July 2014 NewsletterJuly 1, 2014 | Newsletter
CALIFORNIA – Intangible assets have a quantifiable fair market value which must be deducted from an income stream analysis prior to taxation.
Intangible assets and rights are exempt from taxation in California. SHC Half Moon Bay, LLC (SHC), owner of the Ritz Carlton Half Moon Bay Hotel, claimed the property tax assessment conducted by the San Mateo County Assessor erroneously inflated the value of the hotel by including $16,850,000 in nontaxable intangible assets, specifically: (1) the hotel’s workforce; (2) the hotel’s leasehold interest in the employee parking lot; (3) the hotel’s agreement with the golf course operator; and (4) goodwill. On appeal from the County Assessment Appeals Board, SHC argued that the variation of the income approach the Assessor used to assess the hotel violates California law by failing to identify and remove the value of intangible assets. The trial court sustained the Board’s decision and SHC appealed to the Court of Appeal.
According to SHC, the proper method to exclude intangible assets from the assessment was not simply to deduct the hotel’s management and franchise fee, but to identify, value, and deduct specific categories of assets in accordance with Section 502 of the California Assessors’ Handbook, which provides that “the deduction of [a] management fee from the income stream of a hotel does not recognize or remove the value attributable to the business enterprise that operates the hotel.” SHC argued the Assessors’ Handbook is “completely at odds” with the Assessor’s appraisal and claimed the deduction of a management and franchise fee did not adequately remove intangible property from the assessment.
The County countered that SHC’s appraisal applied a “controversial methodology that is not generally followed in the appraisal industry or by the Assessor’s Offices for valuing hotel real property.” As the County explained, SHC’s method “essentially places a per square foot dollar value on the land and improvements and subtracts that amount from the purchase price. What is left, [SHC] says, is its ‘intangible’ goodwill value,” which it claims “cannot be taxed.” The County contended that SHC’s “assumptions and methodology … do not reflect the realities of the hotel market. The method used by the Assessor (popularly known as the Rushmore Method) better recognizes those realities and is supported by the Appraisal institute.” The Rushmore Method, developed by Stephen Rushmore, allocates a hotel’s value among the real, business, and personal property components: it separates the business component by deducting management and franchise fees from the hotel’s stabilized net income and handles the tangible personal property component by deducting a reserve for replacement along with the actual value of the personal property in place.
The Court of Appeal held that the deduction of the management and franchise fee from the hotel’s projected revenue stream pursuant to the income approach did not—as required by California law—identify and exclude intangible assets such as the hotel’s assembled workforce, the hotel’s leasehold interest in the employee parking lot, and the hotel’s agreement with the golf course operator, but did, however, exclude the intangible asset of goodwill. The case was reversed and remanded. SHC Half Moon Bay v. County of San Mateo, — Cal.Rptr.3d —-, 2014 WL 2126637 (Cal. App. 1 Dist., May 22, 2014))
MASSACHUSETTS – Leasehold improvements made by tenant of tax-exempt property not subject to property tax. Beacon South Station Associates leases the South Station Headhouse from the Massachussetts Bay Transit Authority. The Headhouse consists of an enclosed concourse through which the public passes to train platforms, office and retail space, a surface facility and a parking area. As part of a revitalization effort, the MBTA entered into a long-term lease agreement with Beacon in 1988 by which Beacon agreed to expend a substantial amount of money to renovate and operate the property, and in turn, to earn and share revenue by leasing space to subtenants. Beacon provided $22 million to finance the renovation, supervised the rehabilitation of the Headhouse, and provided property management services for the MBTA. The lease “was not intended to be a conventional, profit-making commercial real estate lease, but rather a lease to provide a public service as well as to offset the cost of redeveloping and operating the facility.”
Real estate taxes were assessed on the Headhouse in the amounts of $1,439,974.76 in 2009 and $1,135,463.55 in 2010, which Beacon challenged on the basis that Mass. G.L. c. 161A, § 24, “expressly exempted the property of the MBTA from taxation, whether or not leased for business purposes.” The Appellate Tax Board agreed, granted the abatements, and the assessors appealed.
On appeal, the Assessors argued that the § 24 exemption did not apply to the Headhouse at all because Beacon, a private entity, leased the Headhouse from the MBTA and operated it for profit in the tax years in question. The Court rejected this argument. The MBTA exemption statute at the time provided that: “[n]otwithstanding any general or special law to the contrary, the [MBTA] and all its real and personal property shall be exempt from taxation and from betterments and special assessments; and the [MBTA] shall not be required to pay any tax, excise or assessment to or for the commonwealth or any of its political subdivisions….” By its plain terms the statutory exemption applied to all of the property at issue without regard to whether or for what purpose the property was leased. If the exemption did not include lessees of the MBTA, the lessee could reduce its rental payments to the authority by the amount of the tax, and such a construction would completely negate the legislative intent.
Alternatively, the Assessors argued that even if not subject to a blanket assessment for the years in question, the tenant improvements were taxable because Beacon owned these improvements according to the terms of the lease. Although the MBTA retains ownership of the land and the Headhouse, the lease specifies that Beacon retains title to any and all tenant improvements, but any such improvements not removed at the end of the lease term become property of the MBTA. The Court rejected this argument as well, because it found no authority to impose real estate taxes on tenant improvements where the rest of the property—the land and the building itself—is plainly exempt. Prior to the appeal, the Assessors had never attempted to carve out the improvements as separate real estate. The Board’s finding that the property as a whole belonged to the MBTA and was tax-exempt is consistent with how real estate taxation generally operates—by assessing the land and buildings as a unit, and not severing improvements for separate taxation. Beacon South Station Associates v. Board of Assessors of Boston, — N.E.3d —-, 85 Mass. App. Ct. 301, 2014 WL 1887529 (Mass. App. Ct., May 14, 2014).
CONNECTICUT – Prior owner lacks standing to challenge property tax assessment of office building. Fairfield Merrittview Limited Partnership acquired an eight-story, multitenant office building constructed in 1994, and subsequently conveyed the property to Fairfield Merrittview SPE, LLC, by deed recorded on June 12, 2007. The Fairfield assessor determined the fair market value of the property to be $49,036,800 as of October 1, 2008, and assessed the property based on that value. Fairfield Merrittview Limited Partnership, claiming that the assessment was grossly excessive, appealed to the Board of Assessment Appeals seeking a reduction in the valuation. Fairfield Merrittview SPE, LLC, the property owner on the valuation date, was not a party to that appeal. The Board made no changes in the assessment.
Fairfield Merrittview Limited Partnership appealed from the Board’s decision to the Trial Court. Within thirty days of the return date, it moved to amend its appeal as of right to add Fairfield Merrittview SPE, LLC, as a party plaintiff. The motion provided: “Fairfield Merrittview SPE, LLC, has an interest in the real estate and the subject matter of this appeal and should be joined as an additional party plaintiff.” The amended appeal annexed to the motion alleged that Fairfield Merrittview Limited Partnership and Fairfield Merrittview SPE, LLC, “on October 1, 2008, were the owner[s]” of the subject property. The Trial Court granted the motion, and after trial, determined that the fair market value of the property was $34,059,753 as of October 1, 2008. On appeal to the Appellate Court, the defendant municipality argued that Fairfield Merrittview Limited Partnership did not own the property on October 1, 2008, and, therefore, was not a party in interest with the right to challenge the assessment before the Board. Fairfield Merrittview SPE, LLC, which was a limited liability company that owned the property on October 1, 2008, had not been a party to the appeal before the Board, and the municipality claimed that this defect was not cured by subsequently adding the limited liability company as a party plaintiff after the appeal from the Board’s decision had been commenced.
The Appellate Court agreed with the municipality. “Connecticut law provides an avenue of appeal from the decision of a municipal tax agency…. [General Statutes §§ ] 12–117a and 12–119 clearly create causes of action for taxpayers who have been aggrieved by excessive and wrongful valuation of their property. Section 12–117a provides taxpayers with an opportunity to appeal to the Superior Court upon an allegation that their property tax assessment is excessive,” and noted that “[t]he general rule is that one party has no standing to raise another’s rights.” At trial, “no evidence was presented that indicated Fairfield Merrittview Limited Partnership retained any interest in the property after June 12, 2007.” Under those circumstances, the Appellate Court held that Fairfield Merrittview Limited Partnership lacked standing to pursue an appeal of the assessment, and dismissed the appeal.
The Appellate Court rejected the argument that Fairfield Merrittview SPE, LLC, was a successor legal entity with the same beneficial owners as Fairfield Merrittview Limited Partnership and that therefore it had “the identical legal interest and standing to pursue the appeal.” A limited partnership and a limited liability company are separate and distinct legal entities, formed under different statutory provisions. “Simply put,” said the Court, “nothing was presented to the court during the trial that could lead to the conclusion that these two separate entities had merged or were in fact one legal entity.” Fairfield Merrittview Ltd. Partnership v. City of Norwalk, — A.3d —-, 149 Conn. App. 468, 2014 WL 1365199 (April 15, 2014.)
MICHIGAN – Owner-occupied big box stores properly valued for property tax purposes as vacant and available, rather than occupied. Two big box retailers filed petitions to appeal the property tax assessments of two big box stores in Marquette Township. The Michigan Tax Tribunal valued the owner-occupied properties as vacant and available, rather than occupied, and reduced the assessments. The Township appealed, and the Court of Appeals affirmed.
Both the taxpayers’ and the Township’s appraisers used the income, sales-comparison, and cost approaches to valuation in their appraisals. The taxpayers’ appraiser distinguished between existing facilities and build-to-suit facilities, explaining that the subject property is an existing facility and that “[t]he build-to-suit market rent or sale price is based upon the cost of construction; whereas, the ‘existing’ market sale price or rent is a function of supply and demand and the open interaction of buyers and sellers or landlords and tenants in the marketplace for an existing property.” He found the sales-comparison approach to be the best indicator of value, and relied on eight comparable sales of vacant and available big box store properties in arriving at his valuation.
The Township derided the approach used by the appraiser for the taxpayers as based on a “legally-flawed valuation methodology”—comparing a presently used property to an abandoned property that needed to be disposed of in a distressed secondary market at a deeply-discounted price. The Township’s appraiser concluded that the “income approach is the most relevant and the most reliable” because “[t]he typical buyer of the subject property would be buying it based on its income earnings potential and, while cost is certainly a consideration. . . greatest weight was placed upon the income capitalization approach because no developer would construct a property such as the subject property without being assured of a reasonable return on their investment.” In arriving at his income approach valuations, he used rents derived from “sale-leaseback transactions, sales of leased properties from one investor to another, and sales of leased properties from the landlord to the tenant.”
The Tribunal accepted the valuations by the taxpayers’ appraiser, and the Court of Appeals affirmed. “The appraisal assignment requires the appraiser to value the subject property as if sold, available to be leased at market rent for the fee simple interest. Only the [taxpayers’] appraiser valued the fee simple interest. The [Township’s] appraiser provided an opinion of the value in use of the leased fee estate based upon build-to-suit obsolete leases.” The Tribunal found that the subject properties were not income-producing properties because they are owner-occupied and had no history of an income stream. Additionally, the Tribunal determined that the three types of transactions that the Township’s appraiser relied on in his appraisals were not fee simple transactions, that the sales he used were all leased fee transactions, and that “[n]o adjustments were made for the value-in-use versus the fee simple.” The Tribunal stated that the taxpayers’ appraisals, on the other hand, “had a plethora of sales and listings, as well as rents and asking rents, that indicated the difference between the fee simple ownership and the leased fee interest.” Lowe’s Home Centers, Inc. v. Township of Marquette, 2014 WL 1616411 (Mich.App., April 22, 2014).
COLORADO – Supreme Court affirms Appellate Court, holds that assessing cable service providers differently than public utilities does not violate state constitution. Qwest Corporation is a telephone company that qualifies as a “public utility” under § 39–4–101(3)(a), C.R.S. (2012), and its property is centrally assessed. Section 39–4–102(1) C.R.S. (2012). When a public utility’s property is centrally assessed, the property’s value is determined at the state level by the Division of Property Taxation (DPT) administrator and then apportioned to the counties for the collection of the local property tax. See§ 39–4–106(2)(d), C.R.S. (2012).
Qwest competes with various cable companies for telephone service customers. Because cable companies are not included in the statutory definition of “public utility,” their property is valued and taxed locally. Only property which is locally assessed is subject to the intangible property exemption and the cost cap valuation method. Since Qwest’s property is centrally assessed, it did not receive the intangible property tax exemption and was not valued by the cost cap valuation method.
After filing a protest with DPT, which was unsuccessful, Qwest brought a declaratory judgment action against DPT, alleging that DPT improperly assessed its property by failing to apply the intangible property exemption and the cost cap valuation method, and that its failure to do so violated Qwest’s constitutional right to equal protection and guarantee to uniform taxation. The trial court granted DPT’s motion to dismiss Qwest’s complaint, and the Court of Appeals affirmed. Qwest petitioned the Supreme Court for certiorari review of the Court of Appeals’ decision, which was granted to address three issues: (1) Whether the Court of Appeals erred in holding that the intangible property exemption and the cost cap valuation method do not apply to Qwest, a public utility; (2) whether the Court of Appeals erred in rejecting Qwest’s equal protection claim; and (3) whether the Court of Appeals erred in dismissing Qwest’s claim under the Uniform Taxation Clause of Colorado’s Constitution.
The Supreme Court relied on the plain language of the statutes in holding that neither the intangible property exemption nor the cost cap valuation method applies to a public utility like Qwest. The Court then determined that the failure to qualify for either does not violate the Equal Protection Clause of the United States Constitution or its Colorado equivalent, because the distinction between telephone companies and cable companies has a sound basis in policy. Telecommunication public utilities enjoy benefits not provided to cable companies. For example, telephone companies may occupy public rights-of-way without additional authorization or a franchise from local municipalities, while cable companies compete for customers without this advantage. The General Assembly may have sought to encourage local cable companies’ competitive foray into the telecommunication market against public utilities, which have historically benefited from rate-making designed to guarantee a reasonable rate of return upon their investment. The General Assembly may also have determined that any inequity is on-balance insignificant because—as Qwest concedes in its complaint—cable television companies are centrally assessed for that portion of their property related to telephone service. See § 39–4–103, C.R.S. (2012).
Finally the Court rejected Qwest’s claim that DPT’s current assessment procedure violates Colorado’s Uniform Taxation Clause, Colo. Const. art. X, § 3. The Uniformity Clause requires uniformity only within “the territorial limits of the authority levying the tax.” The Court said that this territorial qualification speaks to the distinction at issue in this case. Qwest, as a public utility, is assessed centrally under the territory set forth in section 39–4–102—the entire state. In contrast, cable companies are assessed in a different territory, the county, pursuant to section 39–1–103(5)(a). Taking Qwest’s allegations as true, the Court held that the plain language of the Uniform Taxation Clause permits the challenged assessment scheme. Qwest Corp. v. Colorado Division of Property Taxation, 304 P.3d 217 (Colo. June 24, 2013).