CALIFORNIA – Petroleum refinery property, unlike most other industrial property where fixtures and land are separately assessed, may be taxed as a unit. After the passage of Proposition 13 and Proposition 8, the California Constitution provides for a 2 percent cap on the assessed value of property when its fair market value has appreciated, but the assessed value of property remains its fair market value when that value has fallen. In 1979, in response to the passage of Proposition 13 and related legislation, the state Board of Equalization enacted a rule for assessing the value of most industrial property. (See Cal. Code Regs., tit. 18, § 461.) Under that rule, the value of fixtures, including machinery and equipment, was assessed separately from the value of land and improvements. Petroleum refinery property was assessed in this manner. The separate valuation of fixtures was advantageous to industrial property owners because it allowed them to maximize the tax savings attributable to the depreciation of fixtures.

The treatment of fixtures as a separate appraisal unit means that the assessed value of the fixtures will decline by each year by depreciation, while the land and improvements with which they are associated, regardless of how much they appreciate, will yield an assessed value that increases by only 2 percent each year, the maximum increase allowed by Proposition 13.

In 2007, the Board enacted rule 474 (Cal. Code Regs., tit. 18, § 474) in light of evidence that petroleum refinery property?land, improvements, and fixtures?was generally sold as a unit. Rule 474 provides that the value of such property, unlike most other industrial property, must be assessed as a unit. This typically yields a higher assessed value than assessing fixtures separately from the land and improvements, because fixture depreciation must then be offset against the full amount of appreciation up to the 2 percent annual maximum.

An association of petroleum producers brought a declaratory judgment action against the Board challenging the valuation formulas uniquely applied to petroleum refineries. The Superior Court granted summary judgment for the association, the Board appealed, and the Court of Appeal affirmed. The Board petitioned for review.

The Supreme Court affirmed the Court of Appeal. Although the Court held that Rule 474 is consistent with applicable constitutional and statutory provisions, and that it is also consistent with the long-standing valuation principle that the proper appraisal unit is the collection of assets that persons in the marketplace normally buy and sell as a single unit, the Court agreed with the association that the Board failed to provide an adequate assessment of the rule’s economic impact as required by the Administrative Procedure Act, and affirmed the Court of Appeal on that limited basis.

Western States Petroleum Assn. v. Board of Equalization, 57 Cal.4th 401, 304 P.3d 188, 159 Cal.Rptr.3d 702, 13 Cal. Daily Op. Serv. 8422, 2013 Daily Journal D.A.R. 10,322 (Cal., August 5, 2013)

CALIFORNIA – Underutilization adjustment based on economic obsolescence requires proof of causation by external factors, as opposed to taxpayer’s own actions. Dreyer’s Grand Ice Cream, Inc. challenged the property tax assessment on the equipment and personal property in its novelty ice cream production lines, claiming that it was entitled to a reduction in the value of the property, based on excess capacity or underutilization of the property resulting from lack of market demand for the products produced by the equipment. The County assessor refused to make an underutilization adjustment based on economic obsolescence, because he found no evidence those external forces in the industry beyond Dreyer’s control and recognized in the market had caused the deviation between capacity used and capacity available.

The Assessment Appeals Board found in favor of County, noting that, when external factors cause machinery or equipment to lose value, a taxpayer is entitled to an adjustment for external obsolescence, but to qualify for such an adjustment, the taxpayer had the burden of proving some factor external to the property caused a decline in its value. The Board concluded that, while Dreyer’s exhibits showed the percentage of capacity used declined in 2005, they also showed that production increased between 2003 and 2005. The Board found that the decrease in percentage of capacity used was primarily due to expansion in the production lines that increased capacity, not to market factors.

The trial court upheld the Appeals Board, and the Court of Appeal affirmed, holding that there was substantial evidence to support the judgment. The cost approach to property valuation, the Court explained, “is based upon the economic principle of substitution,” which “holds that a rational person will pay no more for a property than the cost of acquiring a satisfactory substitute.” It begins with either reproduction cost (the cost to replace an existing property with a replica of it), replacement cost (the cost to replace an existing property with a property of equivalent utility), or historical cost (the cost of the property at the time of its original acquisition); and then makes adjustments for depreciation to reach an estimate of current value. In cost appraisals, depreciation is “a measurement of the extent to which the subject property is, at a particular point in time, worth less than a hypothetical new property.” External obsolescence, a form of depreciation, “is a loss in value caused by negative influences outside of the subject property that are generally beyond the control of the subject property owner?. The presence and extent of external obsolescence can be identified by examining the overall market conditions of a property.”

Although Dreyer’s claimed that its level of production was dictated by market demand, the evidence indicated that production was based on its internal forecasts of anticipated demand. Even Dreyer’s own expert, after identifying lack of market demand as the external cause of the claimed external obsolescence, testified he determined lack of demand by looking at Dreyer’s production compared with its capacity. Dreyer’s presented no data from the marketplace or other evidence of market demand. Consequently, the Court held that the evidence supported the Board’s conclusion that Dreyer’s failed to sustain its burden of proof and the trial court’s determination that substantial evidence supported the Board’s decision.

Dreyer’s Grand Ice Cream, Inc. v. County of Kern, 218 Cal.App.4th 828, 159 Cal.Rptr.3d 832, 13 Cal. Daily Op. Serv. 8531, 2013 Daily Journal D.A.R. 10,386 (Cal. Ct. App., July 22, 2013)

COLORADO – Country club memberships are not the equivalent of “rental income” and should not be used in an income-approach valuation of club property. Roaring Fork Club, LLC owns property consisting of an 18–hole golf course, a driving range, designated golf practice areas, a 28,337 square foot members’ lodge that contains a pro shop, a swimming pool, two tennis courts, fitness facilities, two restaurants, a bar, and members’ fishing lodge. The Pitkin County Assessor included the value of sold club memberships in the assessment of the club’s property for tax year 2011, and the Club appealed. The Club contended that the value of the sold memberships should not be considered in determining the actual value of the Club’s property for property tax purposes because the memberships are not interests in the real property.

The Club’s property, which is located in the Roaring Fork Valley, is open only to its members, subject to a few minor exceptions. The Club had sold about 82% of the memberships between 1999 and the date the assessor valued it in 2011. The membership agreement states that members do not receive any property or ownership interest in the Club or its property, and states that a membership is “a revocable license” to use the club and its facilities. A membership is not “an equity or ownership interest,” a “vested or prescriptive right or easement,” “an investment” in the Club, or an entitlement to “vote or participate” in the Club’s management, or an interest in the “profits from the [Club’s] operation.” Members are not responsible for the Club’s liabilities, operating costs, or capital assessments for building or maintaining the Club. Members do not have the right to exclude others from using the Club’s amenities. Members must pay the Club a one-time deposit, annual dues, and an annual minimum fee for dining at the Club’s restaurants. Members maintain their membership rights for life unless they sell or relinquish their memberships or the Club revokes them.

At the hearing on the Club’s appeal, the Board of Equalization found that the value of the Club memberships was properly considered as part of the actual value of the Club’s property. Relying on “the unit assessment rule,” which requires the assessor to determine the “full fee simple interest” of the Club’s property, the Board of Equalization reasoned that the memberships were part of the Club’s full fee simple interest in the Club’s property because they were effectively leasehold interests, and the membership deposits were akin to prepaid rent. Accordingly, the memberships would improperly escape taxation if they were not included in the actual value of the Club’s property. The Board of Assessment Appeals affirmed.

The Court of Appeals reversed, agreeing with the Club that the unit assessment rule does not apply to Club memberships. The sold memberships created by the agreement are not “estates in a unit of real property,” but rather licenses that do not create an interest in land. The Court agreed with the Club’s appraiser, who characterized the Club as a “non-equity” or nonproprietary club in which the facility is owned by someone other than the members. The owner grants certain rights to its use to others who wish to become members. Such rights are often considered licenses, effectively, rental agreements, but do not transfer any long-term ownership rights. The value of sold memberships therefore should not be used in the application of the income approach to calculate the actual value of the club’s property for property tax purposes.

Roaring Fork Club, LLC v. Pitkin County Board of Equalization, — P.3d —-, 2013 WL 6385039 (Colo.App., December 5, 2013)

NEW JERSEY – Tax Court rejects municipality’s argument that impact of environmental contamination and the cost of remediation on true market value is limited to contaminated portions of an industrial site. Ciba Specialty Chemicals Corp. challenged the local property tax assessments on a large parcel of undeveloped land contaminated by its industrial activities in Toms River Township. The municipality argued that the impact of environmental contamination and the cost of remediation on true market value was limited to those portions of the parcel that suffer from environmental damage. Ciba argued that the value of the entire parcel is affected by the environmental contamination, notwithstanding the fact that portions of the property appear never to have been contaminated directly. The Tax Court agreed with the taxpayer.

Ciba’s property consists of 1,200 acres on which was once situated its industrial operations. From 1952 to 1990, Ciba manufactured dyes, pigments, resins and epoxy additives at the property. By December 1996, all commercial operations at the property ceased, and most manufacturing buildings were subsequently demolished. Ciba’s commercial activities resulted in contamination of the property. Sludge and process wastes were disposed of in several locations on the site, including a stacked-drum disposal area containing approximately 35,000 drums of toxic waste and a 12–acre filtercake disposal area containing toxic waste. Ciba’s commercial operations also resulted in the contamination of backfilled lagoons near the Toms River and two basins on the property. Contamination from these areas and several other areas on site leached into the groundwater. In September 1983, the entire parcel, along with another 150 acres, was designated as a federal Super Fund site and placed on the Environmental Protection Agency’s National Priorities List. During the years 2004 to 2011, contamination at the property was remediated for a total cost of $110,365,000. Remediation efforts continued after 2011.

The parties agreed that for local property tax purposes, contaminated property should be valued “as if clean” and the Court should thereafter adjust that value to account for the estimated or actual costs of remediation. The municipality argued, however, that there are large constituent elements of the 1,200–acre tract that are unaffected by contamination and that can be developed independently (and, perhaps, at different highest and best uses) from the portions of the property which were polluted. The municipality argued that the court should: (1) determine the highest and best use of various portions of the parcel based on the development potential of those portions of the parcel; (2) determine the “as if clean” true market value of the various portions of the parcel based on the highest and best use determinations; and (3) make an adjustment for remediation costs only with respect to the portions of the parcel which suffered from environmental contamination, leaving unadjusted the “as if clean” true market values of those portions that the parcel that were never polluted. For its part, Ciba argued that no portion of is property remains unaffected by environmental contamination. Ciba maintained that by virtue of being designated as a Super Fund NPL site, the value of the entire parcel is directly or indirectly affected by environmental contamination and associated remediation costs. Thus, Ciba argued, any adjustment to “as if clean” true market value for remediation costs must apply to the entire parcel.

The Tax Court agreed with the proposition that it is possible after trial to determine the true market value “as if clean” of the Ciba parcel by determining the value of distinct portions of the parcel that have distinct highest and best uses. But the Court rejected the municipality’s argument that once an “as if clean” value is determined, an adjustment for the costs of environmental remediation can be applied only to those portions of the parcel that were directly contaminated with pollutants. The Court noted that no legal authority dictates that the Court limit adjustments for remediation costs to only those portions of a parcel which were directly contaminated and to ignore the impact of environmental contamination on other portions of the parcel. Inclusion of a parcel on the Super Fund NPL and the existence of extensive pollution on a parcel has an effect on the true market value of the entire parcel, even those portions that arguably could be considered never to have been polluted.

Ciba Specialty Chemicals Corp. v. Township of Dover, 2013 WL 6438501 (N.J.Tax, December 5, 2013)

MONTANA – Telecommunications service company which provides cable, voice and internet services should be centrally assessed; cannot report voice and internet services locally. The Montana Department of Revenue appealed an order of the District Court determining that it lacked authority to impose retroactive assessments on Bresnan Communications, LLC, a cable television provider. Bresnan purchased the Montana cable television network infrastructure that is the subject of this dispute in 2003.

Bresnan’s 2003 network was typical of cable systems. The “headend” of that network received and broadcasted data that Bresnan chose. The headend broadcasted data over the “trunk cable,” the industry name for the networked cable system that connected Bresnan’s data feed to each customer’s neighborhood. Once the data reached a customer’s neighborhood, the “feeder cable” transmitted data throughout the neighborhood. Each individual customer had a “drop cable” that connected the feeder cable to the customer’s home. The drop cable connected to the customer’s “terminal equipment.” The terminal equipment, commonly known as the set-top box, interpreted which data to play on a television.

Between 2003 and 2010, Bresnan upgraded its network infrastructure to include new services, seeking to bundle expanded cable programming, on-demand video services, high-speed internet data services, and voice-over-internet protocol telephony services. Bresnan labeled these services its “Triple Play” package. Technological upgrades allowed Bresnan to combine the internet data with the cable data into a single electrical signal for transfer over Bresnan’s system, and ultimately to provide voice-over-internet protocol telephone services. Bresnan began to provide the same terminal equipment to customers in 2010, without consideration of which services the customer had purchased from Bresnan. This new terminal equipment provided an integrated experience to customers. Regardless of which services the customer had purchased from Bresnan, all data arrived into a single piece of terminal equipment. The terminal equipment processed that data and delivered the appropriate service to the customer. The upgrades necessary to include these services altered Bresnan’s network from its 2003 form.

Although Bresnan functionally had bundled its Triple Play services for consumers, Bresnan segregated each service for taxation purposes. Montana imposes an excise tax upon voice services, such as Bresnan’s telephone operations. Montana imposes no excise taxes upon cable television or high speed internet.

A 1999 amendment to the Montana Tax Code requires the Department of Revenue to assess centrally allocations of “telecommunications services companies,” which is done through the unit method of valuation. Unit valuation considers the market value of the company as a functional whole instead of the value of individual components. Whether a taxpayer uses local filing, as compared to central filing, dictates the method that the Department uses to value property.

Bresnan unilaterally apportioned company assets when Bresnan made its tax reports in order to segregate its property. Bresnan used centralized, statewide reporting for its voice operations, resulting in a 6 % centralized assessment, while locally reporting its cable and internet properties, resulting in 3% localized assessments. The Department of Revenue audited Bresnan in December 2008 and determined that Bresnan should report its property as a single entity rather than as three separate entities. Bresnan filed a declaratory judgment action, and the District Court held that Bresnan’s property could be treated as allocations of a centrally assessed telecommunications services company and assessed locally. The Supreme Court disagreed.

The Supreme Court rejected the District Court’s analysis, which focused upon a physical attribute of Bresnan’s property?the transfer of electrical data signals. Physical attributes do not represent the standard that Montana courts use to classify property. The District Court’s focus upon the physical attributes of Bresnan’s network confines the Department’s ability to classify Bresnan’s entire property in proportion “to its use, its productivity, its utility, [and] its general setting in the economic organization of society.” Nothing restricts the use and productivity of Bresnan’s network to the delivery of an electrical data signal only for cable television. The physical attributes of Bresnan’s property and the productivity that results from the use of that property represent the proper metric to classify Bresnan. Bresnan’s telecommunications property constituted single and continuous property that was operated in more than one county, requiring central assessment.

Bresnan Communications, LLC v. State Dept. of Revenue, — P.3d —-, 2013 WL 6229177 (Mont., Dec. 2, 2013)