January 2021 Newsletter

January 18, 2021 | Newsletter

MINNESOTA – Tax Court has discretion to depart from default weightings to place equal weight on the cost and income approaches in unit valuation of petroleum pipeline.

Enbridge Energy, Limited Partnership owns and operates the Lakehead System, a pipeline system for the transportation of petroleum products. The Lakehead System is part of an operationally integrated pipeline system spanning roughly 2,200 miles from western Canada to the U.S. Great Lakes region and eastern Canada. In Minnesota, the Lakehead System extends 283 miles across portions of 13 counties. Under Minnesota law, pipeline systems are valued according to the unit-rule method. Enbridge challenged the valuation of the Lakehead System by the Minnesota Department of Revenue for tax years 2015 and 2016.

Enbridge’s appraiser prepared appraisals of the unit value of the property in 2015 and 2016 under the cost and income approaches. His calculations for the 2015 cost indicator of value included $1,107,446,503 for construction work in progress. He recognized that the pipeline property suffered external obsolescence representing a loss in value of 36.89 percent in 2015 and 43.9 percent in 2016. Because Enbridge’s appraiser determined that the existence of external obsolescence reduced the reliability of the cost approach, he attributed 80 percent weight to the income approach and 20 percent weight to the cost approach, for a unit value of $5,300,000,000 in 2015 and $5,500,000,000 in 2016.

The Commissioner’s appraiser estimated that the property was more valuable than the Commissioner had originally assessed, and nearly twice as valuable as Enbridge’s appraiser’s estimates. His 2015 cost indicator of value included $3,682,488,025 for construction work in progress. He determined that no external obsolescence affected the property as of either assessment date, and applied equal weight to the cost and income approaches.

The Tax Court determined that the Commissioner had undervalued the property in each year. Because the Commissioner agreed that Enbridge’s appraiser had used the appropriate construction work in progress balance for 2015, the Tax Court adopted his figures. The Tax Court rejected Enbridge’s arguments regarding external obsolescence, and weighted the cost and income indicators of value equally.   Enbridge appealed, contending that the Tax Court – and its own expert had overstated the amount of the construction work in progress, that it was entitled to a reduction in market value to accurately reflect the impact of external obsolescence; and that the Tax Court erred by weighting the cost and income indicators of value equally to determine the unit value of the pipeline system.

The Minnesota Supreme Court rejected Enbridge’s argument that indirect construction expenses should be excluded from the construction work in progress estimate, observing that both direct and indirect costs are essential to a reliable cost estimate, which aims to capture the expenses a third party would pay to construct a duplicate property. The Court agreed with Enbridge that, because the Lakehead System suffered from industry-wide obsolescence, the Tax Court erred by requiring proof that Enbridge’s property was more adversely affected than other comparable properties.  However, the Court treated the error as harmless, because the Tax Court’s finding that Enbridge had failed to show external obsolescence was based primarily on its conclusion that the methodology used by Enbridge’s appraiser lacked credibility and reliability. The Court found that the Tax Court did err in determining that it had no discretion but to give equal weight to the cost and income approaches, and remanded to allow the Tax Court to consider whether the circumstances of the case dictated a need to depart from the default weightings.

Enbridge Energy, Limited Partnership v. Commissioner of Revenue, 945 N.W.2d 859 (Minn., 2020).

SOUTH CAROLINA – Assessor’s use of third-party mailing service to deposit property tax assessment notices with United States Postal Service constitutes service on addressee and triggers statutory 90-day appeal period.

Tadros purchased two parcels of property in Richland County in 2014 for $1.85M. The Assessor mailed property tax assessment notices for both properties to Tadros’s last known address through a third- party company, which deposited the notices with the U. S. Postal Service on July 17, 2015. The Assessor then mailed tax bills (using the third-party company to deposit with USPS) for both properties to the same address on October 28, 2015. No mail addressed to Tadros was returned to the Assessor.

 Tadros submitted a written appeal of the property tax assessment notices to the Assessor on March 16, 2016. The Richland County Board of Assessor Appeals found the appeal was not timely and denied review of the valuation of the parcels, and Tadros appealed. At the Administrative Law Court hearing, Tadros testified that he did not expect to receive any correspondence from the Assessor, because he had arranged to have the taxes impounded and paid by his lender. He testified he received the tax bills in January or February of 2016.  The Administrative Law Court reversed and found the appeal was timely, and the Assessor’s valuation of the two parcels was incorrect. The Court found the Assessor mailed two property tax assessment notices to Tadros on July 17, 2015, and mailed two tax bills to Tadros on October 28, 2015. However, because no information showed final delivery to Tadros and because Tadros denied that he received the notices, the Court found the property tax assessment notices were never delivered, and that Tadros’s first actual notice of the assessment occurred when he received the tax bills in February 2016. In the order denying reconsideration, the Court stated that South Carolina law does not contemplate the use of a third party mailing service, and because the service was used, “the [A]ssessor has never mailed the assessment notice.” The Assessor appealed.

The Court of Appeals reversed the Administrative Law Court.  The Court noted that under South Carolina law, a property tax assessment notice “must be served upon the taxpayer personally or by mailing it to the taxpayer at his last known place of residence.”  S.C. Code Ann. § 12-60-2510(A)(2) (Supp. 2019). Here, the record reflected the property tax assessment notices were properly addressed with sufficient postage and deposited with the USPS. The Assessor was within its discretion to use a third-party mailing service to deposit the notices with the USPS. Further, the Court observed that there is no additional statutory requirement requiring proof of when the notice arrived at the destination or that the notice was received. Under S.C. Code Ann. § 12-60-2510(A)(3) (Supp. 2019), the taxpayer, “within ninety days after the assessor mails the property tax assessment notice, must give the assessor written notice of objection.” Because Tadros failed to give timely written notice of objection within 90 days of mailing, the Assessor was within its statutory authority to deny the appeal.

Tadros v. Richland County Assessor, 2020 WL 5035284 (S.C. Ct App. Aug. 26, 2020).

ILLINOIS – Tax abatement resolution to induce construction of power generation facility does not benefit subsequent property owner absent express indication that it runs with the land.

In 2000, the Rock Falls Township High School District No. 301 adopted a “Resolution Granting Real Estate Tax Abatement To LSP-Nelson Energy, LLC,” agreeing to abate property taxes on 62 acres of property in Lee County owned by LSP-Nelson Energy. The 2000 Resolution allowed the Board to abate a portion of its taxes to induce the installation of a power-generation facility on the property. The resolution stated that the tax abatement would apply to only new physical improvements on the property and would last for five consecutive years, beginning with the first full year of the facility’s commercial operation. Each year the percentage of taxes abated decreased, from 90% in the first year to 10% in the last year. The total abatement could not exceed $4 million. The 2000 Resolution also stated that the Board would take all further action necessary to abate taxes as stated within the resolution. A certified copy of the resolution was filed with the County Clerk of Lee County.

 LSP-Nelson Energy filed for bankruptcy in 2003 and never completed the power-generation facility. In 2004, Invenergy purchased the property from LSP-Nelson Energy’s bankruptcy estate, and thereafter constructed a power-generation facility on the property. It became operational in 2016.  In April 2017, Invenergy approached the District seeking the property tax abatement provided by the 2000 resolution. In response, the District adopted another resolution directing the Lee County Collector not to apply the property tax abatement on the basis that the abatement had expired by its own terms and was superseded by a District policy adopted in 2007. The District acknowledged that the property had been sold to Invenergy but noted that Invenergy itself had never submitted any requests to the District for a tax abatement resolution.

Invenergy responded by filing a complaint for tax objection with the District and the Lee County Collector, alleging that the tax abatement provided by the 2000 resolution enticed it to purchase the property and spend millions to construct a fully operational power-generation facility on the property. Invenergy alleged that the tax abatement “ran with the land,” and that, when it purchased the property, it acquired LSP-Nelson Energy’s rights to the tax abatement. The complaint requested a refund of taxes that were overpaid due to the improper withholding of the tax abatement and a declaratory judgment that Invenergy was entitled to the tax abatement for the years 2017 through 2020.

The District filed a motion to dismiss the complaint, which the trial court partially granted. The trial court noted that the 2000 resolution specifically granted the tax abatement to LSP-Nelson Energy, and not to Invenergy.  Further, pursuant to the Tax Code, tax abatements could not exceed 10 years and Invenergy was seeking the application of the 2000 resolution 16 years after its effective date. The trial court found that, under the 2000 resolution, the parties clearly contemplated that the abatement would be “granted within a reasonable period of time.” The trial court also noted that the 2000 resolution provided that the assessed valuation of the property would be the triggering event for the tax abatement, but it found that there was no way to determine the assessed valuation, since the project was not completed and placed in service for almost 16 years.

On appeal, the Appellate Court held that the 2000 resolution, by its plain language, did not run with the land, explaining that there was “simply no indication that the offer extended to LSP-Nelson Energy would also extend to an outside party such as Invenergy.” Invenergy’s allegation that the resolution was filed with the county clerk of Lee County was inconclusive because there was no allegation that the resolution was recorded with the deed to the property.  Having affirmed the trial court on the basis that the 2000 resolution did not run with the land, the Appellate Court did not address the trial court’s other grounds for dismissal.

Invenergy Nelson LLC v. Rock Falls Township High School District No. 301, — N.E.3d —- (IL App (2d), May 12, 2020) 2020 WL 190374.

KANSAS – Property Valuation Division’s use of the minimum lease value for marginally producing gas wells causes an assessed valuation greater than the fair market value and violates the statutory directives to determine the actual fair market value rather than an arbitrary value for assessment purposes.

In June 2016, River Rock Energy Company acquired a series of producing gas wells, leases, and related assets and equipment in Kansas and Oklahoma through a bankruptcy sale. River Rock’s purchase allocated $1,716,847 to the 2,150 well properties in Labette, Neosho, and Wilson Counties. After taking possession, River Rock learned the Counties assigned a total appraised value of $13,522,670 to its wells, most of which had been assigned a minimum lease value in accordance with the Guide promulgated by Kansas Department of Revenue’s Property Valuation Division. River Rock failed in its attempts to appeal the valuations with the Counties and timely filed payment under protest applications with Kansas Board of Tax Appeals for all 2,150 wells. The Board upheld the Counties’ valuations, finding the use of the Guide’s minimum lease values was legally and factually appropriate, and that River Rock failed to show the evidence warranted a departure from the Guide’s prescribed valuation method for each well and the valuation method for the equipment values on each well. River Rock appealed.

The Property Valuation Division’s Guide provides that oil and gas wells, together with related equipment and material, are personal property, and Kansas requires that personal property be valued at its “fair market value in terms of money.” Relevant factors to consider when appraising oil and gas wells and leases for property tax purposes include: “the age of the wells, the quality of oil or gas being produced therefrom, the nearness of the wells to market, the cost of operation, the character, extent and permanency of the market, the probable life of the wells, the quantity of oil or gas produced from the lease or property, the number of wells being operated, and such other facts as may be known by the appraiser to affect the value of the lease or property.” K.S.A. 79-331(a).

The Property Valuation Division’s Guide uses minimum lease values as an appraisal method for marginally producing wells. The Guide allows a maximum lease operating expense allowance of 90% of the working interest value to be deducted. River Rock produced evidence of two wells producing slight amounts of gas, yet the allowable expenses (operating costs, wellhead compression, and water expenses) yielded a zero or negative gross working interest value based on current market conditions. River Rock argued that use of minimum lease value instead of actual gross working interest value as the method of deducting operating expenses for taxpayer’s marginally-producing oil and gas wells prevented the appraised gross working interest in any producing well from ever dropping to or below zero, and therefore precluded oil and gas wells and leases from being appraised at fair market value using the statutorily enumerated factors.  The Appellate Court agreed that limiting operating expenses deductions to minimum lease value arbitrarily inflated the valuation of River Rock’s wells with a zero or negative gross working interest value based on market conditions and the costs of operation, which the statute required the Property Valuation Division to consider, and further impermissibly precluded an appraiser from reconciling the two values to determine a reasonable fair market value of the property for tax purposes, which the statute also required . Kan. Stat. Ann. §§ 79-331(a), 79-501, 79-503a. The Court held that the use of the minimum lease value caused an assessed valuation greater than the fair market value for the subject wells, which violated the statutory directives to determine the actual fair market value rather than an arbitrary value.

 In the Matter of River Rock Energy Company, 58 Kan.App.2d 98, 464 P.3d 344 (April 10, 2020).

NORTH CAROLINA – Court of Appeals rejects taxpayer’s use of depreciation schedules based on market sales of comparable used equipment to value grocery store chain’s personal property.

Harris Teeter is a supermarket chain which appealed the County’s appraisal of its business personal property at six of its stores within the County to the Property Tax Commission. The County Assessor, using the replacement cost approach to value the property, assessed it at $21,434,313. Considering the value of each item of equipment as part of a going concern, he took the original cost of the equipment as reported by Harris Teeter and applied the North Carolina Department of Revenue depreciation schedules and the trending schedules within the County’s valuation software to arrive at the valuation. He made no additional adjustment for functional or economic obsolescence. Harris Teeter’s appraiser conducted his own assessment using the replacement cost approach and arrived at a valuation of $13,663,000. He testified that he applied his firm’s preferred depreciation schedules to the original cost of each item of equipment and then adjusted the valuations derived from the schedules based upon actual data he derived from market sales of comparable used equipment. These market sales, he said, tended to show that used grocery store equipment equivalent in age and specifications to taxpayer’s property sold for prices drastically below the County’s appraised values. He testified that these low market prices for used grocery store equipment necessitated downward adjustment of any values produced by depreciation schedules to reflect additional economic and functional obsolescence not captured by the schedules used by the County. The Commission found that the evidence supported the County’s valuation and was a reasonable estimate of true value.

On appeal to the Court of Appeals, Harris Teeter argued that the Commission erred by finding as fact that functional and economic obsolescence did not affect its personal property, and were therefore inappropriate to apply in any downward adjustment of the values reached from application of the depreciation schedules.  The Court of Appeals rejected its argument and agreed with the Commission.  The evidence showed that the equipment in the six supermarkets did not become functionally obsolete due to periodic renovations of each store, during which most equipment has a routine replacement schedule of approximately six years. Further, there was nothing in the record to suggest that the equipment in question was failing to perform adequately the job for which it was intended due to design or economic factors. 

The Court of Appeals also agreed that the evidence did not justify a finding of economic obsolescence.  The Commission found that the market prices for used grocery store equipment in the secondary market were an inappropriate consideration because the market for new, installed equipment, such as that used in the Harris Teeter stores, was not the same as the market for used, uninstalled equipment that has been effectively discarded through store closures or even remodels. The Commission also reasonably concluded that the marketplace for used equipment, even at the upper end of sales, was closer to a liquidation value for the equipment than to the true value of installed, adequately functioning equipment. Finally, the Commission correctly found that even if the secondary market provided relevant information for sales of equipment comparable to the Harris Teeter property, its appraiser had failed to consider delivery and installation costs not built into the prices fetched in the secondary market:

Matter of Appeal of Harris Teeter, LLC, 845 S.E.2d 131 (N.C. App., June 2, 2020)

NINTH CIRCUIT COURT OF APPEALS– Court of Appeals upholds railway’s challenge to Oregon’s intangible property tax under 4-R Act.

All real and tangible personal property situated within Oregon is subject to assessment and taxation by county assessors. But unlike most other commercial and industrial entities, the property of railroads and thirteen other industries is centrally assessed, and they must also pay taxes on their intangible personal property. For the first time in 2017, the Department of Revenue began including BNSF Railway Company’s intangible personal property in the railway’s property value assessments, which resulted in a tax liability thirty percent higher than the previous year. BNSF filed suit under the Railroad Revitalization and Regulatory Reform Act of 1976 (“4-R Act”), alleging the tax on its intangible personal property is “another tax that discriminates against a rail carrier.” 49 U.S.C. § 11501(b)(4).

 The 4-R Act prohibits states and localities from assessing rail transportation property at a value that has a higher ratio to the true market value of the rail transportation property than the ratio that the assessed value of other commercial and industrial property in the same assessment jurisdiction has to the true market value of the other commercial and industrial property, and from levying or collecting a tax on such an assessment.

On cross-motions for summary judgment, the District Court ruled that BNSF could challenge the intangible property tax under 49 U.S.C. § 11501(b)(4), that the proper comparison class for BNSF was Oregon’s commercial and industrial taxpayers, and that the intangible personal property tax assessment discriminated against BNSF in violation of the 4-R Act. The Court of Appeals affirmed.

The Court of Appeals first rejected the Department of Revenue’s claim that Supreme Court precedent forecloses railroads’ ability to challenge any property tax scheme under 49 U.S.C. § 11501(b)(4). The Court analyzed the applicable cases and concluded that it allowed railroads—either alone or as part of some isolated and targeted group—which are the only commercial entities subject to an ad valorem property tax to challenge the tax under the statute.   The Court also rejected the Department of Revenue’s attempt to characterize its intangible personal property tax as “generally applicable” and claim that BNSF’s challenge was no more than a demand for exemptions offered to other taxpayers. The Court agreed with the District Court characterization, instead describing Oregon’s “property tax law as two systems: one that taxes intangible personal property and one that does not tax intangible personal property.” Finally, the Court concluded that BNSF had proven that its tax treatment violates the 4-R Act, since it treated groups that are similarly situated differently without sufficient justification for the difference in treatment.  BNSF and its fellow centrally assessed taxpayers were treated differently than Oregon’s locally assessed commercial and industrial taxpayers, and the Department’s claim of “administrative convenience” did not sufficiently justify the disparate treatment.

BNSF Railway Company v. Oregon Department of Revenue, 965 F.3d 681 (9th Cir., 2020).