BILL ANALYSIS AB 1341 Page A Date of Hearing: August 26, 2010 ASSEMBLY COMMITTEE ON REVENUE AND TAXATION Anthony J. Portantino, Chair AB 1341 (Lowenthal) - As Amended: August 2, 2010 Majority vote. Tax levy. Fiscal committee. SUBJECT : Property taxation: possessory interests: Long Beach Courthouse SUMMARY : Provides that there is no taxable possessory interest if the possession is pursuant to a project agreement entered into by the Judicial Council (JC) with a nongovernmental entity for the purpose of replacing the Long Beach Courthouse, and if other specified criteria are met. Specifically, this bill : 1)Includes the following legislative findings: a) The existing courthouse located at 415 West Ocean Boulevard in the City of Long Beach is in unsatisfactory physical condition, is a potential public safety risk to court staff and the public, and is in need of immediate replacement; b) This bill is designed to expedite the facility's replacement by resolving a disputed property tax issue that could potentially delay the replacement project and add an element of unpredictable financial risk to the project's public sponsor; c) It is the Legislature's intent in enacting this bill to provide legislative direction to county assessors, the State Board of Equalization (BOE), the courts, and other involved parties regarding the interpretation of the term "independent" as it relates to the Long Beach Courthouse; and, d) A special law is necessary because of the need to resolve the property tax issues potentially delaying the Long Beach Courthouse replacement project and to mitigate the attendant risks of that delay to the citizens of Los Angeles County and the State of California. AB 1341 Page B 2)Provides that there is no "independent" possession or use of land or improvements (and, therefore, no taxable possessory interest) if the possession is pursuant to a project agreement entered into by the JC with a nongovernmental entity in accordance with Government Code (GC) Section 70391.5 for the purpose of replacing the Long Beach Courthouse, and if all the following conditions are met: a) The nongovernmental entity is required to design, build, finance, operate, and maintain the Long Beach Courthouse; b) The JC establishes performance expectations and benchmark criteria for the court facility proposal in accordance with GC Section 70391.5 that serve as the basis for selecting the nongovernmental entity; c) The JC and other governmental entities have exclusive use and control of the Long Beach Courthouse for court and related activities for 35 years; d) The JC holds title to the land and improvements of the Long Beach Courthouse; e) The nongovernmental entity is not treated as the owner of the improvements for any purpose, including federal income tax purposes, and does not deduct any depreciation on the improvements; and, f) Any lease-leaseback of land and improvements of the Long Beach Courthouse with the nongovernmental entity is solely for the purpose of providing security for the payment by the JC of the service fee for services provided by the nongovernmental entity in connection with a court facility. 3)Provides that this possessory interest safe harbor shall not apply to any lease of, or improvements to, the Long Beach Courthouse by the JC with a nongovernmental entity to the extent the land or improvements are used by the nongovernmental entity as commercial office space, retail space, or paid parking spaces not designated for use for governmental purposes or court facilities. 4)Provides that, notwithstanding existing law, the state shall not reimburse any local agency for any property tax revenue AB 1341 Page C lost as a result of this bill. 5)Takes immediate effect as a tax levy. EXISTING LAW : 1) Provides that all property is taxable, unless otherwise specified by the California Constitution or federal law. 2) Requires all property subject to tax to be assessed at its full value. For property tax purposes, full value generally equals the post-Proposition 13 acquisition price, adjusted annually for inflation (not to exceed 2%). Although public land is exempt from property tax, private real property interests held in connection with public land may be taxed as "possessory interests." 3) Provides that, for a taxable possessory interest to be found, the possession must generally be "independent," "durable," and "exclusive" of rights held by others in the property.<1> Possession is considered "independent" if the holder has the ability to exert control over the property's management, separate and apart from the public owner's rules and policies. In other words, a possession or use is independent if it is sufficiently autonomous to constitute something more than a mere agency. 4)Provides that when the state or any local government enters into a written contract with a private party whereby a taxable possessory interest may be created, the private party must be notified in the contract of the potential property tax consequences. If this notification is not provided, the private party can recover damages under certain circumstances. -------------------------- <1> Property Tax Rule 20(a)(1) additionally requires that the possessor derive a "private benefit" from the property's use. A "private benefit" means "that the possessor has the opportunity to make a profit, or to use or be provided an amenity, or to pursue a private purpose in conjunction with its use of the possessory interest." AB 1341 Page D 5) Specifies a procedure by which the JC may enter into agreements for court facility development that include alternate methods for project delivery, including public-private partnerships. FISCAL EFFECT : This bill could result in foregone possessory interest taxes in Los Angeles County of between $4 million and $5 million. However, the JC indicates that, in the absence of this bill, the state would be required to pay any possessory interest taxes related to the Long Beach Courthouse on behalf of the nongovernmental entity, which could result in annual General Fund payments of $4 million to $5 million. COMMENTS : 1)The author has provided the following statement in support of this bill: Long Beach is ready for its new courthouse. In fact, it is long overdue. Experts say its existing 50-year-old facility is perhaps the worst in the state when it comes to security, safety and overcrowding. The Administrative Office of the Courts has found a way to deliver the project three years earlier than might otherwise occur, by use of a public-private partnership. Unfortunately, a dispute over property tax has arisen, which, if left unresolved, could increase the cost of the project to the point it would no longer be fiscally viable. To resolve this problem without creating precedent or altering existing code, AB 1341 declares that the unique needs and nature of the Long Beach courthouse project exempt its state functions from possessory interest taxation. If the courthouse were funded the traditional way, possessory tax revenue would of course not exist. Likewise, if the courthouse construction were postponed, there would be no economic activity of any kind to tax. Any revenue to be gained by applying possessory tax to this project is an illusion. 2)The JC is sponsoring this bill to resolve property tax issues AB 1341 Page E that could potentially delay construction of the Long Beach Courthouse project. The JC notes: In June the preferred proposer on the project was selected and notified. Over the next several weeks the Administrative Office of the Courts will be working with the selected proposer to complete the project agreement in order to secure final approval of the project from the Department of Finance late this year after which project construction can begin. AB 1341 will ensure that the Long Beach Courthouse project can move ahead without any delay that may be caused by unresolved property tax issues. The bill has been crafted to be specific to the Long Beach project and does not impact the possessory interest analysis for any other project. We have estimated that in the absence of AB 1341 an assessed possessory interest tax could result in a $3 to $5 million cost to the State. If the possessory tax interest is left unresolved this increased project cost could make the project no longer fiscally viable. In that event, the AOC would look to a traditional public construction of the project which would delay the project (and the resulting jobs that would be created) at least 2-3 years and, as a publicly owned courthouse, there would be no possessory interest. Thus, either way there is no actual loss of possessory interest tax revenue. 3)Proponents state: The Long Beach Courthouse ranks among the State's worst in terms of security and overcrowding, and cannot meet the current or future needs of the court. Over 4,800 people visit the building each day in addition to the hundreds of in-custody defendants. Currently those in-custody defendants move within hallways that are also traveled by judges, staff, and witnesses, creating a very real security risk. Witnesses and victims often must wait in the same hall as the accused defendant, and the holding cells were not designed to accommodate the large number of in-custody defendants. This facility must be replaced immediately, and delay is not an option. 4)This bill is opposed by the California Assessors' Association, which states: AB 1341 Page F The AOC acknowledges the existence of possessory interest taxes in Section 7.2(b) of the proposed ground lease, which states: 'Tenant acknowledges that its possessory interest hereunder may be subject to taxation and that Tenant shall be responsible for payment of any such tax except as otherwise provided for in the Project Agreement.' The AOC, however, in the RFP they issued to solicit contractors, explicitly states that the AOC would be responsible for any possessory interest taxes that would apply to the newly constructed courthouse. This self-inflicted harm should not be the basis for legislation that is clearly unconstitutional. 5)Committee Staff Comments a) Project Background : By all accounts, the Long Beach Courthouse has seen better days. According to the Administrative Office of the Courts (AOC), the current courthouse suffers from fundamental flaws, is overcrowded, and fails to meet accessibility requirements, making it incapable of meeting the growing demand for court services in the Long Beach area. Thus, the JC has developed plans to replace the courthouse, using "Performance-Based Infrastructure" or "PBI," which the AOC describes as an innovative project delivery method that involves engaging a private team to finance, design, build, operate, and maintain the new facility. To provide security for the JC's payment of applicable service fees, the AOC will lease the Long Beach Courthouse facilities to the private team under a long-term lease, with the State maintaining ownership of the land and improvements. The private team will then sub-lease back to the AOC that portion of the Long Beach Courthouse to be used for Superior Court purposes. This type of arrangement is commonly referred to as a "lease-leaseback." Once complete, the new facility will include 31 courtrooms, administrative office space, and commercial office and retail space compatible with court uses. The project will AB 1341 Page G also include the renovation of a nearby parking structure and improvements to surrounding street frontages. The new facility is scheduled for occupancy in mid-2013. b) Possessory Interests : In certain circumstances, a property tax assessment may be levied when a person or entity uses publicly-owned real property that, with respect to its public owner, is either immune or exempt from property taxation. These uses are commonly referred to as "possessory interests" and are typically found in cases where the entity leases, rents, or uses federal, state, or local government property. Revenue and Taxation Code Section 107 provides that, for a taxable possessory interest to be found, the possession must be "independent," "durable," and "exclusive" of rights held by others in the property. Generally, assessors and courts determine whether a taxable possessory interest exists based on the facts and circumstances of a particular case. Given the "lease-leaseback" nature of the proposed Long Beach Courthouse project, concerns have been raised that the private party's leasehold interest may rise to the level of a taxable possessory interest under existing law. Thus, this bill proposes a narrow "safe harbor" under which the private party's interest in the Long Beach Courthouse would be considered non-independent and, therefore, nontaxable as a possessory interest. c) Constitutional Considerations : Article XIII, Section 1 of the California Constitution provides that all property is taxable, unless otherwise specified by the California Constitution or federal law. Some may argue that AB 1341 attempts to exempt a specific possessory interest statutorily in violation of this constitutional provision. Supporters of AB 1341, however, would likely counter that this bill merely provides legislative guidance regarding the independence prong of the existing three-factor analysis. As BOE notes in its staff analysis of this bill, in City of San Jose v. Carlson (1997) 57 Cal.App.4th 1348, the court acknowledged the appropriateness of legislative action to set parameters on the element of durability. A similar argument could be made in this case with respect to the element of independence. d) Will AB 1341 Establish a Precedent? : It is very clear AB 1341 Page H that the author of this measure does not intend for AB 1341 to establish a precedent for future legislation. This bill is, by its very terms, limited to a single project. Moreover, the bill's provisions are uncodified. Finally, in the absence of this measure, the cost of any possessory interest tax assessed on the private developer would likely be passed on to the JC and, in turn, the state.<2> Nevertheless, today's special circumstance often becomes tomorrow's rule. While it may be appropriate to provide a safe harbor in cases where state-owned property will be leased to a private entity but used exclusively for a public purpose, it is conceivable that, in the future, less deserving public-private partnerships may seek similar protections. REGISTERED SUPPORT / OPPOSITION : Support Judicial Council of California (sponsor) City of Long Beach Presiding Judge Charles W. McCoy, Jr., Los Angeles County Superior Court Opposition California Assessors' Association Analysis Prepared by : M. David Ruff / REV. & TAX. / (916) 319-2098 --------------------------- <2> Ostensibly, this is because the original RFP specified that the Judicial Council would bear the cost of any applicable tax.