BILL ANALYSIS
SENATE REVENUE & TAXATION COMMITTEE
Senator Lois Wolk, Chair
AB 1341 - Lowenthal
Amended: June 28, 2010
Hearing: July 1, 2010 Fiscal: Yes
SUMMARY: Provides Legislative Direction that the Long
Beach Courthouse Project Agreement is not
Independent for Possessory Interest Tax Purposes.
EXISTING LAW (California Constitution) provides that
all property is taxable unless explicitly exempted by the
Constitution or federal law. The Constitution exempts from
property tax any property owned by a state or local agency;
however, the possessory interest tax is imposed on real
property interests located on public land. A taxable
possessory interest must be independent, durable, and
exclusive, all terms of which are defined by statute and
case law. Private interests on federal land (e.g., a
vacation cabin on Forest Service land) are subject to the
possessory interest tax. County Assessors determine
whether possessory interests exist by applying the
Constitution, statute, case law, and direction from the
Board of Equalization (BOE).
EXISTING LAW defines "independence" as "the ability to
exercise authority and exert control over the management or
operation of the property or improvements, separate and
apart from the policies, statutes, ordinances, rules, and
regulations of the public owner of the property or
improvements. A possession or use is independent if the
possession or operation of the property is sufficiently
AB 1341 - Lowenthal
Page 5
autonomous to constitute more than mere agency." Case law
and Property Tax Rule 20 add that the possessor must derive
some "private benefit" to be considered independent,
meaning the use must provide some private economic benefit
to the possessor not shared by the general public.
EXISTING LAW requires public agencies to include a
statement that a possessory interest tax may be assessed if
the party in whom the possessory interest is vested may be
subject to the payment of possessory interest taxes.
Private parties may recover damages from the public entity
if the statement is not included.
EXISTING LAW provides that a lease-leaseback of
publicly owned real property is not "independent" for
purposes of the possessory interest tax if the lessee
Is obligated to simultaneously sublease
the property to the public owner for all or
substantially all of the lease period.
May not exercise control and authority
over the management or operation of the property
separate and apart from the policies and
procedures of the public owner.
Provides as part of the sublease that the
public owner has the right to repurchase all of
the lessee's rights in the lease.
Cannot receive rents or other amounts
from the public owner under the sublease that
exceeds the present value of the rent or other
amounts payable by the lessee, including any
amounts due with respect to repurchase.
THIS BILL provides that no independent use exists
under a project agreement and related agreements entered
into by the Judicial Council with a nongovernmental entity
to replace the Long Beach Courthouse if:
The nongovernmental entity is required to
design, build, finance, operate, and maintain the
AB 1341 - Lowenthal
Page 5
Long Beach Courthouse.
The Judicial Council establishes
performance expectations and benchmark criteria
for the court facility that serve as the basis
for the selection of the nongovernmental entity.
The Judicial Council and other
governmental entities have exclusive use and
control of the Long Beach Courthouse land and
improvements for court and related activities for
35 years.
The Judicial Council holds title to the
land and improvements of the Long Beach
Courthouse.
The nongovernmental entity is not treated
as the owner of the improvements of the Long
Beach Courthouse for any purposes, including
federal income tax purposes, and does not deduct
any depreciation on the improvements.
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 Judicial Council of the service fee for
services provided by the nongovernmental entity
in connection with a court facility.
THIS BILL provides that its provisions do not apply to
any lease of, or improvements to, the Long Beach Courthouse
by the Judicial Council 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.
THIS BILL makes legislative findings and declarations
regarding the need for the special law, and the Long Beach
Courthouse. The measure states that its provisions are
declaratory of existing law; however, the Author will offer
AB 1341 - Lowenthal
Page 5
amendments at the hearing deleting this provision as it may
affect possessory interest determinations unrelated to the
Long Beach Courthouse (See Comment F).
FISCAL EFFECT:
According to BOE, based on estimates from the AOC, AB
1341 results in foregone possessory interest taxes in Los
Angeles County of between $4 and $5 million.
COMMENTS:
A. Purpose of the 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. Its failure as a public
building was best illustrated when paramedics carried a
juror in cardiac arrest down a crowded flight of stairs,
rather than whisk him down an elevator, delaying his
transport to the emergency room, because he happened to be
on a floor not serviced by elevators when his heart attack
occurred.
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.
B. Being Possessive
AB 1341 - Lowenthal
Page 5
Possessory Interest Tax law is a vibrant, yet slightly
esoteric corner of the tax world. Possessory interest
taxes backstop the property tax when taxpayers enjoy use of
public property for his or her economic benefit, ensuring
that these taxpayers are not unfairly advantaged relative
to taxpayers who own their own property. The tax applies
to the interest, not the land. Possessory interest
taxpayers may end up paying less than their property tax
paying counterparts because the base of the possessory
interest tax is the limited rights the private user enjoys
on public land, and are often considered less valuable than
the exclusive rights property taxpayers enjoy on their own
land despite the same tax rate of one percent of value.
Assessors value interest based on income derived,
comparable sales, or by subtracting accrued depreciation
from replacement cost. Examples of possessory interests
include docks and slips in public waterways, ski resorts on
public lands, and the classic example of the cabin in a
National Forest.
County assessors determine whether possessory
interests exist based on the California Constitution,
statute, case law, and direction from the BOE. The
Legislature has enacted definitions for each of the three
tests that assessors use when determining whether an
assessable possessory interest exists: independence,
durability, and exclusivity. However, assessors have the
exclusive power to make determinations, and the only
recourse for taxpayers is to the Courts, where assessors
have previously argued that only constitutional amendments,
not statutes, can limit the assessor's discretion. Should
AB 1341 be enacted, the Los Angeles County Assessor could
still assert a possessory interest, and Courts would
ultimately have to reconcile the State Constitution with
this measure.
C. Goldhammers and Nails
AB 1341 seeks to exempt from possessory interest taxes
a project known as a "lease-leaseback." Under this model,
AB 1341 - Lowenthal
Page 5
the public agency owns the land, but enters into a lease
with the nongovernmental entity, which builds the facility
and when complete, takes possession of the building. The
nongovernmental entity then leases the property back to the
public entity for an annual rent, which is generally the
total construction cost divided by the length of the lease.
The revenue stream of lease payments from the public
entity provides the security for the nongovernmental entity
to borrow construction funds from capital markets, and
additionally allows the nongovernmental entity to deduct
depreciation on its state and federal income taxes. After
the nongovernmental entity repays its loans, it passes the
building back to the public entity, which never loses
ownership of the land. Public entities entering into this
kind of arrangement must warn the nongovernmental entity of
the possessory interest tax. Courts have validated
assessors' determinations to assert possessory interest
taxes on lease-leaseback arrangements, most notably in City
of Desert Hot Springs v. County of Riverside, 91 Cal. App.
3d 441 (1979), stating of Herbert Goldhammer, who
constructed the project:
"Goldhammer acquired the right to possession of the
real property under the 50-year lease provisions. The
leaseback provisions do not divest him of that right.
On the contrary, they provide for retention during the
period of the lease of all the classic rights
belonging to a sublessor, including the remedies
available to such a sublessor against a defaulting
sublessee ? the possession by the city under the
sublease is not in opposition to Goldhammer's right
under the 50-year lease, but rather pursuant to and
subordinate to his right. The fact that Goldhammer
does not occupy the property during the period of
sublease to the city does not signify that he does not
enjoy the value of the premises during the tenure of
the sublease. In lieu of actual occupancy of the
premises, he receives rental under the sublease, which
rental represents the value of the rented premises
during the terms of the lease."
In 1996, the Legislature provided a safe harbor for
AB 1341 - Lowenthal
Page 5
projects like these in AB 1991, Granlund. That bill added
a section of law that provided specific conditions where a
lease leaseback would not be considered independent for
possessory interest tax purposes.
D. The Courthouse Steps
Completed in 1957, the Long Beach Courthouse is
undersized and dilapidated according to the Administrative
Office of the Courts (AOC). AOC states that the Long Beach
Courthouse project is direly needed because the existing
structure is in unsatisfactory condition and poses a risk
to staff and the public. When seeking to replace the aging
Long Beach Courthouse, AOC decided to use a
"performance-based infrastructure delivery model," where a
private party builds, operates, and maintains a facility on
land owned by AOC instead of building it themselves, where
AOC would not pay property taxes because it is a public
agency. According to AOC, it elected to use the
performance-based infrastructure delivery model because of
its anticipated value for money and timely completion of
the project. AOC acknowledged in its request for proposals
that if a possessory interest existed, AOC will reimburse
the nongovernmental entity for its share. Last Friday, AOC
selected a consortium headed by Meridiam Infrastructure as
the preferred proposer on the project.
The Long Beach Courthouse project financing mechanism
is substantively different than the lease-leaseback
described above. For this project, the nongovernmental
entity never takes ownership of the building; instead, the
services agreement that sets forth the nongovernmental
entity's responsibilities, the obligation of the AOC to pay
the nongovernmental entity, and the nongovernmental
entity's right to evict the AOC and use the building for
private commercial space if AOC defaults constitute the
nongovernmental entity's interest. Because no private
ownership exists, the nongovernmental entity cannot deduct
depreciation. According to AOC, the Courthouse project is
the first or second transaction of this kind in California.
AB 1341 - Lowenthal
Page 5
The Los Angeles County Assessor asserts that the
project contains a possessory interest, and plans to tax
the project accordingly; AOC disagrees, and is advancing AB
1341 to provide legislative direction to the Los Angeles
County Assessor not to assert a possessory interest. The
section of law the Legislature added in 1996 does not apply
because the public agency pays rent to the nongovernmental
entity, or lessee. AOC argues that this financing model
results in better value and a quicker project completion,
and doesn't require a large General Fund appropriation to
finance construction that would be necessary if AOC built
the project themselves. AOC states that the bidders on the
project did not factor in as part of their costs any
possessory tax implications, and adds that legislative
direction regarding the existence of a possessory interest
is necessary because the Department of Finance may not
approve the added costs of $4 to $5 million in possessory
interest tax liability. Without approval, AOC will have to
begin the entire courthouse procurement process again from
the beginning, which would delay the project by an
estimated three years.
E. Not the First, Maybe the Last?
AB 1467 (Nunez and Perata, 2006) amended the Streets
and Highways Code to provide that any lease entered into by
the Department of Transportation or regional transportation
agencies with a private entity for the construction and
lease of toll road projects does not constitute a
possessory interest. While similar, AB 1341 provides an
exemption for only the Long Beach Courthouse in an
uncodified section of law. Additionally, AOC has stated
that it will account for the possessory interest tax for
all future projects; however, this may not stop other
proponents of so-called "public-private partnerships" from
seeking future legislative exemptions despite this narrowly
tailored measure.
AB 1341 - Lowenthal
Page 5
F. Not So Fast
The Current version includes a legislative finding
that the measure is declaratory of existing law, which it
is not. The Author will offer amendments at the hearing to
remove this provision. As a result, the fiscal key will
change from "no" to "yes."
Support and Opposition
Support:Judicial Council of California
Oppose:California Assessors Association
---------------------------------
Consultant: Colin Grinnell