shares subject to outstanding awards granted under the 2011 Omnibus Plan, as the Compensation Committee deems appropriate and equitable to prevent either the dilution or enlargement of rights. The Compensation Committee, in its discretion, also may grant substitute awards for any awards outstanding under the 2011 Omnibus Plan at the time of such event and require the surrender of any awards that are replaced with the substitute awards if the Compensation Committee determines substitution would be equitable under the circumstances. Any adjustment to an incentive stock option shall be made consistent with the requirements of Section 424 of the Code. Further, with respect to any option or SAR that otherwise satisfies the requirements of the stock rights exception to Section 409A of the Code, any adjustment shall be made consistent with the requirements of the final regulations promulgated pursuant to Section 409A of the Code.

Replacement Awards. In the event of any corporate transaction in which the Company or a subsidiary acquires a corporate entity which, at the time of such transaction, maintains an equity compensation plan pursuant to which awards of stock options, SARs, performance shares, performance units, restricted stock, restricted stock units, stock units or dividend equivalents are then outstanding (the “acquired plan”), the Compensation Committee may, in its discretion, make awards under the 2011 Omnibus Plan to assume, substitute or convert such outstanding awards in such manner as may be determined to be appropriate and equitable by the Compensation Committee, in its sole discretion, to prevent dilution or enlargement of rights. Shares used in connection with an award granted in substitution for an award outstanding under an acquired plan shall not be counted against the number of shares reserved under the 2011 Omnibus Plan. Any shares authorized and available for issuance under the acquired plan shall, subject to the appropriate adjustment, be available for use in making Awards under this Plan with respect to persons eligible under such acquired plan, by virtue of the Company’s assumption of such acquired plan, consistent with Rule 303A(8) of the NYSE Listed Company Manual, as such Rule may be amended or replaced from time to time.

Term of 2011 Omnibus Plan. Subject to the approval of the shareholders at the 2011 annual meeting, the effective date of the 2011 Omnibus Plan is March 17, 2011, the date it was approved by the Board. Subject to the Board’s right to amend or terminate the 2011 Omnibus Plan at any time, the 2011 Omnibus Plan will expire and no award may be granted under the 2011 Omnibus Plan after the tenth anniversary of the Effective Date unless the shareholders of the Company approve an extension of the 2011 Omnibus Plan. Any awards outstanding on the tenth anniversary of the Effective Date (or later expiration date approved by the Company’s shareholders) will remain in effect according to the terms of the award agreement and the 2011 Omnibus Plan.

Amendment, Modification and Termination of 2011 Omnibus Plan. The Board has the discretion to amend, suspend or terminate the 2011 Omnibus Plan or the Compensation Committee’s authority to grant awards under the 2011 Omnibus Plan without the consent of shareholders or participants, unless shareholder approval of a particular amendment is required by any federal or state law or regulation or the rules of any stock exchange or automated quotation system on which the shares may then be listed or quoted. Further, the Board may not amend the 2011 Omnibus Plan or any award without shareholder approval if such approval is required in order to satisfy the requirements of the performance-based compensation exception to the deduction limitations imposed by Section 162(m) of the Code and applicable regulations, unless the Board determines that the deduction limitations of Section 162(m) of the Code will not become applicable or that the amendment is appropriate despite the deduction limitations imposed by Section 162(m) of the Code. If shareholder approval is required, the amendment shall be submitted to the Company’s shareholders for approval not later than the earliest annual meeting for which the record date is after the date of the Board’s action.

Except as provided in the next sentence, no amendment, modification, or termination of the Plan or any award agreement shall in any material manner adversely affect any award previously granted under the 2011 Omnibus Plan without the consent of the participant. The participant’s consent is unnecessary if the change is required to cause the benefits under the 2011 Omnibus Plan (a) to qualify as performance-based compensation within the meaning of Section 162(m) of the Code and applicable regulations or other interpretive authority or (b) to comply with the provisions of Section 409A of the Code.

The Compensation Committee cannot waive or modify any other award term after the award has been granted to the extent that the waived or modified term was mandatory under the Plan.

Tax Withholding. The Company will have the power to withhold, or require a participant to remit to the Company, an amount sufficient to satisfy federal, state, and local withholding tax requirements on any award under the 2011 Omnibus Plan. The Company may choose from among the methods of withholding that are available under applicable laws.

Federal Income Tax Information. The following is a brief summary of certain of the federal income tax consequences of certain transactions under the 2011 Omnibus Plan based on federal income tax laws in effect on January 1, 2011. This summary is not intended to be exhaustive and does not describe state or local tax consequences.

As a general rule, a participant will not recognize taxable income with respect to any award (other than a stock grant) at the time of grant. If a Participant receives a stock grant, or if a participant who receives a restricted stock grant makes the election permitted by Section 83(b) of the Code, the participant will recognize income on the award at the time of grant.

Upon exercise of a nonqualified stock option, the lapse of restrictions on restricted stock, or upon the payment of SARs, restricted stock units, stock units, performance shares, performance units, performance cash awards, stock grant awards or dividend equivalents, the participant will recognize ordinary taxable income in an amount equal to the difference between the amount paid for the award, if any, and the fair market value of the stock or amount received on the date of exercise, lapse of restriction or payment. The Company will be entitled to a concurrent income tax deduction equal to the ordinary income recognized by the participant.

A participant who is granted an incentive stock option will not recognize taxable income at the time of exercise. However, the excess of the stock’s fair market value over the option price could be subject to the alternative minimum tax in the year of exercise (assuming the stock received is not subject to a substantial risk of forfeiture or is transferable). If stock acquired upon exercise of an incentive stock option is held for a minimum of two years from the date of grant and one year from the date of exercise, the gain or loss (in an amount equal to the difference between the sales price and the exercise price) upon disposition of the stock will be treated as a long-term capital gain or loss, and the Company will not be entitled to any income tax deduction. If the holding period requirements are not met, the incentive stock option will not meet the requirements for this tax favored treatment and the tax consequences described for nonqualified stock options will apply.

The final regulations promulgated under Section 409A of the Code became effective as of January 1, 2009. If certain awards fail to comply with Section 409A, a participant must include in ordinary income all deferred compensation, if any, conferred by the award, pay interest from the date of the deferral and pay an additional 20% tax. The award agreement for any award that is subject to Section 409A may include provisions necessary for compliance as determined by the Compensation Committee. The Company intends (but cannot and does not guarantee) that awards granted under the 2011 Omnibus Plan will comply with the requirements of Section 409A or an exception thereto and intends to administer and interpret the 2011 Omnibus Plan in such a manner.

Special Rules Applicable to Officers. In limited circumstances where the sale of common stock that is received as the result of a grant of an award could subject an officer to suit under Section 16(b) of the Exchange Act, the tax consequences to the officer may differ from the tax consequences described above. In these circumstances, unless a special election has been made, the principal difference usually will be to postpone valuation and taxation of the stock received so long as the sale of the stock received could subject the officer or director to suit under Section 16(b) of the Exchange Act, but not longer than six months.

Tax Consequences to the Company or Its Affiliates. To the extent that a participant recognizes ordinary income in the circumstances described above, the Company or the affiliate for which the employee performs services will be entitled to a corresponding deduction, provided that, among other things, the income meets the test of reasonableness, is an ordinary and necessary business expense, is not an “excess parachute payment” within the meaning of Section 280G of the Code and is not subject to the $1 million deduction limit for certain executive compensation under Section 162(m) of the Code.

New Plan Benefits Table. Benefits under the 2011 Omnibus Plan will depend on the Compensation Committee’s actions and the fair market value of the Company’s stock at various future dates. Consequently, it is not possible to determine the future benefits that will be received by the 2011 Omnibus Plan participants.

Required Vote. Under Arizona law, if a quorum of shareholders is present at the Meeting, approval of the 2011 Omnibus Plan will require that the votes cast in favor of approval exceed the votes cast against approval. Abstentions and broker non-votes are counted for purposes of determining whether a quorum exists at the Meeting, but are not counted and have no effect on the results of the vote for approval of the 2011 Omnibus Plan.

Equity Compensation Plan Information

The following table sets forth aggregated information about the Company’s compensation plans (UniSource Energy Corporation 1994 Omnibus Stock and Incentive Plan (the “1994 Omnibus Plan”) and the 2006 Omnibus Plan under which equity securities of the Company are authorized for issuance as of December 31, 2010:

Number of securities

remaining available for

Number of securities

future issuance under

to be issued upon

Weighted-average

equity compensation

exercise of

exercise price of

plans (excluding

outstanding options,

outstanding options,

securities reflected in

warrants and rights

warrants and rights

column (a))

Plan category

(a)

(b)

(c)

Equity compensation plans approved by security holders (1)

1,283,594

(2)

$

27.96

(3)

385,049

(1)

Equity compensation plans not approved by security holders

43,128

(4)

—

—

(5)

Total

1,326,722

—

385,049

(1)		The equity compensation plans that have been approved by shareholders are the 1994 Omnibus Plan, the UniSource Energy Corporation 1994 Outside Director Stock Option Plan (the “1994 Directors Plan”) and the 2006 Omnibus Plan. Awards were made under the 1994 Stock and Incentive Plan and the 1994 Directors Plan until February 2004, at which time no further awards could be made under those plans. In May 2006, the 2006 Omnibus Plan was approved by shareholders and includes awards in the form of options, restricted stock, stock units and dividend equivalents. While the 1994 plans expired in February 2004 and no further awards could be made under those plans after that date, the 1994 plans remain in effect with respect to previous awards until all awards have expired or terminated or shall have been exercised or fully vested, and any stock thereto shall have been purchased or acquired. No shares that were available to be issued under the 1994 Directors Plan at the time of its termination are available for awards under the 2006 Omnibus Plan with respect to awards that are forfeited, terminated, canceled or expired.
(2)		As of December 31, 2010, 1,283,594 shares were reserved for issuance under the 1994 Omnibus Plan, the 1994 Directors Plan, and the 2006 Omnibus Plan in connection with 833,198 outstanding stock options (with a weighted average price of $28.99 and a weighted average remaining term of 5.75 years), 88,189 outstanding options, which are entitled to dividends, (with a weighted average exercise price of $18.15 and a weighted average remaining term of 0.97 years), 171,530 shares to be issued pursuant to other unvested awards made pursuant to the 1994 Omnibus Plan and the 2006 Omnibus Plan (e.g., restricted stock units and performance shares), and 190,677 shares to be issued pursuant to other vested awards made pursuant to the 1994 Omnibus Plan and the 2006 Omnibus Plan (e.g., restricted stock units and performance shares).
(3)		Calculated based on the outstanding options and does not take into account awards other than options, such as stock units.

(4)		Deferred shares credited under the DCP, under which certain eligible executive officers and other employees selected for participation, and non-employee members of the Board, may elect to defer a percentage of the compensation or fees that would otherwise become payable to each individual for their services to UniSource Energy. The Company also credits DCP accounts of employees participating in the Company’s 401(k) Plan with the additional amount of UniSource Energy matching contributions that the participant would have been entitled to under the 401(k) Plan if certain Code limits did not apply to limit the amount of UniSource Energy matching contributions made under the 401(k) Plan. Each participant in the DCP may elect that the deferrals be credited in the form of deferred shares instead of cash. Deferred shares accrue dividend equivalents, credited in the form of additional deferred shares, as dividends are paid by UniSource Energy on its issued and outstanding common stock. Each participant elects the time and manner of payment (lump sum or installments) of the deferred shares under the DCP. Under the terms of the DCP, distribution of deferred shares will be made in cash, unless the participant elects to receive the deferred shares in Company stock.
(5)		There is no explicit share limit under the DCP. The number of shares to be delivered with respect to the DCP in the future depends on the levels of fees and compensation that participants elect to defer under the DCP. Any UniSource Energy shares used to satisfy common stock obligations under the DCP will be shares that have been purchased on the open market.

										Number of Shares of
										Common Stock Issued
		Number of				Number of				Following Vesting of				Weighted Average Number
		Options,				Restricted Stock				Earned Performance				of Shares of Common
Year		Granted				Units, Granted				Shares				Stock Outstanding
2010			0				15,620				56,232				36,415,000
2009			248,760				21,886				22,116				35,858,000
2008			303,550				22,978				12,325				35,632,000

The Board has approved and recommends that you vote “FOR” the approval of the
2011 Omnibus Stock and Incentive Plan.

PROPOSAL FOUR: ADVISORY VOTE ON EXECUTIVE COMPENSATION

The Dodd-Frank Wall Street Reform and Consumer Protection Act, enacted in July 2010, requires that we provide our shareholders with the opportunity to vote to approve, on a nonbinding, advisory basis, the compensation of our named executives as disclosed in this proxy statement in accordance with the compensation disclosure rules of the Securities and Exchange Commission.

As described in detail under the heading “Compensation Discussion and Analysis,” we seek to closely align the interests of our named executives with the interests of the Company’s stakeholders. Our officer compensation program is designed to link compensation to financial, operational and strategic business outcomes, while at the same time balancing risk and reward in the context of our business strategies.

The vote on this resolution is not intended to address any specific element of compensation; rather, it relates to the compensation of our named executives, as described in this proxy statement in accordance with the compensation disclosure rules of the Securities and Exchange Commission. The vote is advisory, which means that the vote is not binding on the Company, the Board or the Compensation Committee.

Accordingly, we ask our shareholders to vote on the following resolution at the Annual Shareholders’ Meeting:

“RESOLVED, that the Company’s shareholders approve, on an advisory basis, the compensation of the named executives as disclosed in the Company’s Proxy Statement for the 2011 Annual Shareholders’ Meeting pursuant to the compensation disclosure rules of the Securities and Exchange Commission, including the Compensation Discussion and Analysis, the 2010 Summary Compensation Table and the other related tables and disclosure.”

Under Arizona law, if a quorum of shareholders is present at the Meeting, the resolution to approve the compensation of our named executives will be adopted if the votes cast in favor of the resolution exceed the votes cast against the resolution. Abstentions and broker non-votes are counted for purposes of determining whether a quorum exists at the Meeting but are not counted and have no effect on the results of the vote to approve the compensation of our named executives.

The Board recommends that you vote “FOR” the approval of the compensation of our named executives,
as disclosed in this proxy statement.

PROPOSAL FIVE: ADVISORY VOTE ON THE FREQUENCY OF
AN ADVISORY VOTE ON EXECUTIVE COMPENSATION

The Dodd-Frank Wall Street Reform and Consumer Protection Act also provides that shareholders must be given the opportunity to vote, on a non-binding, advisory basis, for their preference as to how frequently we should seek future advisory votes seeking approval of the compensation of our named executives as disclosed in accordance with the compensation disclosure rules of the Securities and Exchange Commission, which we refer to as an advisory vote on executive compensation (such as Proposal Four in this proxy statement). By voting with respect to this Proposal Five, shareholders may indicate whether they would prefer that we conduct future advisory votes on executive compensation once every one, two, or three years.

The Board believes that an annual advisory vote on executive compensation will allow our shareholders to provide timely, direct input on the Company’s executive compensation philosophy, policies and practices as disclosed in the proxy statement each year. The Board believes than an annual vote is therefore consistent with the Company’s efforts to engage in an ongoing dialogue with our shareholders on executive compensation and corporate governance matters.

This vote is advisory and not binding on the Company or the Board in any way. The Board and the Compensation Committee will take into account the outcome of the vote, however, when considering the frequency of future advisory votes on executive compensation.

The following resolution on the frequency of future advisory votes on executive compensation is proposed:

“RESOLVED, that the Shareholders recommend that an advisory vote to approve the executive compensation of the Company’s named executive officers as set forth in the Company’s proxy statement be conducted once every _____.”

There are three choices of words available to insert in the blank space in the resolution, the word(s):

a. “year”,

b. “two years”, or

c. “three years”.

Shareholders may vote in favor of the above resolution with the blank space filled in to indicate their preference for the frequency of the advisory vote on executive compensation by marking their proxy card to indicate that the advisory vote on executive compensation occur once every one, two or three years (shown as 1 year, 2 years or 3 years on the proxy card). A vote in favor of one of the frequencies will be treated as a vote against the other choices. If a quorum is present at the Meeting, the resolution will be considered to have been adopted with the blank space filled in to indicate the choice of the shareholders if the number of votes cast for one of the three choices exceeds the sum of the votes cast in favor of the other two choices — i.e. if a majority of the votes cast are in favor of one of the three choices. Abstentions and broker non-votes are counted for purposes of determining whether a quorum exists at the Meeting but are not counted and have no effect on the results of the vote to adopt the resolution on the frequency of the advisory vote on executive compensation.

Irrespective of whether this resolution is adopted, we are required by law to conduct a shareholder advisory vote seeking approval of the compensation paid to the Company’s named executives no less frequently than every three years.

The Board of Directors recommends that you vote for the option of once every “YEAR”
(shown as “1 YEAR” on the proxy card) as the preferred frequency for advisory votes on executive compensation.

COMPENSATION DISCUSSION AND ANALYSIS

The following Compensation Discussion and Analysis contains statements regarding future individual and Company performance targets and goals. These targets and goals are disclosed in the limited context of UniSource Energy’s compensation programs and should not be understood to be statements of management’s estimates of results or other guidance. UniSource Energy specifically cautions investors not to apply these statements to other contexts.

This Compensation Discussion and Analysis describes the Company’s overall executive compensation policies and practices and specifically analyzes the total compensation for the following executive officers, referred to as the Named Executives:

•

Paul J. Bonavia, President and Chief Executive Officer;

•

Kevin P. Larson, Senior Vice President, Chief Financial Officer and Treasurer;

•

Michael J. DeConcini, Senior Vice President, Operations;

•

Raymond S. Heyman, Senior Vice President and General Counsel; and

•

Karen G. Kissinger, Vice President, Controller and Chief Compliance Officer.

EXECUTIVE SUMMARY

UniSource Energy’s mission is to deliver safe, reliable service and value to customers and shareholders alike. The Company’s strategy includes enhancing shareholder value, maintaining customer satisfaction, expanding its role in the community, meeting environmental challenges and providing for its employees’ development and well-being.

UniSource Energy is a holding company that has no significant operations of its own. Operations are conducted by UniSource Energy’s subsidiaries. The Company conducts business in four primary business segments — TEP, UNS Gas, Inc. (“UNS Gas”), UNS Electric, Inc. (“UNS Electric”) and Millennium Energy Holdings, Inc. (“Millennium”). TEP, an electric utility, has provided electric service to the community of Tucson, Arizona, for more than 100 years. UNS Gas and UNS Electric provide natural gas and electric service in northern and southern Arizona. UNS Gas and UNS Electric are operating subsidiaries of UniSource Energy Services (“UES”), which was established in 2003 to oversee gas and electric properties acquired that year from Citizens Communications. Millennium has existing investments in unregulated businesses that represent less than 1% of UniSource Energy’s total assets as of December 31, 2010, and is the parent company of Southwest Energy Solutions, which provides supplemental labor and meter reading services to TEP, UNS Gas and UNS Electric.

Our officer compensation program is designed to:

•

Attract, motivate and retain highly-skilled executives;

•

Link payment of compensation to financial, operational and strategic business outcomes;

•

Align the interests of management with those of the Company’s stakeholders ; and

•

Balance risk and reward in the context of our business strategies.

2010 Company Performance

The Company posted strong performance in 2010, achieving the majority of its short-term objectives while taking solid steps toward its long-term goals. Amid a difficult economic climate, the Company overcame declining sales at TEP and modest sales increases at UNS Electric and UNS Gas to achieve year-end earnings within its projected range. With the exception of one operational metric, Equivalent Availability Factor (“EAF”), the Company also achieved all of its Customer, Community/Environment and Employee business goals. While the Company did not reach its goal for EAF (generation system reliability), its performance exceeded the North American Electric Reliability Corporation (“NERC”) industry average and met the Generating Availability Data System (“GADS”) industry average of 83.8%.

The Company accomplished these results by carefully managing operating and maintenance (“O&M”) costs without compromising the safe, reliable current and future utility service for which TEP and UES are well-known. The Company exceeded its reliability goals for electric transmission and distribution and gas distribution, while its commitment to safe operating practices helped hold the number of recordable on-the-job injuries below the 2010 target.

The Company made significant progress toward numerous long-term goals in 2010, including the continuation of a comprehensive, companywide succession plan, the addition of new customer self-service options and a focus on process improvements. An expansion of the Company’s renewable energy resources was also well underway in 2010. In addition to building new photovoltaic arrays, the Company finalized a dozen new renewable power purchase agreements and secured regulatory approval to recover portions of the up-front cost of new solar power systems that are planned for construction in 2011 and beyond. The Company’s Total Shareholder Return (“TSR”) over the past three years has ranked in the first (top) quartile relative to the Edison Electric Institute (“EEI”) companies, which represents outstanding performance.

2010 Executive Officer Compensation Program

With the oversight of the Compensation Committee, UniSource Energy ensures that a significant part of executive officer compensation is performance-based. Corporate goals are designed to focus executive officers and all non-union employees on successful execution of the Company’s strategy and annual operating plan. Our executive officer 2010 compensation consisted primarily of the following components:

Summary of 2010 Executive Officer Compensation Program

Compensation Component		Key Features		Purpose
Base Salary		Increases considered on a calendar year basis to align within the median range of our comparator group (as described on page 32)		Provide a fixed amount of cash compensation to our Named Executives
		Intended to constitute a sufficient component of total compensation to discourage inappropriate risk-taking
Short-term Incentive Compensation (Performance Enhancement Program or PEP)		Incentive plans are structured identically for executive and non-executive employees and across business units/functions, uniting all non-union employees in the achievement of common goals		Motivate and reward achieving or exceeding organization short-term performance goals, reinforcing pay-for-performance
		All incentive plans are capped at no more than 150% of target, protecting against the possibility that executives take short-term actions not supportive of long-term objectives to maximize bonuses		Focus entire organization on key customer, operational and financial objectives
		Threshold net income performance must be achieved for other performance measures to payout above 50% of target
Long-Term Incentive (LTI) Compensation		Beginning in 2010, LTI is delivered solely in performance shares with 50% of the shares tied to achievement of cumulative net income goals and 50% of the shares tied to achievement of relative TSR		Opportunities for ownership and financial reward in support of the Company’s longer-term financial goals and stock price growth; also supports retention objective
		Stock options were eliminated from the LTI program in 2010		Provides a link between compensation and long-term shareholder interests as reflected in changes in stock price
		Ultimate value earned from the LTI program is tied to both absolute and relative shareholder value and longer-term operating performance
		Performance share earnout is capped at 150% of target

All UniSource Energy incentive plans are tied to overall corporate financial performance and not based solely on revenue or profit generated by an employee. There are no commission-style programs for any UniSource Energy employees.

In addition to the above direct compensation elements, Named Executives also participate in the same retirement, health and welfare plans and programs as our full-time employees.

Short-term Incentive Compensation (Performance Enhancement Program or PEP) Cash Award

Cash awards under the Performance Enhancement Plan (“PEP”) link a significant portion of the Named Executives’ annual compensation to the Company’s annual financial and operational performance. This program utilizes a “balanced scorecard” approach with performance measures tied to four constituent areas: customers, community and environment, employees and investors. For 2010, the PEP financial goals were net income and O&M cost containment.

2010 Changes to the Company’s PEP

Each year, the Company modifies the PEP to align UniSource Energy’s employees’ performance with its overall strategy: enhancing shareholder value, maintaining customer satisfaction, expanding the Company’s role in the community, meeting environmental challenges and providing for UniSource Energy’s employees’ development. The material changes to the 2010 PEP are as follows:

•

Net Income: Net income was substituted as a performance measure in place of the diluted earnings per share (“EPS”) and cash flow performance measures previously used by the Company. Net income continues to focus participants on profitability but eliminates the potential effect of changes in outstanding levels of stock, which is outside the control of the majority of the participants.

•

Cap on Payment: If the net income threshold performance goal is not met, the remainder of program payout is capped at 50% of target, regardless of the results achieved for the other performance measures under the PEP. The cap was implemented to focus the Company on the importance of meeting the net income threshold performance level to provide funding for annual incentive payments, while allowing some opportunity to reward achievement of other goals.

•

Goal Rating Criteria: In 2009, the goal rating criteria for the Customer, Community/Environment and Employee goals under the PEP focused only on whether a goal was achieved; the level of achievement was not a factor. The goal rating criteria for the 2010 Customer, Community/Environment and Employee goals under the PEP included performance differentiation by using rating criteria that specifies the level of achievement for each goal: threshold, target and exceptional levels of performance.

2010 PEP performance

Overall, for 2010 the Company achieved a total weighted performance for all goals of 111.6% of target, as summarized below.

		Weighting of				Performance				Payout Percentage
Goal		Goal (A)				Achieved (B)				(A x B)
Net Income			35	%			83.2	%			29.1	%
O&M Cost Containment			15	%			150	%			22.5	%
Customer/Community/ Environment/Employee			50	%			Various				60	%
			100	%							111.6	%

Change in Control Agreements

The Change in Control Agreements entered into by the Company were designed to be consistent with current best practices by (i) reducing the severance multiple from three times (prior CEO) to two times (current CEO), three times to one and one-half times (Senior Vice Presidents DeConcini, Heyman and Larson), and three times to one time (Vice President Kissinger); (ii) reducing the protection period from 60 months to 24 months; and (iii) eliminating the excise tax gross-up. These agreements are discussed in greater detail on page 39.

Long-term incentive compensation (equity awards)

UniSource Energy believes that performance-based equity awards hold executive officers accountable for the long-term impact of their actions, which in turn aligns the interest of those executive officers with the interest of UniSource Energy’s shareholders.

Changes to long-term incentive compensation for 2010

In reviewing the design of UniSource Energy’s 2010 long-term incentive compensation program, the Compensation Committee decided to eliminate stock options, after consideration of industry-specific factors that limit stock price volatility, our dividend policy, and peer company practice. Future long-term incentive awards will be delivered solely in performance shares with vesting tied to relative TSR and a financial objective to focus participants on longer-term operating performance. The program design for the 2010 long-term incentive compensation program incorporated the following concepts:

•

Performance Measures, Weighting and Standards: The number of earned shares will be determined based on the following equally-weighted performance measures: relative TSR and cumulative net income.

•

Relative TSR: TSR, relative to the EEI index, measures the success of the execution of the Company’s operating and strategic plans, as reflected in shareholder value, as measured by changes in the Company’s market capitalization and dividends paid to shareholders.

•

Cumulative Net Income: Cumulative net income focuses participants on profitability, which will be strongly influenced by the success of cost control initiatives during the three-year performance period.

Long-term incentive compensation performance

During the 2008—2010 performance period, the Company’s relative TSR was at the 93rd percentile relative to the EEI Index, resulting in a payout of the performance share awards at 150% of target.

Best Practices

The Named Executive compensation program is designed to reflect current “best practices” and discourage behaviors that could create material risk for UniSource Energy. The following examples illustrate those “best practices”:

•

stock ownership guidelines (as explained on page 39),

•

clawback provisions for cash and equity awards (as explained on page 39),

•

prohibition on hedging of Company stock (as explained on page 39), and

•

“double trigger” equity vesting in the event of a change in control.

COMPENSATION PHILOSOPHY

Objectives of the Compensation Program

The Company’s executive officer compensation policies and decisions have the following objectives:

1.

Attracting, motivating and retaining highly-skilled executives;

2.

Linking the payment of compensation to the achievement of critical short- and long-term financial and strategic objectives; creation of shareholder value; providing safe, reliable and economically available electric and gas service; and aligning performance objectives of management with those of its other employees by using similar performance measures;

3.

Balancing risk and reward to align the interests of management with those of the Company’s stakeholders and encouraging management to think and act like owners, taking into account the interests of the public that the Company serves;

4.

Maximizing the financial efficiency of the compensation program to avoid unnecessary tax, accounting and cash flow costs; and

5.

Encouraging management to achieve outstanding results through appropriate means by delivering compensation in a manner consistent with established and emerging corporate governance “best practices.”

To help achieve those objectives, UniSource Energy provides a balanced total compensation program that consists of four components:

•

base salary;

•

short-term performance-based incentive compensation;

•

long-term performance-based incentive compensation; and

•

benefits.

The Compensation Committee considers decisions regarding each component of pay in the context of each executive officer’s total compensation. For example, as discussed in the “Compensation Analysis” section on page 32, if the Compensation Committee increases an executive officer’s base salary, it also considers the resultant impact on short- and long-term performance-based incentive compensation and compares total compensation levels to competitive practice. The Compensation Committee does not directly consider the value of outstanding equity awards in setting current year total compensation opportunities, but does review the value of outstanding equity awards to assess the degree to which such awards support the Company’s performance motivation, attraction and stakeholder alignment objectives.

Each of these components is described in more detail below and in the narrative and footnotes to the supporting tables. The following sections highlight how the above objectives are reflected in the Company’s compensation program.

Attracting, Retaining and Motivating Executive Talent

To attract, retain and motivate highly-skilled employees, UniSource Energy provides the Named Executives with compensation packages that are competitive with those offered by other electric and gas utility companies of comparable size and complexity and/or electric and gas utility companies thought to be competitors for executive talent.

The Compensation Committee generally targets base salary and short-term incentive opportunities, as well as the allocation among those elements of compensation for the Named Executives, at the median market rates of selected comparable companies identified below under the “Compensation Analysis” section. In 2010, long-term incentive opportunities were targeted between the median and the 75^th percentile of such market rates.

In addition to providing competitive direct compensation opportunities, the Company also provides certain indirect compensation and benefits programs that are intended to assist in attracting and retaining high quality executives. These programs include pension and retirement programs and are described in more detail below and in the narratives that accompany the tables that follow this Compensation Discussion and Analysis section.

Linking Compensation to Performance

UniSource Energy’s compensation program seeks to link the actual compensation earned by the Named Executives to their performance and that of the Company. UniSource Energy achieves this goal primarily through two elements of its compensation package: (i) short-term cash awards and (ii) equity-based compensation. To ensure that the executive officers are held accountable for achieving the Company’s financial, operational and strategic objectives and for creating shareholder value, the Company believes that the percentage of pay at risk should increase with the level of responsibility within the Company. The target amounts of performance-based pay programs (i.e., cash incentive and equity-based compensation) comprise approximately 55% to 65% of the total direct compensation opportunity for the Named Executives. Of the performance-based compensation, approximately 30-45% is short-term and 55-70% is long-term. Placing a greater emphasis on long-term performance-based compensation encourages executive officers to focus on the long-term impact of their actions. Non-variable compensation, such as salary and perquisites, is de-emphasized in the total compensation program to reinforce the linkage between compensation and performance.

Balancing Risk and Reward to Align the Interests of the Company’s Named Executives with Stakeholders

UniSource Energy’s compensation program also seeks to align the interests of the Named Executives with those of the Company’s key stakeholders, including shareholders, customers, the community and employees. The Company uses the short-term incentive compensation component to focus the Named Executives on the importance of providing safe and reliable customer service, creating a safe work environment for employees and improving financial performance by linking a significant portion of their short-term cash incentive compensation to achievement of these objectives. The Company primarily relies on the equity compensation element of its compensation package to align the interests of the Named Executives with those of shareholders. Unisource Energy’s compensation strategy is intended to mitigate risk by emphasizing long-term compensation and financial performance measures correlated with shareholder value. UniSource Energy believes that executive officer accountability in the performance of the Company through equity-based compensation, together with the three-year vesting of certain stock-based awards and the stock ownership guidelines, result in compensation programs that do not encourage unreasonable risk-taking by management relating to the Company’s business and operations. In addition, the Compensation Committee has the ability to reduce short-term incentive compensation award payouts, in its sole discretion, based upon factors other than performance measures. In considering the design alternatives, the Compensation Committee continually evaluates the potential for unintended consequences of its compensation program.

Maximizing the Financial Efficiency of the Program

In structuring the total compensation package for the Named Executives, the Compensation Committee evaluates the accounting cost, cash flow implications and tax deductibility of compensation to mitigate financial inefficiencies to the greatest extent possible. For instance, as part of this process, the Compensation Committee evaluates whether compensation costs are fixed or variable and places a heavier weighting on variable pay elements to calibrate expense with the achievement of operating performance objectives and delivery of value to shareholders. In addition, the Compensation Committee takes into account the objective of having the incentive-based compensation components qualify for tax deductibility under Section 162(m) (“Section 162(m)”) of the Internal Revenue Code, as amended (the “Code”). See discussion under “Impact of Regulatory Requirements” on page 40.

Adhering to Corporate Governance “Best Practices”

The Compensation Committee seeks to continually evaluate the executive officer compensation program in light of corporate governance “best practices.” For example, the Compensation Committee has established formal stock ownership guidelines that encourage each Named Executive to accumulate a meaningful amount of Company stock. The short-term and long-term incentive compensation programs include a clawback provision, and the Change in Control Agreements no longer contain an excise tax gross-up provision, all of which are discussed in more detail below.

In 2010, the Compensation Committee implemented a thorough compensation risk assessment process, which was conducted by independent executive compensation consultants, in order to review UniSource Energy’s compensation policies and practices to determine whether any risks should be addressed to adhere to best practices.

In order to adhere to best practices, the Compensation Committee also implemented a review of tally sheets and wealth accumulation analyses, which are designed to assist the Compensation Committee in evaluating the reasonableness of the compensation provided to Named Executives. Based on this review, the Compensation Committee concluded that the current program design supports the Company’s objectives and that no changes were warranted to the program at this time.

Compensation Analysis

To provide a foundation for the executive officer compensation program, UniSource Energy periodically benchmarks its Named Executives’ compensation levels and practices against a peer group of companies intended to represent the Company’s competitors for business and talent. The peer group, which is reviewed periodically and approved by the Compensation Committee, includes the 17 electric and gas utility companies named below that are comparable to UniSource Energy in terms of size, as measured by annual revenues and market capitalization (the “Peer Group”). No changes were made to the Peer Group in 2010. UniSource Energy’s revenues, total assets and number of employees approximate the median of the Peer Group; market capitalization was between the 25^th percentile and median of the Peer Group, and net income was between the median and 75^th percentile of the Peer Group.

2010 Peer Group

AGL Resources Inc.		DPL Inc.		North Western Corp.		Portland General Electric Co.
Avista Corp.		El Paso Electric Co.		Piedmont Natural Gas Co.		South Jersey Industries Inc.
CH Energy Group Inc.		IDACORP Inc.		Pinnacle West Capital Corp.		Southwest Gas Corp.
Cleco Corporation		Northwest Natural Gas Co.		PNM Resources Inc.		UIL Holdings Corp.
						Westar Energy Inc.

Frederic W. Cook, Inc., the independent consultant retained by the Compensation Committee, supplements the benchmark information annually with information relating to general market trends, changes in regulatory requirements related to executive officer compensation and emerging “best practices” in corporate governance. See discussion relating to compensation under “Compensation Consultant” on page 59.

In August 2010, the Compensation Committee assessed the competitiveness of the compensation for UniSource Energy’s CEO relative to the Peer Group. The analysis indicated that UniSource Energy’s CEO’s target total compensation approximated the median of peer group practice.

ELEMENTS OF COMPENSATION

Base Salary

The Company uses base salary to provide each Named Executive a set amount of money during the year with the expectation that he or she will perform his or her responsibilities to the best of his or her ability and in the best interests of the Company. The Company believes that competitive base salaries are necessary to attract and retain executive talent critical to achieving its business goals. In general, Named Executives’ base salaries are targeted to the median of the Peer Group described above. However, individual salaries can and do vary from the Peer Group median data based on such factors as (i) the competitive environment for Named Executives, and (ii) incumbent responsibilities, experience, skills and performance relative to similarly situated executive officers within the Company. Currently, all of the Named Executives’ salaries are within 10 percent above or below their comparable Peer Group median.

Increases to Named Executives’ base salaries are considered annually by the Compensation Committee. In approving base pay increases for Named Executives other than the CEO, the Compensation Committee also considers recommendations made by the CEO.

In February 2010, the Compensation Committee approved base salary increases for the Named Executives of 2-3%, which were consistent with salary increases as a percent of salary for other non-bargaining unit Company employees. Base salary as a percentage of total compensation for the Named Executives ranges from approximately 35-45%. Additional information is provided in the Summary Compensation Table on page 43.

Short-Term Incentive Compensation (Cash Awards)

UniSource Energy’s short-term incentive compensation consists of cash awards under the Performance Enhancement Plan (“PEP”), which links a significant portion of the Named Executives’ annual compensation to the Company’s annual financial and operational performance.

Each year, before the end of the first quarter, the Compensation Committee establishes performance objectives that must be met in whole or in part before the Company pays PEP awards. The key performance objectives are tailored to drive behavior that supports the Company’s strategy of delivering safe, reliable service and value to customers and a fair return to shareholders. The Compensation Committee generally attempts to align the target opportunity for each Named Executive, stated as a percentage of base salary, with the median rate for equivalent positions at the Peer Group companies. In 2010, the target incentive opportunity for the Named Executives ranged from 40% to 80% of base salary, depending upon the Named Executive’s responsibilities (i.e., the greater the responsibility, the more pay at risk). As described more fully below, the actual amounts paid depend on the achievement of specified performance objectives, and could range from 50% of the target award upon achievement of threshold performance to 147.5% of the target award upon achievement of exceptional performance.

For 2010, the program was modified to include a cap on the amount that would be paid if the net income threshold performance goal is not met, regardless of the results achieved for the other performance measures under the PEP. The cap, which is 50% of target, was implemented to focus the Company on the importance of meeting the net income threshold performance level to provide funding for annual incentive payments, while allowing some opportunity to reward achievement of other goals. Additionally, the Compensation Committee may reduce the payout below 50% of target to reflect other factors not directly considered in the PEP.

Financial and Operating Performance Objectives-2010

The PEP performance targets and weighting are based on factors that are essential for the long-term success of the Company and are identical to the performance objectives used in its performance plan for other non-union employees. In 2010, the financial and operating objectives were (i) net income; (ii) O&M cost containment; and (iii) customer, community/environment and employee goals, which include both quantitative and qualitative measures. The Compensation Committee selected the goals and individual weightings for the 2010 PEP to ensure an appropriate focus on profitable growth and expense control, as well as operational and customer service excellence, environmental leadership, and employee development. This approach encourages all employees to work toward common goals that are in the interests of UniSource Energy’s various stakeholders.

The 2010 PEP design was similar to the 2009 design. To continue to provide more clarity and focus on the Company’s business strategy, the 2010 goals were classified by the interests of the Company’s various stakeholders — shareholders, customers, the community and its employees.

The financial and other metrics for the Company’s 2010 Short-Term Incentive Compensation program were:

•

Net Income — 35%*

•

O&M Cost Containment — 15%

•

Customer, Community/Environment and Employee — 50%**

*		For 2010, net income replaced the diluted EPS and cash flow performance measures, which were each weighted at 20% in 2009, for a total weight of 40%. Net income continues to focus participants on profitability, but eliminates the potential effect of changes in outstanding levels of stock, which is outside the control of the majority of the participants.
**		Customer, Community/Environment and Employee metrics were weighted at 45% in 2009.

In developing the PEP performance targets, the CFO, with assistance from other personnel, compiles relevant data and makes recommendations to the Compensation Committee for a particular year, but the Compensation Committee ultimately determines the performance objectives that are adopted. Changes in the weighting of these goals were made to reflect adjustments in priorities for the year.

The 2010 quantitative performance objectives were:

2010 Performance

Objectives

Threshold

Target

Outstanding

Net Income

$103.4 million

$115.6 million

$127.8 million

O&M Costs

$277 million

$272 million

$267 million

In addition, the 2010 Customer, Community/Environment and Employee goals included:

•

Improving the online Customer Self Service process by automating the service activation, disconnection and transfer services provided through the web:

•

Volunteering community service of at least 40,000 hours by employees;

•

Completing specific departmental project goals related to renewable energy and related technologies;

•

Goals designed to achieve various industry standards pertaining to generation, distribution and transmission to ensure operational reliability of the electric and gas systems;

•

Reducing Occupational Safety and Health Administration (“OSHA”) incident rates by 10% over 2009 actual rates;

	•		Employee development goals relating to talent reviews and succession planning and development; and
	•		Goal designed to focus employees on process improvement initiatives in the Transmission and Distribution, Generation, Finance and Accounting areas.

Short-Term Incentive Award to the CEO

Because the CEO’s total compensation could exceed $1 million, Code Section 162(m) would deny the Company a tax deduction for the excess over $1 million, unless that excess compensation qualifies as “performance-based” compensation. To comply with the performance-based compensation requirements, and also allow the Compensation Committee to retain discretion to adjust the PEP award, if appropriate, the Compensation Committee used a different approach from that described above for the Named Executives and other employees, requiring two separate steps to calculate the CEO’s short-term incentive award.

The first step involved the 2006 Omnibus Plan, which permits payment of cash awards up to $2 million. For the CEO’s short-term incentive award to qualify as performance-based compensation, Section 162(m) requires that the award be payable solely upon the attainment of performance goals. If the performance goals are achieved, Section 162(m) permits the Compensation Committee to pay the amount specified at the time of the award or to pay any lesser amount, but does not allow payment of any greater amount. For the CEO’s short-term incentive award, the Compensation Committee established, as a minimum target, the attainment of net income of at least $92.5 million for 2010, which, if achieved, would allow the Compensation Committee to pay the CEO the $2 million maximum permitted by the 2006 Omnibus Plan or any lesser amount; however, if the Company failed to achieve $92.5 million of net income, the CEO would not be entitled to any short-term incentive award payment, regardless of the achievement of other PEP performance objectives as described above. In this respect, the CEO’s performance objective differed significantly from objectives set for the awards to the other Named Executives. The CEO’s award had an absolute minimum performance level that must have been achieved before the CEO received any payment, whereas if the Company failed to achieve the minimum performance on the net income objective set under the PEP, the other Named Executives could have still received a payment based on the attainment of the remaining performance objectives. Solely for purposes of this first step of determining the CEO’s short-term incentive award, the Compensation Committee felt it was appropriate to set the CEO’s net income performance objective below the net income threshold used for the other Named Executives, because of the increased importance of the CEO’s net income target, the increased risk related to that target, and the desire to comply with the performance-based compensation requirement of Section 162(m).

The second step for determining the CEO’s short-term incentive award involved applying negative discretion in the form of the PEP performance objectives and methodology. Once the Company achieved the minimum performance objective established pursuant to the 2006 Omnibus Plan for the CEO to receive any payment, the amount of the CEO’s payment, including whether the CEO received the minimum, target or maximum amount as a percentage of base salary, would be determined using the same PEP performance objectives and methodology as described above for the other Named Executives.

2010 PEP Results

Summary:

Overall, the results for 2010 produced a total weighted performance for all goals of 111.6% of target performance, as summarized in Table A below.

Mr. Bonavia was eligible for a payment of his annual incentive award because the Company exceeded the minimum threshold of $92.5 million net income necessary for him to receive a payment. The Compensation Committee approved an overall PEP payout of 111.6% of target awards for all participants, subject to adjustment of individual awards for individual performance. While individual performance is a factor in determining a PEP award, the sum total of Company awards does not exceed the total PEP funding of 111.6%.

Table A: Summary of 2010 PEP Results

						Percentage of
						Target
		Weighting of				Performance				Payout Percentage
Goal		Goal (A)				Achieved (B)*				(A x B)
Net Income			35	%			83.2	%			29.1	%
O&M Cost Containment			15	%			150	%			22.5	%
Customer/Community/Environment/Employee			50	%			Various				60	%
			100	%							111.6	%

*		Additional detail provided below.

Net Income Goal:

In 2010, the Company achieved $111.5 million of net income, which was between the threshold and target levels of performance.

Table B, below, reflects the net income goal, which ranged from $103.4 million (threshold) to $127.8 million (exceptional), and the corresponding payout levels, which ranged from 50% to 150% of the target award, as well as the actual net income achieved for 2010. Net income must have been more than $103.4 million to produce a payout. According to the guidelines set by the Compensation Committee, which required interpolating on a straight-line basis, the achievement of $111.5 million in net income resulted in a payout level of 83.2% of the target amount for that performance objective.

Table B: Net Income

O&M Cost Containment Goal:

The Company achieved an O&M spending level for 2010 of $265.1 million, which was an exceptional level of performance. This accomplishment was made possible by carefully managing O&M costs in ways that did not compromise safe, reliable current and future utility service. O&M is defined for purposes of a PEP calculation as the sum of O&M expenses for our TEP and UES operations, excluding (1) any reimbursable items for O&M costs incurred by TEP for operating Units 3 and 4 at the Springerville Generating Station; (2) reimbursable O&M expenses for renewable (REST) and demand side management (DSM) programs; and (3) any PEP accrued expense. TEP operates Unit 3 for Tri-State Generation and Transmission Association, who leases the unit from financial owners, and Unit 4, which is owned by Salt River Project Agricultural Improvement and Power District.

Table C, below, reflects the O&M cost containment goal, which ranged from $277 million (threshold) to $267 million (exceptional), and the corresponding payout levels, which ranged from 50% to 150% of the target award, as well as the O&M spending level achieved for 2010. O&M spending must have been less than $277 million to produce a payout; O&M spending in excess of $277 million would not have paid any amount for that performance goal. According to the guidelines set by the Compensation Committee, which required interpolating on a straight-line basis, the achievement of an outstanding level of performance of the O&M spending target resulted in a payout level of 150% of the target amount for that performance objective.

Table C: O&M Cost Containment

Customer, Community/Environment and Employee Goals: Customer goals consisted of measures for operational reliability of the generation, transmission and distribution systems, and a customer self service web automation project. Community/Environment goals consisted of an employee volunteer commitment and renewable and other related technology goals. Employee goals consisted of safety, employee development goals, and process improvement goals. In 2009, the goal rating criteria for the Customer, Community/Environment and Employee goals under the PEP utilized a point evaluation system where points accrued based on achievement of the particular goal; the level of achievement was not a factor. The goal rating criteria for the 2010 Customer, Community/Environment and Employee goals under the PEP now includes performance differentiation by using rating criteria that specifies the level of achievement for each goal: threshold, target and exceptional levels of performance.

Table D, below, reflects the final achievement at the various levels of performance for the Customer, Community/Environment and Employee goals. Performance on one goal did not reach threshold levels, while the others ranged between threshold and exceptional. According to the guidelines set by the Compensation Committee, the achievement of these goals yielded a result of 60% for this combination of performance objectives.

Table D: Customer/Community/Environmental/Employee Goals

		Weight				Actual Result		Final Value
Customer (20% Weighting)
EAF—Generation Reliability*			5.0	%		Below Threshold			0.0	%
System Average Interruption Duration Index (“SAIDI”) Transmission/Distribution Reliability			5.0	%		Exceptional			7.5	%
Gas Distribution Reliability			5.0	%		Exceptional			7.5	%
Customer Self-Service Web Automation			5.0	%		Target			5.0	%
Community and Environmental (15% Weighting)
Employee Hours Volunteered**			5.0	%		Target			5.0	%
Ground Breaking for New Solar Projects			5.0	%		Exceptional			7.5	%
Solar Tariff Implementation			5.0	%		Exceptional			7.5	%
Employees (15% Weighting)
OSHA Rate (Employee Safety Measure)			5.0	%		Exceptional			7.5	%
Talent Management/Succession Planning			5.0	%		Exceptional			7.5	%
Productivity/Process Improvements			5.0	%		Target			5.0	%
Total Percentage for Customer/Community/Environmental/Employee Goals:									60.0	%

*		While the Company did not reach its goal for EAF, its performance exceeded the NERC industry average and met the GADS industry average of 83.8%.
**		The maximum goal for Employee Hours Volunteered was set at “Target.” Nevertheless, UniSource Energy’s employees exceeded the Target of 40,000 volunteer hours by more than 25%, donating 50,929 volunteer hours to a broad range of charitable organizations in 2010.

As in prior years, the Company’s internal audit department conducted an annual audit to verify the reported results of the Company’s performance on its PEP goals for 2010. The internal audit department verified that the reported results were accurate and reported their findings to the Compensation Committee.

The amounts of the 2010 PEP awards paid to each of the Named Executives are listed in the “Summary Compensation Table” on page 43.

Long-Term Incentive Compensation (Equity Awards)

UniSource Energy believes that equity awards, in tandem with the Company’s executive officer stock ownership guidelines discussed below, encourage ownership of UniSource Energy stock by executive officers and hold executive officers accountable for the long-term impact of their actions, which in turn aligns the interest of those executive officers with the interest of UniSource Energy’s shareholders. In addition, the vesting provisions applicable to the awards encourage a focus on long-term operating performance, link compensation expense to the achievement of multi-year financial results and help to retain executive officers.

The long-term incentive opportunity for each Named Executive is based on a percentage of salary. The 2010 long-term incentive multiples are 150% of base salary for the CEO, which is consistent with the median of the market, and 100% of base salary for each other Named Executive. The values of the Named Executives’ long-term incentives, as a percentage of salary, are between median and the 75th percentile of the Peer Group.

Changes to Long-Term Incentive Compensation for 2010

Effective with awards granted in 2010, UniSource Energy modified the Company’s long-term incentive compensation program. Stock options were eliminated, and 2010 long-term incentive awards are delivered solely in performance shares with vesting tied to relative TSR and a financial objective to focus participants on longer-term operating performance.

The program design for the 2010 long-term incentive compensation program incorporates the following concepts:

•

Performance Measures, Weighting and Standards: The number of earned shares will be determined based on the following equally-weighted performance measures: relative TSR and cumulative net income. The equal weighting of the performance measures reflects the Company’s dual focus on long-term shareholder experience and financial results

•

Relative TSR: TSR, relative to the EEI index, measures the success of the execution of the Company’s operating and strategic plans, as reflected in shareholder value, as measured by changes in the Company’s market capitalization (stock price) and the value of dividends paid to shareholders. The TSR calculation assumes that dividends are reinvested in shares of common stock of UniSource Energy.

•

Cumulative Net Income: Cumulative net income focuses participants on profitability, which is strongly influenced by the success of cost control initiatives during the three-year performance period.

2010 Program

Performance share awards granted in 2010 will be paid at the end of the three-year performance period ending in 2012, based on the following performance targets:

TSR Performance Criteria

TSR Percentile Rank		Payout as a Percent of Target Award
75th percentile and above			75.0	%
60th percentile – 74th percentile			62.5	%
50th percentile – 59th percentile			50.0	%
40th percentile – 49th percentile			37.5	%
35th percentile – 39th percentile			25.0	%
Below 35th percentile			0.0	%

Cumulative Net Income Performance Criteria

						Payout as a Percent of Target
Degree of Performance Attainment		Three-Year Cumulative Net Income				Award Earned
Outstanding		$362 million					75.0	%
Target		$326 million					50.0	%
Threshold		$290 million					17.5	%
Less than Threshold		< $290 million					0.0	%

Intermediate payouts determined by interpolation.

Equity Grant Timing and Practice

Generally, during the first quarter following the close of a fiscal year, the Compensation Committee approves and grants the long-term incentive awards for that year, including the type of equity to be granted, as well as the size of the awards for Named Executives. In determining the type and aggregate size of awards to be provided, as well as the performance metrics that will apply, the Compensation Committee considers the strategic goals of the Company, trends in corporate governance, accounting impact, tax deductibility, cash flow considerations, the impact on EPS and the number of shares that would be required to be allocated for the award and the resulting impact to shareholders. The timing of awards is not coordinated with the release of material non-public information.

CLAWBACK PROVISION FOR VARIABLE COMPENSATION

In 2010, to reflect emerging “best practices,” the Compensation Committee approved a clawback provision, which will apply to the short- and long-term incentive compensation awards granted after 2009. The clawback provision may apply to the income derived from the financial component of the PEP and the cumulative net income-based performance shares in the event of a restatement of financial results that, in the view of the Compensation Committee, results from intentional misconduct or intentional error. The Compensation Committee shall exercise its discretion in determining to whom the clawback will apply and the amount subject to clawback, if such repayment is determined to be necessary. This clawback provision may need to be modified to conform to the final regulations implementing the Dodd-Frank Act when they are published.

STOCK OWNERSHIP POLICY

To further align management and shareholder interests, the Company maintains a formal Stock Ownership Policy (the “Policy”), which encourages all executive officers to accumulate a substantial ownership stake in Company shares. The Policy has the following key features:

•

Participants are encouraged to accumulate Company shares with a target value of a multiple of their base salary, ranging from one times base salary for Vice Presidents, three times for Senior Vice Presidents and five times for UniSource Energy’s CEO.

•

If a participant has not yet reached the applicable target ownership requirement, he or she is expected to retain a portion of the net after-tax shares acquired from any stock option exercise, vesting of restricted stock or earnouts related to the performance share award program. The applicable retention rates are 100% for the CEO, 50% for Named Executives who are Senior Vice Presidents and 25% for the other Vice Presidents.

•

Unexercised stock options, unvested stock options and unearned performance shares do not count towards meeting the ownership guidelines.

The Policy was adopted in 2005. Annually, management provides a report to the Compensation Committee regarding the number and value of the shares held by each executive officer subject to the guidelines. As of December 31, 2010, all of the Named Executives have achieved their target ownership level, other than Mr. Bonavia and Mr. Heyman, who were both hired after the Policy was adopted and are both making progress toward meeting the guideline. There is no specific time requirement for meeting the guideline.

In addition, in order to discourage short-term or speculative transactions involving its stock, UniSource Energy maintains an anti-hedging policy that prohibits its directors, officers and employees from (i) trading in securities on a short-term basis, (ii) short sales, and (iii) buying or selling puts and calls.

ELEMENTS OF POST EMPLOYMENT COMPENSATION

Termination and Change in Control

The Compensation Committee has determined that it is in the Company’s and shareholders’ best interest to enter into change in control agreements with its executive officers in order to attract highly qualified executives and to retain those executives through any future challenges that might arise. In 2010, following the expiration of old Change in Control Agreements originally executed in 1998, TEP entered into new Change in Control Agreements with three of its Named Executives (Messrs. DeConcini and Larson and Ms. Kissinger). An Employment Agreement for Mr. Bonavia and a Change in Control Agreement for Mr. Heyman were already in place at that time. All of these agreements were designed to be consistent with contemporary “best practices” by (i) reducing the severance multiple from three times in the prior CEO agreement to two times (current CEO), three times to one and one-half times (Senior Vice Presidents DeConcini, Heyman and Larson), and three times to one time (Vice President Kissinger); (ii) reducing the protection period from 60 months to 24 months; and (iii) eliminating the excise tax gross-up.

UniSource Energy also maintains a severance pay plan for all the Company’s non-union employees, including its Named Executives, which continues the Company’s historical practice of providing severance pay in certain termination situations without a change in control and provides consistency in that practice.

These various agreements are discussed in detail in the “Potential Payments Upon Termination or Change in Control” section beginning on page 51.

Retirement and Other Benefits

Benefits Generally

The Company offers retirement and other core benefits to its employees, including the Named Executives, in order to provide them with a reasonable level of financial support in the event of illness or injury and to enhance productivity and job satisfaction. The benefits are the same for all employees and Named Executives and include medical and dental coverage, disability insurance and life insurance. In addition, the Tucson Electric Power Company 401(k) Plan (the “401(k) Plan”) and the Tucson Electric Power Company Salaried Employees Retirement Plan (the “Retirement Plan”) provide a reasonable level of retirement income reflecting employees’ careers with the Company. All employees, including Named Executives, participate in these plans; the cost of these benefits (other than the Retirement Plan) is partially borne by the employee, including each Named Executive.

To the extent that any executive officer’s retirement benefit exceeds Internal Revenue Code (“IRC”) limits for amounts that can be paid through a qualified plan, the Company also offers non-qualified retirement plans, including the Tucson Electric Power Company Excess Benefit Plan (the “Excess Benefit Plan”) and the Management and Directors Deferred Compensation Plan (the “DCP”). These plans provide only the difference between the calculated benefits and the IRC limits. Benefits under the Excess Benefit Plan are provided to executive officers but, with limited exceptions, are not generally available to other employees. These benefits are not tied to any formal individual or Company performance criteria but are intended to enhance the attraction and retention value of the executive officer compensation program and are consistent with similar competitive compensation benefits made available to executives in the industry. UniSource Energy believes the DCP assists with the Company’s attraction and retention objectives since it provides an industry-competitive and tax-efficient benefit to the executive officers. The DCP is not funded by the Company and participants have an unsecured contractual commitment by the Company to pay amounts owed under the DCP. For more information on retirement and certain related benefits, see the discussion following the “Pension Benefits Table” on page 49 and the “Non-Qualified Deferred Compensation Table” on page 50.

IMPACT OF REGULATORY REQUIREMENTS

Under Section 162(m), compensation in excess of $1,000,000 paid during any year to the CEO and the three other most highly compensated executive officers (other than the CFO) will not be deductible for federal income tax purposes unless the compensation is awarded under a performance-based plan approved by the shareholders and satisfies certain other requirements. To the extent that the Company complies with the performance-based compensation provision of Section 162(m), the awards granted to the CEO and other Named Executives are tax deductible by the Company. The Company believes that all executive officer compensation earned in 2010 will be tax deductible.

The Compensation Committee believes that it is in the best interest of the Company to receive maximum tax deductibility for compensation paid to the Named Executives, although to maintain flexibility in compensating Named Executives in a manner designed to promote varying corporate goals, the Compensation Committee may award compensation that is not fully deductible under certain circumstances. The Company’s compensation plans reflect the Compensation Committee’s intent and general practice to pay compensation that the Company can deduct for purposes of federal income tax. Executive officer compensation decisions, however, are multifaceted. The Compensation Committee reserves the right to pay amounts that are not tax deductible to meet the design goals of UniSource Energy’s executive officer compensation program.

COMPENSATION COMMITTEE REPORT ON EXECUTIVE COMPENSATION

The Compensation Committee has reviewed and discussed with management the “Compensation Discussion and Analysis” section required by Item 402(b) of SEC Regulation S-K and contained in this Proxy Statement. Based on such review and discussions, the Compensation Committee recommended to the Board that the “Compensation Discussion and Analysis” section be included in the Company’s annual report on Form 10-K for the year ended December 31, 2010 and the 2011 Proxy Statement.

Respectfully submitted,

THE COMPENSATION COMMITTEE

Barbara M. Baumann, Chair
Lawrence J. Aldrich
Harold W. Burlingame
Robert A. Elliott
Louise L. Francesconi
Warren Y. Jobe
Ramiro G. Peru
Joaquin Ruiz

MINIMIZING COMPENSATION RISK

The Company officer compensation program includes the following features, which help reduce the likelihood of behaviors that could create material risk for UniSource Energy:

	•		Appropriate pay philosophy, peer group and market positioning to support business objectives
	•		Effective balance of:

	•		Cash and equity
	•		Short- and longer-term performance

	•		Performance objectives with a reasonable probability of achievement
	•		Use of multiple performance metrics in the annual and longer-term incentive programs

•

Focus on profitability, operational efficiency, and other non-financial metrics, as well as absolute and relative stock price appreciation

•

Discretion for Compensation Committee to reduce amounts earned based on subjective evaluation of quality of earnings, individual performance, etc.

•

Meaningful risk mitigators, including stock ownership guidelines, claw-back provisions, double trigger on equity vesting and independent Compensation Committee oversight

The Compensation Committee believes that these features adequately and appropriately deter behaviors that could create material risk for the Company.

SUMMARY COMPENSATION TABLE — 2010

The following table sets forth summary compensation information for the years ended December 31, 2008, December 31, 2009, and December 31, 2010 for the Company’s Named Executives:

																						Change in
																						Pension
																						Value and
																						Non-
																		Non-Equity				Qualified
																		Incentive				Deferred
																		Plan				Compen-				All Other
										Stock								Compen-				sation				Compen-
Name and		Year				Salary				Awards				Option Awards				sation				Earnings				sation				Total
Principal Position		($)				($)				($)(1)				($)(2)				($)(3)				($)(4)				($)(5)				($)
Paul J. Bonavia			2010				611,815				928,578				0				546,400				176,806				16,500				2,280,099
Chairman, President and Chief Executive Officer			2009				593,327				245,995				297,342				599,800				70,550				154,932				1,961,946
Kevin P. Larson			2010				333,439				337,328				0				185,000				263,910				15,504				1,135,181
Senior Vice President,			2009				339,027				167,830				162,026				204,300				36,310				15,256				924,749
Treasurer and Chief Financial Officer			2008				315,499				99,371				152,213				132,700				208,912				14,366				923,061
Michael J. DeConcini			2010				342,027				345,977				0				183,000				205,852				15,891				1,092,747
Senior Vice President,			2009				344,417				169,992				164,625				220,000				10,016				15,499				924,549
Operations			2008				320,112				100,910				154,623				134,800				161,064				15,485				886,994
Raymond S. Heyman			2010				333,439				337,328				0				180,000				254,009				15,504				1,120,280
Senior Vice President			2009				348,448				172,132				162,026				204,300				101,114				15,680				1,003,700
and General Counsel			2008				319,949				99,371				152,213				132,700				159,468				14,408				878,109
Karen G. Kissinger			2010				262,468				265,661				0				112,000				212,916				12,311				865,356
Vice President,			2009				267,359				137,265				127,574				138,000				8,869				12,031				691,099
Controller and Chief Compliance Officer			2008				248,493				78,334				119,943				83,700				205,525				11,182				747,177

(1)		The amounts included in the “Stock Awards” column reflect the grant date fair value calculated in accordance with FASB ASC Topic 718. The Company’s FASB ASC Topic 718 assumptions used in these calculations are set forth on pages 151-157 of the Company’s annual report on Form 10-K filed with the SEC on March 1, 2011, and available on its website www.UNS.com. To the extent that the stock awards are subject to performance-based vesting conditions, the amounts in the column reflect the probable outcome, excluding the effect of forfeitures. The maximum value for the 2010 performance share stock award, which is based on the closing price per share on the grant date, is $1,376,147 for Paul Bonavia, $499,918 for Kevin P. Larson, $512,736 for Michael J. DeConcini, $499,918 for Raymond S. Heyman and $393,708 for Karen G. Kissinger.
(2)		The amounts included in the “Option Awards” column reflect the full grant date fair value calculated in accordance with FASB ASC Topic 718. These amounts disregard estimates of forfeitures related to service-based vesting conditions.
(3)		The 2010 PEP awards included in this column were paid during the first quarter of 2011.
(4)		This column reflects the change in the actuarial present value of the accumulated benefit under all defined benefit plans (the Retirement Plan and Excess Benefit Plan). UniSource Energy does not pay “above market” interest on non-qualified deferred compensation; therefore, this column reflects change in pension value only. See the discussion of the non-qualified DCP on page 50.

(5) The amounts in the “All Other Compensation” column include the following payments that UniSource Energy made on behalf of the Named Executives:

										Non-
										Qualified
										Plan 401(k)
										Matching
										Contributions
						Qualified Plan				— Contributed
						401(k) Matching				in 2010				Charitable				Total
Name		Year				Contributions($)				($)				Contributions				($)
Paul J. Bonavia			2010				11,025				5,475				0				16,500
Kevin P. Larson			2010				11,025				3,979				500				15,504
Michael J. DeConcini			2010				11,025				4,366				500				15,891
Raymond S. Heyman			2010				11,025				3,979				500				15,504
Karen G. Kissinger			2010				11,025				786				500				12,311

The amounts in the “Charitable Contributions” column represent charitable gifts made by the Board on behalf of the Named Executives to a charity of each Named Executive’s choice.

GRANTS OF PLAN-BASED AWARDS — 2010

The following table sets forth information regarding plan-based awards to the Company’s Named Executives in 2010. The compensation plans under which the grants in the following table were made are generally described in the “Compensation Discussion and Analysis” section, beginning on page 26, and include the PEP, which provides for non-equity (cash) performance awards, and the 2006 Omnibus Plan, which provides for equity-based performance awards including stock options and performance shares.

																														Grant
																														Date
																														Fair
																														Value
																														of
						Estimated Possible Payouts Under												Estimated Future Payouts Under												Stock
						Non-Equity Incentive Plan Awards (1)												Equity Incentive Plan Awards (2)												and
						Thresh-								Maxi-				Thresh-								Maxi-				Option
						old				Target				mum				old				Target				mum				Awards
Name		Grant Date				($)				($)				($)				(#)				(#)				(#)				($)(3)
PAUL J. BONAVIA
PEP			2/11/2010				244,800				489,600				734,400
Performance Share			2/11/2010																12,776				30,060				45,090				928,578
KEVIN P. LARSON
PEP			2/11/2010				83,400				166,800				250,100
Performance Share			2/11/2010																4,641				10,920				16,380				337,328
MICHAEL J. DECONCINI
PEP			2/11/2010				85,600				171,100				256,700
Performance Share			2/11/2010																4,760				11,200				16,800				345,977
RAYMOND S. HEYMAN
PEP			2/11/2010				83,400				166,800				250,100
Performance Share			2/11/2010																4,641				10,920				16,380				337,328
KAREN G. KISSINGER
PEP			2/11/2010				52,500				105,000				157,500
Performance Share			2/11/2010																3,655				8,600				12,900				265,661