March 2024 Newsletter

NEW MEXICO – Power purchase agreements between wholesale electricity generators and customers are intangible property not subject to property taxation. CCA Case

Lea Power Partners LLC, a wholesale electricity generator, operates an electric generating facility in Hobbs, Lea County, New Mexico. The facility delivers electricity into the Southwest Power Pool. The Pool is not a “capacity market,” which means that the Pool does not guarantee any payments to Lea Power Partners for its production of electricity at the facility. Wholesale generators like Lea Power Partners produce revenues by entering into private contracts with customers through power purchase agreements to secure compensation in exchange for having the capacity to produce or provide electricity.

In 2006, Lea Power Partners negotiated and entered into such an agreement with Southwest Public Service. Pursuant to the agreement, Lea Power Partners agreed to sell to Southwest Public Service all of the electric capacity and associated energy produced by its facility for twenty-five years, beginning September 2008. Under the agreement, Southwest Public Service was obligated to purchase all of the electric capacity and associated energy produced by the facility and supply Lea Power Partners with all the natural gas required to produce such electric capacity and associated energy. Significantly, the agreement guaranteed that Lea Power Partners receive annual revenue whether or not its facility produced any electricity.

Lea Power Partners submitted its 2012 property tax return and received a notice of valuation from the New Mexico Property Tax Division. Following receipt of the notice of valuation, Lea Power Partners timely filed a protest of the Division’s 2012 valuation. In the four years following, Lea Power Partners timely submitted property tax returns, the Division sent it notices of valuation in response, and Lea Power Partners timely filed protests to the notices of valuation. The protests asserted that the value of the Lea Power Partners property — and crucially, the facility—was significantly lower in each reported year than was reflected in the Division’s notices of valuation. The protests were consolidated and a hearing was held in June 2017. The Administrative Hearing Officer ultimately granted in part and denied in part Lea Power Partners’ protests, finding that the power purchase agreement was intangible property and was subject to neither taxation nor inclusion within calculation of tangible property cost under New Mexico law. On appeal, the Court of Appeals affirmed the Administrative Hearing Officer’s decision.

The Court relied on the plain meaning of the relevant section of the Administrative Code to hold that the Administrative Hearing Officer properly characterized power purchase agreements as “intangible long-term contracts” and thus properly considered them non-taxable, intangible property. The Court also agreed that they should not be characterized as an intangible cost of Lea Power Partners – rather than intangible property – and therefore subject to property tax. The Court explained that certain costs, such as those associated with labor, engineering and geological analysis, utility bills, and equipment rental fees — met the definition of “intangible property cost” because they were “necessary expense[s]” and “necessary items[s] of expenditure”  but rejected the Division’s argument that intangible long term contracts like power purchase agreements  were likewise taxable “costs” simply because they are “used or useful for the generation, transmission or distribution of electric power or energy.”

Lea Power Partners LLC v New Mexico Taxation and Revenue Department, 2021 WL 72203 (Ct App. N.M. January 6, 2021)

ARIZONA – Court of Appeals holds that taxpayer failing to submit a timely personal property tax return forfeits its right to appeal the valuation and may not obtain the same relief through a claim for special action or declaratory relief.

Mesquite Power operates an electric generation facility subject to an annual property tax. The Department of Revenue assesses the value of an electrical generating plant based mainly on an annual report the plant owner submits using a Department-created form. By statute, the Department must send each plant owner a blank copy of that form by February 1 of each year, and each plant owner must file its annual property tax report by April 1 using that form. If a taxpayer fails to file the report by May 20, it “forfeits its right to appeal” the valuation. A.R.S. § 42-14152(D).

When the Department did not receive Mesquite’s report for the tax year 2020 by April 1, 2019, the Department estimated Mesquite’s 2020 value as directed by statute, setting it at $206,714,000—105 percent of the previous year’s full cash value.  The Department also assessed a statutory penalty against Mesquite for failing to file its report on time. On June 7, 2019, the Department sent notice to Mesquite of the estimated preliminary 2020 valuation. Mesquite then filed its 2020 Report a month later. Mesquite also submitted more information about its valuation and requested a meeting with the Department to persuade it to adopt a lower amount. The Department declined Mesquite’s request to meet and did not reduce the valuation.

Mesquite appealed to the Tax Court asking for a declaratory judgment or special action relief on the basis that the Department had disregarded all available information in setting Mesquite’s 2020 value, ignored the information submitted by Mesquite, and incorrectly estimated the 2020 value by basing it on the 2019 value since the latter was under appeal. The Tax Court dismissed the complaint, holding that Mesquite forfeited its right to appeal the valuation by failing to file the report in a timely manner, and that an appeal disputing the Department’s valuation was the taxpayer’s “exclusive remedy,” so Mesquite could not seek alternative relief through a declaratory judgment or special action.

The Court of Appeals affirmed and held that because Mesquite failed to comply with the statutory duty to file a return it forfeited its right to appeal. The Court rejected Mesquite’s argument that the Department’s performance of its statutory duty to send the form is a condition precedent to the taxpayer’s duty to file a report using the form.  The Court first observed that “Everyone is presumed to know the law,” and Mesquite may be presumed to know that it must pay taxes. Taxpayers may download the form from the Department’s website, and Mesquite had used the forms in prior years.  Moreover, there was no genuine dispute that Mesquite had, in fact, received the form, since the Department presented a receipt for emails with attached forms sent to two email addresses supplied by Mesquite and a supporting affidavit from a Department employee. The fact that the form ended up in a “junk mail” folder was of no consequence.

Mesquite Power, LLC v. Arizona Department of Revenue, 523 P.3d 960 (Ariz. Ct. App. Aug 24, 2021) 2021 WL 3732580.    

OKLAHOMA – Production tax credits used to finance construction of wind farm are intangible personal property not subject to property tax. CCA Case

In 2015, Kingfisher Wind, L.L.C. began construction of a wind farm, which included one hundred forty-nine wind turbine generators, electrical equipment, a maintenance facility, substation, and transmission lines. One hundred of the turbine generators are in Kingfisher County, Oklahoma, and forty-nine are located in Canadian County, Oklahoma. For 2016 ad valorem tax purposes, the Canadian County Assessor determined the fair cash value of the property located in Canadian County to be $157,476,788.00. Kingfisher Wind filed a formal protest of the valuation with the Canadian County Board of Equalization.5 At the protest hearings, the Canadian County Assessor presented an adjusted cash value of $182,164,150.00, which the Canadian County Board accepted.

Kingfisher Wind appealed, seeking trial de novo to correct the cash value of the property. It asserted that the actual fair cash value of the property was $84,666,000.00 or less. During the same time, the Kingfisher County Assessor valued the portion of the wind farm located in Kingfisher County at $321,381,200.00 for ad valorem tax purposes. Kingfisher Wind also filed a protest with the Kingfisher County Board of Equalization and the Kingfisher Assessor presented an adjusted cash value of $275,839,357.00 which the Kingfisher County Board accepted. Thus, the total fair cash value in both counties together was $458,003,507.00. Kingfisher Wind appealed, seeking a trial de novo, asserting that the actual fair cash value was $169,331,000.00 or less. The cases were consolidated.

Kingfisher Wind filed a Motion for Partial Summary Judgment, arguing that production tax credits and certain contracts were exempt from ad valorem taxation. The tax credits are a federal tax incentive which allowed Kingfisher Wind to finance the building of their facilities in exchange for a tax credit directly related to the kilowatt hour of electricity generated. The assessor argued that although the production tax credits are not real property, they are taxable as such because they are intrinsically tied to real property and wind farms would likely not be built without them. Kingfisher Wind contended that the tax credits were intangible property, and not taxable as a result of the adoption of Okla. Const. art. 10 § 6A, which provides that “[b]eginning January 1, 2013, intangible personal property shall not be subject to ad valorem tax or to any other tax in lieu of ad valorem tax within this State.” Kingfisher Wind’s experts excluded the tax credits in their valuation of the wind farm, but the County Assessors did not.

After a hearing, the trial court held that the tax credits were subject to ad valorem taxation. The court determined that the tax credits are not really property of any kind — intangible or tangible, but. rather, incidental benefits received by investors as a result of their participation in an investment made in the future production of the wind farm that should not be treated as property. Nevertheless, it left the issue of the “value” of credits to be used for taxation purposes as a matter for trial.

The trial court held a non-jury trial to determine the overall fair market value of Kingfisher Wind for tax assessment purposes. The court found that the tax credits were contracted out by Kingfisher Wind to a third party prior to construction of the wind farm and ruled that because the production tax credits were contracted out to finance construction, coupled with the fact that the experts who testified failed to adequately explain how to treat them, the credits were not taxable, and were not particularly part of any value. Ultimately, the court found the Kingfisher Wind farm to be valued at $175,000,000 for taxation purposes with 39.78% attributable to Canadian County and 60.22% to Kingfisher County. The Assessors appealed.

The Oklahoma Supreme Court rejected the argument that the tax credits are tangible personal property subject to taxation on the basis that they are of such an economic benefit to owning, operating, and determining the full fair cash value of the wind farm and its real property, they must be included to determine a fair and accurate taxable ad valorem valuation of the wind farm, and agreed with Kingfisher Wind argues that the credits are intangible

personal property and are precluded from taxation by the Okla. Const. art 10, § 6A.10. The Court explained that while production tax credits have a direct impact on a property’s fair market value, and that ad valorem tax assessments must be based on fair market value, the credits are not a tangible physical thing like real estate. Instead, said the Court, they are incorporeal property in that they have limited intrinsic value, and ultimately can only be claimed or enforced by a legal action, much like goodwill, even if they are intrinsically tied to a business or real property. The Supreme Court affirmed the trail court decision.

Kingfisher Wind, LLC v. Wehmuller, 2022 OK 83, 521 P.3d 786 (2022)

WASHINGTON – Intangible attributes of LPG terminal and wharf properly considered in valuing property for taxation.

Petrogas owns and operates a liquified petroleum gas terminal and wharf near Ferndale, Washington. Petrogas acquired the terminal from Chevron for $242,000,000 in 2014 and the wharf from Intalco Aluminum for $122,000,000 in 2016. The terminal provides storage and distribution of liquefied propane and butane to domestic and international markets. The terminal can export and import up to 30,000 barrels a day, has rail, truck, and pipeline capacity, and is connected to two local refineries. The wharf serves the LPG operation of the terminal and the aluminum smelting operation of Intalco. The wharf is built on aquatic lands within the Strait of Georgia and subject to an aquatic lands lease with the State of Washington. The aquatic lands lease allows 48 ships to dock at the pier per year, regardless of product. Ships unload alumina ore to supply the Intalco aluminum smelting plant and load LPG product from the terminal to ship overseas.

In the purchases of the terminal and wharf, Petrogas bid very aggressively on the property because of synergies with Petrogas’s other assets and connections. When the Whatcom County Assessor received notice of the terminal sale, it believed the property had been undervalued and began a review. The review indicated that “fundamentally dynamic changes that had been occurring” in the business, that demand from the Asian market had been increasing, and on the supply side, new reserves were being discovered. It also found that the highest and best use of the wharf was changing from its initial purpose to support Intalco’s aluminum smelter to increasingly larger shipments of LPG. For its 2016 valuation of the wharf, the Assessor relied on the sales information for the combined terminal and wharf for $364,000,000. After deductions for inventory, intangible value, and other values, the Assessor valued the wharf at $182,725,099, and the terminal at $90,108,394. After receiving an advisory appraisal from the Department of Revenue using all three valuation approaches—cost, income, and sales— the Assessor valued the terminal at $190,710,788 for 2017 and $194,606,203 for 2018. The Assessor valued the wharf at $182,725,099 for 2016, $98,244,952 for 2017, and $100,251,680 for 2018.

Petrogas sought review of all five valuations before the Board. Petrogas’s appraisal report was conducted by Kevin Reilly. While Reilly considered all three of the traditional approaches to valuation, Reilly found the sales comparison approach and income approach not applicable to the valuation of the terminal and wharf. Reilly did not develop the sales comparison approach because Petrogas’s purchase was the only known sale of an operating LPG terminal on the West Coast and he did not develop an income approach due to limited historical financials, a limited number of comparable terminals to establish a regional market, related party involvement leading to unrecognized revenues and operating expenses, limited information to develop market-based throughput rates for the West Coast, and the overall highly proprietary nature of LPG terminal history. Using the cost approach, Reilly concluded that both the 2018 and 2017 market values for the terminal were $157,000,000. Reilly also concluded the market values for the wharf were $17,000,000 for 2018, $16,000,000 for 2017, and $15,000,000 for 2016. The appraisal also concluded that “the highest and best use of the LPG Terminal and Wharf are their current uses as LPG export facilities.”

The Assessor’s review appraisal criticized the Reilly appraisal in three main areas. First, in analyzing the highest and best use for the properties, Reilly’s cost approach, a summation of the value of the tangible real property as individual and independent assets, would not achieve the highest and best use as an integrated assets function. In contrast, under a unit appraisal, an integrated group of operating assets is valued as “one thing without reference to the independent value of the component parts.” Second, Reilly should have included the value of the aquatic lands lease in assessing the overall value of the terminal and wharf. Finally, Reilly failed to consider and analyze the sale of the subject properties.

The Board found that the Petrogas appraisal was flawed because it utilized only the cost approach and its valuations excluded attributes of the properties that were properly taxable. The Board concluded that the DOR and Assessor properly used unitary valuation methods and the Assessor’s valuations were properly performed. The Board upheld the Assessor’s valuation of the terminal and wharf for 2017 and 2018 and adjusted the 2016 valuation of the wharf from $182,725,099 to $98,000,000. Petrogas petitioned for review, and the Superior Court certified the case for direct review.

On appeal, Petrogas argued that the Board erred by including intangible personal property in the taxable value of the property. The Court of Appeals observed that while intangible personal property is exempt from ad valorem taxation in Washington, there is a difference between intangible personal property and intangible characteristics or attributes of real property. Specifically, “intangible personal property does not include zoning, location, view, geographic features, easements, covenants, proximity to raw materials, condition of surrounding property, proximity to markets, the availability of a skilled workforce, and other characteristics or attributes of property.” RCW 84.36.070(3). The Court of Appeals also cited a Department of Revenue Regulation which explains that “[n]onproperty intangible characteristics or attributes are elements or components of value associated with a real or tangible asset. These characteristics or attributes are “intangible” but they are not “property” and therefore are not tax exempt intangible personal property.” WAC 458-50-160(4).

The Court of Appeals affirmed the Board’s valuations, holding that Petrogas’s appraisal was properly rejected by the Board because it ignored the sales of the subject properties and excluded intangible attributes that should be considered in valuation. The Court noted that there was evidence of the increasing demand for LPG in Asian markets and the properties’ proximity to these markets, the uniqueness and scarcity of LPG export facilities on the West Coast, and the benefit from the terminal and wharf operating as an integrated unit. The Court also held that it was error for Petrogas’s appraisal to not include the aquatic lands lease as a “characteristic or attribute of intangible property” under RCW 84.36.070(1 in its valuation.

Petrogas Pacific LLC v. Xczar, 520 P.3d 1077 (Wash. Ct. App., Div. 1, 2022)

MISSISSIPPI – Mississippi Supreme Court holds that income analysis may be performed to measure economic obsolescence in challenging Board of Supervisors’ cost approach valuation of underground natural storage facility. CCA Case

Mississippi Hub appealed from the Simpson County Board of Supervisors’ tax assessment of the value of its underground natural gas storage facility. On appeal to the Circuit Court, the Board argued that Mississippi Hub’s appeal was untimely and that its expert had based his opinion on the wrong approach to valuation. The Circuit Court granted summary judgment for the Board and Mississippi Hub appealed.

Mississippi Hub operates an underground natural gas storage facility in Simpson County and pursuant to a fee-in-lieu agreement was paying a third of what its taxes would have otherwise been. The agreement also provided that the facility was industrial personal property for taxation purposes, that its value of would be determined in

accordance with Mississippi Code Section 27-35-50 (Supp. 2021), and that economic obsolescence would be considered by the tax assessor in its valuation at the request of the company.

In 2017, Mississippi Hub advised the County Assessor of market changes in the natural gas storage industry adversely affecting the value of its facility, and that the facility recently had been sold for approximately $101 million, far less than it cost to build. The assessor reduced the valuation by 20 percent for economic obsolescence for the 2019 tax year, but the Board of Supervisors rejected the adjustment. Mississippi Hub objected at the Board’s August 5, 2019 equalization meeting, the Board denied the objection and on December 5, 2019, the clerk mailed a notice to Mississippi Hub that the Mississippi Department of Revenue had approved the Board’s tax roll. Fifteen days later, Mississippi Hub appealed to the Circuit Court. The Board filed a motion for summary judgment, claiming that the appeal was untimely, and that Mississippi Hub failed to offer competent evidence of the true value of the facility, and the Circuit Court granted its motion.

The Supreme Court reversed. Two statutes were involved in the timeliness issue, Mississippi Code Section 11-51-77 (Rev. 2019), which provides for appeals by “[a]ny person aggrieved by a decision of the board of supervisors … as to the assessment of taxes,” in which case an appeal must be filed “within ten days after the adjournment of the meeting at which such decision is made,” and Mississippi Code Section 27-35-119 (Rev. 2017), which provides for appeals following the Board’s final assessment after equalizations and recapitulations, in which case an appeal must be filed within twenty days after the “clerk of the board of supervisors shall mail notice of the adjournment of the meeting at which final approval of the roll by the State Tax Commission is entered.” Mississippi Hub filed its appeal fifteen days after the Department of Revenue had approved the Board’s tax roll. The Board argued that the two statutes offer two distinct avenues for appeals, and a party who challenges only the refusal to adjust an assessment of its property may not wait until the final determination of taxes to appeal. Because Mississippi Hub did not challenge the equalization of the property, the Board contended that it should have taken an appeal from the initial denial of its challenge to the assessment, and that its appeal was untimely.

While the Supreme Court recognized that the two code sections provide for appeals from tax assessments with different deadlines, it said that no “Mississippi court has held that an appeal challenging an assessment was untimely because it was taken under the “equalization” appeals statute,” and that the caselaw says the opposite: “that there is no final decision of the board of supervisors as to a tax assessment until after the equalization and recapitulation process is complete, since that is when the tax assessment becomes set at the final amount.” The Court added, “we have never delved into a taxpayer’s arguments to distinguish between an appeal from an assessment and an appeal from an equalization [and that it saw] no reason to deviate from that precedent today.” The Supreme Court also rejected the Board’s argument that no new evidence may be presented on appeal. The Court said that considering the language of the two statutes, which must be construed together, the issue of the assessment is to be “tried anew,” so that appeals are not limited to the record before the Board of Supervisors.

Finally, the Supreme Court rejected the Board’s argument that Mississippi HUB failed to present competent valuation evidence due to its misapplication of the cost approach and overreliance on adjustment for economic obsolescence. The Mississippi Department of Revenue regulations state that “replacement cost new less depreciation is the preferred method for determining personal property costs in industries.” The Court noted that the Board admitted that economic obsolescence can be considered under the cost approach and that the Department of Revenue regulations state that both functional obsolescence and economic obsolescence can be considered in applying the cost approach to personal property. It also rejected the Board’s contention that Mississippi HUB’s expert improperly considered income such that his “concept of economic obsolescence is nothing more than an attempt to convert the cost approach into an income capitalization approach.” The Court

agreed with Mississippi HUB that an income analysis may be performed to measure economic obsolescence without converting the entire analysis into an income approach valuation.

Mississippi Hub, LLC v. Baldwin, — So.3d —- (Miss. Sup. Ct., January 19, 2023) 2023 WL 311343

CALIFORNIA – Natural gas producer’s appraisal is upheld by trial court, but court holds that the taxpayer’s opinions of value included in its assessment appeals applications at the beginning of the administrative appeal process are binding. CCA Case

At issue was the fair market value, for purposes of property tax, of a natural gas power plant in Kern

County, owned by La Paloma Generating Company for the years 2013-2016. The facility is a combined-cycle gas turbine electric generation station consisting of four separate turbines with a combined generating capacity of 1,048 megawatts. The facility began operating in 2003, and was designed as a “base load” power plant, meaning it was intended to operate continuously and at full capacity under long term power purchase agreements with utilities, or tolling agreements with various third parties, that would cover both the high up-front cost of construction and the ongoing cost of generating electricity. Base-load plants such as the La Paloma Plant are different from so-called “peaking plants,” which have short start-up times, lower efficiency, and run only when electricity demand is high (e.g., during a heat wave when customers are running air-conditioning). The La Paloma Plant is not designed to operate as a peaking plant.

The court first discussed the loss of the tolling agreements, and inability of the facility to operate full time, which from State of California policies aimed at increasing reliance on renewable energy sources and reducing reliance on fossil fuels. The court then discussed the parties’ respective appraisals. Both appraisers used the discounted cash flow method, and the court analyzed their various determinations of income and expenses highest and best use, and discount rates.

The court noted that during the years in question, major upheavals were occurring in the California electricity generation market and found the issue to be which party’s valuation model better takes these changes into account. The court found La Paloma’s valuation to be the best estimate of the facility’s fair market value. Among the deficiencies of the State Board of Equalization’s appraisal, the court said that the Board counted both electricity market sales and tolling sales to project electricity generation that was physically impossible for the plant to produce, its projections for energy prices were unreasonable, it used an after-tax discount rate rather than a before-tax rate as required by its own rules, and its capitalization rate was unreasonably low.

The court also held that La Paloma was not entitled to a refund in 2012 because it failed to exhaust its administrative remedy in that year by agreeing with Board staff to provide a non-binding recommendation of value of the Board’s consideration in a voluntary step of the administrative process, and that La Paloma’s refunds in 2013 to 2016 were limited to the opinions of value that La Paloma included in the assessment appeal applications that it submitted to the Board at the very beginning of the administrative appeal process.

La Paloma Generating Company v. California State Board of Equalization, Los Angelos Superior Court, Case No. BC645390 (Feb. 27, 2023)

COLORADO – Nonoperating fractional interest owners in a unitized oil and gas operation do not have standing to independently challenge a county’s retroactive property tax increase.

CO2 Committee, Inc. is a nonprofit corporation whose membership is comprised of nonoperating owners of fractional interests in the McElmo Dome unit, a consolidation of working interests in a large deposit of pure carbon dioxide in Montezuma Dolores Counties, Colorado. Kinder Morgan CO2 Company, L.P. operates the unit. Following an audit for the 2008 tax year, Montezuma County determined that Kinder Morgan had underreported the value of gas produced at the unit’s leaseholds by improperly deducting certain costs that it, as the unit operator, was not entitled to deduct. The county ultimately increased its valuation of the entire unit by approximately $57 million. The Montezuma County assessor then imposed a retroactive tax assessment on the unit totaling more than $2 million based on that increased value. Kinder Morgan challenged the county’s authority to impose the retroactive tax, but lost, the Supreme Court concluding that the statutory scheme authorized the retroactive tax.

After the Court decided Kinder Morgan’s appeal, CO2 challenged the same retroactive property tax increases, arguing that Montezuma County violated its members’ due process rights by failing to provide individual notice of and an opportunity to separately challenge the retroactive assessment and increased property tax. The trial court dismissed CO2’s case for lack of standing. CO2 appealed, and the court of appeals reversed, concluding that CO2’s members were taxpayers with standing to pursue the claims asserted in the complaint.

On appeal to the Supreme Court, the Court held that nonoperating fractional interest owners lack standing to independently challenge a retroactive assessment and property tax increase assessed against a unitized oil and gas operation. The Court reached this conclusion after examining the statutory scheme and administrative guidance related to the taxation of oil and gas leaseholds and determining that it creates a unique representative system in which a unit operator is the sole entity with standing to protest a retroactive assessment of tax on the unit it operates.

Colorado Property Tax Administrator v. CO2 Committee, Inc., 527 P.3d 371 (Colo. Sup Ct. 2023)