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January 2017 Newsletter

January 31, 2017 | Newsletter
ARIZONA – Arizona Court of Appeals holds that recently amended A.R.S. § 42-14155, allowing for reduction of taxable value by amount of tax credits or cash grants commonly afforded wind and solar energy equipment, does not apply retroactively.

Siete Solar LLC, Mesquite Solar LLC, and Perrin Ranch Wind LLC operate electric generation facilities that use renewable energy equipment. Siete Solar received a rebate, or reimbursement, in the form of an investment tax credit from the federal government totaling 30% of the qualifying amount it spent to build its facility. Perrin Wind and Mesquite Solar received cash grants in lieu of tax credits equal to 30% of the qualifying amount they spent to build their facilities.

For the 2014 tax year, the taxpayers reported the cost of their facilities as the cost to build the facilities less the amounts they received as federal tax credit or grants. However, when the Department performed its valuation of their property pursuant to Arizona Revised Statute § 42-14155, it added the amount of the federal tax incentives back into the amount the taxpayers reported before applying the valuation formula. The taxpayers appealed these valuations to the State Board of Equalization, which upheld the Department’s valuations, and the taxpayers then appealed to Superior Court.

After the taxpayers filed their appeal, A.R.S. § 42-14155 was amended to exclude “the value of any investment tax credits, production tax credits or cash grants in lieu of investment tax credits applicable to the taxable renewable energy equipment” from taxable value. The amendment became effective on July 24, 2014, while the appeal was pending. The taxpayers filed a motion for summary judgment, claiming that the 2014 amendment applied to the litigation. The Superior Court held that the amendment was a change, not a clarification of the law, and therefore was not retroactive; the Court thus denied the taxpayers’ motion for summary judgment and granted the Department’s cross motion for summary judgment. The taxpayers then appealed to the Court of Appeals.

On appeal, the Court of Appeals held that the 2014 amendment did not apply to the taxpayers’ appeals because a statute “must contain an express statement of retroactive intent before retroactive application may occur,” and there was nothing in the amendment suggesting that it was intended to apply retroactively. The Court also rejected the taxpayers’ claim that the 2014 amendment was intended to clarify the existing law, rather than change it. The Court reasoned that “[i]f the legislature intended the Department to use the cost to the taxpayer after receipt of tax credits in valuing renewable energy property, it would have explicitly directed the Department to do so. In fact, the 2014 amendment does just that.” Instead, said the Court, the prior statute’s complete lack of any specific definition of cost, coupled with a definition that conformed to the plain meaning of the term (before application of tax credits or cash grants), supported its interpretation. The Court also noted that the federal tax incentives providing qualifying facilities with a one-time tax credit or cash grant in the amount of 30% of the renewably energy project’s cost were not in effect when the legislature first adopted the original version of the statute in question, so they could not have been within the legislature’s contemplation.

Siete Solar LLC v. Arizona Department of Revenue (Arizona Court of Appeals, December 10, 2015) 2015 WL 8620672.

CALIFORNIA – Court of Appeals holds that telephone company’s failure to request refund in petition for reassessment precludes claim for $9 million in overpaid taxes.

Sprint Telephony PCS, L.P. and related companies filed an action seeking a refund of taxes they paid on property assessed by the California Board of Equalization. In order for a telephone company to file such a judicial tax-refund action, the California Tax Code requires that it must first file a petition for reassessment with the Board, stating “in the petition [that] it is intended to … serve [as a claim for refund]” (Rev. & Tax. Code, § 5148, subds. (f), (g)(1)). Sprint filed a petition for reassessment but did not state in it that the petition was also intended to serve as a claim for refund. Relying on the plain language of the statute, the trial court granted summary judgment in the Board’s favor.

On appeal, the California Court of Appeals affirmed. The Court explained that “[a]lthough requiring a telephone company to state in its reassessment petition that it is claiming a refund as a prerequisite for filing a judicial tax-refund action serves limited practical purposes, the requirement is plain and compulsory.”

California property owners who dispute the government’s assessment of their property for tax purposes may request to have the property reassessed at a lower valuation and may request a refund of excess taxes that were paid based on an over-valuation. They must make both requests before bringing a judicial tax-refund action. In many situations, the same government body considers these two requests and can grant or deny the relief sought, and in such cases property owners may submit the two requests either together or separately. When taxpayers of county-assessed property seek reassessments and refunds, for example, they may either state in their applications for reassessment that they want a refund or they may file a separate claim for refund with the county (§ 5097, subds. (b) & (c); see §§ 1603-1604).

This case, however, involved the unique assessment-and-refund procedure applicable to certain entities, including telephone companies such as Sprint, which typically hold property in multiple counties. The California Constitution requires the Board annually to assess telephone companies’ property at fair market value. The assessment is allocated among the jurisdictions in which the property is located, and each county is responsible for collecting the taxes owed by the telephone company in that county. The Board and the individual counties thus play separate roles. The Board is responsible for assessing the property at a statewide level, but the individual counties are responsible for collecting the taxes that have been allocated to them.

Before 1987, there was a three-step process for seeking refunds of taxes paid on excess valuations of property owned by telephone companies. The company was required to file (1) a petition for reassessment with the Board, (2) a claim for refund in each county where it had property, and (3) an action for refund in the Superior Court of each county in which it sought a refund. The legislature streamlined the appeals process in 1987, eliminating the requirement that telephone companies file refund claims in each county before seeking judicial relief. However, companies must still comply with certain procedural requirements unique to them, including first filing a petition with the Board for a reassessment stating that a refund is claimed and paying any disputed tax. The Court of Appeals affirmed the trial court holding that the notice requirement, while serving few practical purposes, is not irrational and must be enforced in accordance with the statute’s plain language.

Sprint Telephony PCS, L.P. v. State Board of Equalization, 238 Cal.App.4th 871, 189 Cal.Rptr.3d 673 (Cal. Court of Appeal (September 30, 2015).

MASSACHUSETTS – Supreme Judicial Court rejects telephone companies’ constitutional claim to taxation of personal property at same rate as commercial and industrial real property.

Verizon New England Inc. and RCN BecoCom LLC are subject to property tax in the city of Boston on personal property consisting primarily of machinery, poles, underground conduits, wires, and pipes that the two telephone companies own and use for business purposes. The companies appealed from a decision of the Appellate Tax Board upholding the 2012 property tax assessments by the Boston assessors for fiscal year 2012 on certain personal property each company owns, rejecting their argument that the assessments, which were based on a “split” tax rate structure determined in accordance with G.L. c. 40, § 56, constituted a disproportionate tax violating the Massachusetts Constitution. § 56 provides that taxable personal property shall be taxed at a rate identical to the rate applied to commercial and industrial real property but higher than the rate that would apply if all taxable property, real and personal, were taxed at a single uniform rate.

Part II, c. 1, § 1, art. 4 of the Massachusetts Constitution, as amended in 1978 by art. 112 of the Amendments, permits the legislature to establish different classes of real property and to tax the different classes at different rates, so long as all real property within a class is taxed at the same rate. Pursuant to the enabling legislation, the City of Boston established four classes of real property (residential, open space, commercial, and industrial) and adopted a rate structure taxing commercial and industrial real property and personal property at the same rate. The telephone companies argued that the assessors should have imposed a tax rate on personal property that would result in owners of personal property being responsible only for their proportionate share of the tax levy, measured by the relative value of their personal property compared to the total value of all the taxable property in Boston, real and personal. They challenged the split tax structure as unconstitutional on the grounds that it imposes a disproportionate tax on owners of personal property and there is no constitutional authority to do so.

The Massachusetts Supreme Judicial Court rejected the telephone companies’ argument and affirmed the Board’s decision. The purpose of art. 112, said the Court, was to enable cities and towns to tax residential property at an effective rate different from and lower than other property. The enabling legislation adopted by the Massachusetts legislature effectuates this overarching objective of art. 112, and does so in a manner that retains proportionality to a large extent by treating nonexempt personal property—which, as in this case, is used for business purposes—the same as commercial and industrial real property.

Verizon New England Inc. v. Board of Assessors of Boston, 475 Mass. 826, __N.E.3d__ (November 2, 2016).

OREGON – Cities’ interest in electrical transmission capacity, purchased from electrical cooperative and used to transmit electricity over region’s federally administered power grid, is subject to property tax by Department of Revenue as a property interest held by a taxpayer.

Three municipal corporations located in Washington State (Seattle, Tacoma, and Public Utility District No. 1 of Snohomish County) each own an interest in electrical transmission capacity that was purchased from the Bonneville Power Administration and used for transmitting electricity over the Northwest’s federally administered power transmission grid. The municipalities appealed from a summary judgment ruling by the Tax Court concluding that, because much of the grid is located in Oregon, their interests in electrical transmission capacity could be taxed by the Oregon Department of Revenue as a property interest “held” by taxpayers, under ORS 307.060.

As part of their municipal functions, the three municipalities generate and sell electricity to local consumers. They also buy and sell electricity on a wholesale basis, trading with other public and private entities throughout the western United States. They do not, however, own transmission networks of sufficient scope and capacity to transmit that electricity between their various trading partners. Consequently, in order to commercially transport electric power throughout the region, they rely on the Pacific Northwest/Pacific Southwest Intertie, a system of power lines and substations that stretches from the state of Washington to southern California. The Pacific Northwest portion of the Intertie is located primarily in Oregon.

The Northwest AC Intertie substantially increased the system’s transmission capacity, and in response, the federal government gave certain nonfederal regional entities that traded electricity on a wholesale basis an opportunity to secure rights to a permanent portion of that system’s excess transmission capacity. Eight such utilities—including the three municipalities in this case—entered into contracts with the owners of Northwest AC Intertie known as Capacity Ownership Agreements. Those agreements require that an upfront lump sum payment be made to the owners reflecting each user’s estimated pro-rated share of capital and related costs, and users were also required to pay 21 percent of the system’s annual operating and maintenance costs. In return, the user receives a life-of-the-facility right to use a specific portion of the system’s excess transmission capacity.

In several seminal cases, the Oregon Supreme Court had decided that any taxpayer possessing permanent rights to the Intertie in Oregon “held” a possessory interest in that system that should be included in the assessed value of the taxpayer’s property, and that a taxpayer’s “use” of a power facility also could serve as a basis for taxation under Oregon’s tax statutes. These cases established alternative bases for taxing facilities in Oregon that are used to generate and/or transmit electricity. This type of property interest ordinarily is subject to Oregon property taxes and is centrally assessed by the Department of Revenue Services. Central assessments can be based either on a taxpayer’s possessory interest in such facilities or on the taxpayer’s use of such facilities.

The Oregon legislature later enacted a law expressly exempting foreign municipal corporations, like the taxpayers in this case, from taxation on Intertie-related property rights conferred by Capacity Ownership Agreements, but the law was repealed in 2005.
The Oregon Supreme Court rejected the municipalities’ claims that their interests were not taxable, holding that the degree of exclusivity and control enjoyed by the three municipalities with regard to their capacity shares in the Intertie demonstrated that they held a “possessory interest” in the Intertie sufficient to establish the taxability of those shares under prior caselaw. The Court also rejected the municipalities’ argument that the 2005 legislative repeal of the exemption was invalid and violated the provision of the Oregon Constitution requiring that “bills raising revenue” originate in the state House of Representatives.

City of Seattle v. Department of Revenue, 357 Or. 718, 357 P.3d 979 (September 11, 2015).

CONNECTICUT – Discounted cash flow method may be used in valuation of trash-to-energy plant.

Wheelabrator, which operates a 138,494 sq. ft. “trash-to-energy plant” in Bridgeport, Connecticut, challenged its real and personal property assessments for the 2007, 2008, 2010, and subsequent tax years. The trial court dismissed the appeals of the 2007 and 2008 assessments for lack of standing but found that the proper parties had appealed the assessment for the 2010 tax year. At trial, the appraisers for Wheelabrator and the City of Bridgeport both primarily relied on the discounted cash flow income approach and combined the real estate, improvements to the land, and personal property at the site into one single asset for purposes of valuation and assessment. The court rejected this approach, concluding that the “reproduction cost approach is the only credible approach available to determine the fair market value of the plant.” Using the data presented by the appraisers, the trial court reduced the real property valuation on which the 2010 assessment was based from $401,624,570 to $312,017,430, but denied the personal property component of the plaintiff’s valuation appeal on the basis that the evidence presented to the court was insufficient to warrant a reduction.

On direct appeal, the Connecticut Supreme Court concluded that the trial court had improperly rejected the discounted cash flow approach to the valuation of the plant as a matter of law. The Court began by noting that it had previously sanctioned the valuation of real estate by first valuing the going concern associated with the property, based on an income capitalization approach. Although the Court had not directly addressed the issues of whether the specific discounted cash flow approach to valuing a going concern could be employed for property tax assessment purposes in an appropriate case or whether the general income approach may be employed to appraise property that does not have a rental market, it refused to categorically bar those approaches. Indeed, in the present case, expert witnesses for both sides had testified that the income approach—more specifically, the discounted cash flow approach—was the best method for valuing the property, because market participants would use that method to determine the price that they would pay for the property.

However, the Court refused to accept Wheelabrator’s invitation to remand the case to the trial court and direct that court to apply the discounted cash flow approach to the valuation of the plant, having only concluded that the trial court improperly determined that the discounted cash flow approach cannot be employed in the present case as a matter of law, not that it must be employed as a matter of law.

Wheelabrator Bridgeport, L.P. v. City of Bridgeport, 320 Conn. 332, 133 A.3d 402 (February 2, 2016).

OREGON – Supreme Court affirms Tax Court decision that non-core buildings constitute functional depreciation detracting from property’s real market value, and that when accounting for this depreciation under the cost approach, the “value of the loss”—the appropriate reduction in replacement value—must be determined with reference to the property’s highest and best use.

Hewlett Packard sought review of Benton County’s property value assessment, which was based on a determination that its construction of non-core buildings contributed to, rather than detracted from, the real market value of its 178-acre manufacturing and research campus in Corvallis, Oregon. The Tax Court agreed with HP, finding that the presence of non-core buildings actually detracted from the overall property’s real market value. The Department of Revenue appealed.

At the hearing before the Tax Court, the parties disputed both the highest and best use of the property and the real market value of the property at that use. According to HP’s expert, the highest and best use of the property was to continue using it in the same manner that HP had been using it: as a single-purpose, owner-occupied facility serving a variety of “manufacturing and research and development operations.” HP’s expert testified that, given the market of potential buyers for that type of property, a potential purchaser could not cost-effectively make productive use of the non-core space. Instead, HP’s expert concluded that a potential purchaser would simply leave the non-core space vacant while making productive use of the core space.

The Department of Revenue’s expert testified that “the space not used by a hypothetical purchaser of the property—the so called ‘non-core’ space—would be absorbed by other users in the market, at very healthy lease rates and with few, if any, conversion costs to make the existing space attractive at such lease rates.” According to this expert, the property’s highest and best use would consist of multiple uses, where a potential purchaser would use the core space for its own research and manufacturing and use the non-core space as marketable rental property generating rental income.

The Tax Court held that the highest and best use of HP’s property was the continuation of its current use as a single-tenant, owner-occupied research and manufacturing facility. The Tax Court also held that, of the numerous buildings on the campus, a potential purchaser would anticipate using only certain “core” buildings and would not anticipate using the “non-core” buildings. As a result, those non-core buildings were components of the property that prevented it from cost-effectively serving its highest and best use. To assess the value of the loss caused by the presence of the non-core buildings, the Tax Court calculated the additional operating expenses that an owner would incur while operating the subject property—including both core and non-core space—as compared to the operating expenses that an owner would incur while operating a cost-effective version of the property consisting of only the core space.

On appeal, the Department of Revenue did not challenge the Tax Court’s findings that the non-core buildings were an overdevelopment or that the highest and best use of the property was as a single-tenant, owner-occupied research and manufacturing facility. Rather, the Department claimed that the Tax Court erred by calculating the “value of the loss” as if a potential purchaser would make no alterations to the subject property. The Department argued that the Tax Court should have calculated the value of the loss as if a potential purchaser would convert the non-core space into marketable rental space, which, according to the Department, would result in more value than leaving the non-core space vacant.
The Supreme Court rejected the Department’s argument as inconsistent with its own rules of valuation. The Department of Revenue’s administrative rules define both “highest and best use” and “value of the loss.” A property’s highest and best use is defined as the most profitable use that a potential owner could make of the property. The value of the loss measures the negative value created by components of the property that prevent it from cost-effectively serving its highest and best use.

The Supreme Court observed that the Department’s argument with respect to the “value of the loss” presumed that the most valuable use of the non-core buildings was as marketable rental space. The Tax Court found that the highest and best use of the property was as a single-tenant, owner-occupied research and manufacturing facility, a finding which was not challenged on appeal by the Department. The Supreme Court therefore assumed that the highest and best use of the non-core buildings was to leave them unaltered rather than to convert them into marketable space. In light of that assumption, the Tax Court properly identified the value of the loss as the additional operating expenses that an owner would incur to operate the subject property compared to a more cost-effective option.

Hewlett-Packard Company v. Benton County Assessor, 375 Or. 598 (August 6, 2015).