Budget Bill Fix to VAP Automatic Tax Exemption

This blog has previously detailed some of the ambiguity of the Voluntary Action Program ten year automatic tax abatement provisions set forth in Revised Code 5709.87. (See prior posts here and here). Three primary issues caused significant problems for developers attempting to leverage the VAP automatic tax abatement:
  1. How to value the abatement- The prior law was ambiguous as to how to value the abatement;
  2. Timing- The timing for locking in the tax abatement was difficult to navigate causing some developers to lose out on millions of dollars in tax abatements; and
  3. Exclusion for New Improvements and Structures- Until an Ohio Supreme Court ruling, the law was somewhat unclear as to whether the abatement covered the land and only existing buildings.  The Ohio Supreme Court clarified that new improvements and buildings were not covered by the automatic tax abatement. 

House Bill 463 included language to fix the first two issues. (H.B. 463 changes to R.C. 5709.87)

How to Value the Abatement

The act specifies that the beginning point for measuring the increase in value subject to abatement is the beginning of the year in which environmental remedial activities began.  Under the prior law, the value was based  upon the date of issuance of the tax abatement order by the Tax Commissioner.  At the start of a brownfield project, it wasn't certain which year would be used as the base value for determining the exemption.

The changes enacted through House Bill 463 specify that the exemption is to measured using the year remedial activities were initiated as the base year.  Each of the ten years during which the property is exempted, any increase in value from the base year is exempted from taxes.

Timing

The other issue with the prior law related to timing.  The date of the exemption and calculation of the value of exemption was not tied to a specific year.  Rather, the exemption was tied to the tax list of the year prior to when the Tax Commissioner issued their abatement order.  The fact the value "floated" with the date the Tax Commissioner issued their order meant it was difficult to secure the full value of abatement. 

For example, assume remediation commenced in 2012 and the property was valued a $1 million. The VAP Covenant-Not-to-Sue (CNS) is issued in 2015.  By 2015, some improvements were completed and the property doubled in value to $2 million.  The Tax Commissioner issues the abatement order in 2016, which means the 2015 tax value (not the 2012 value) would be used to determine the value of the abatement.  This means the developer would lose out the abatement for the increase in taxes associated with property values increasing between 2012 and 2015.

This created challenges for developers who had to time completion of improvements with completion of the VAP CNS and Tax Commissioner Order.  Some developers didn't plan correctly or were confused by the law and lost out on millions in abatement. 

For instance, once Cincinnati company lost out on a potential tax exemption on a $4 million dollar increase in the value of the property simply because the paperwork was not issued by the government officials in a timely fashion.  see, Hamilton Brownfields Redevelopment LLC v. Zaino, Tax Commissioner of Ohio.

Uncertainty in Valuing Contaminated Property Complicates Brownfield Redevelopment

A key issue in brownfield redevelopment relates to proper valuation of property that is contaminated.   As discussed below, Ohio does recognize that contamination is a relevant factor that should be considered in determining a properties value.  However, other than recognizing it is a relevant factor, Ohio has failed to develop a consistent and reasonable approach to reducing the value of property due to the presence of contamination.

The failure to have a clear cut approach makes brownfield redevelopment more difficult.  Inflated property values lead to higher property tax bills.  This can act as a major disincentive to purchasing brownfield property and can complicate redevelopment.

Ohio has attempted to partially address the tax issues associated with brownfield redevelopment by providing a tax incentive to those who properly cleanup such properties.  Ohio provides a 10 year property tax abatement for properties that are cleaned up in accordance with Ohio EPA's Voluntary Action Program (VAP). See, Ohio Revised Code 5709.87  

In prior posts, I discussed the practical timing issues that can arise in attempting to take advantage of this tax exemption.  However, perhaps the biggest difficulty with this law is that it assumes current tax valuations (which are to be frozen for 10 years) properly account for the presence of contamination.  

I have represented clients who have challenged current valuations as well as discussed this issue with others attorneys.  Those that represent property owners agree that Ohio's current process for properly accounting for contamination is uncertain and doesn't take into account the practical realities of contaminated property. 

Ohio Rejects the "Cost to Cure" Approach

Perhaps the most straight forward methodology for valuing contaminated property is the "cost to cure" approach.  Using this approach, the property is valued assuming it is clean.  This valuation is then reduced by the cost or projected cost to cleanup the property.  

The "cost to cure" approach has been recognized by other states.  The benefit of this approach is that it minimizes subjectivity.  The property is first appraised in the local market as if it were clean. Then expert testimony is presented regarding the total cost to cleanup the property to regulatory standards.  This cost is deducted from the value.  

When cleanup costs exceed the value of the property, the value for tax purposes is set at zero.  This recognizes market reality.  Most property that costs more to cleanup than its worth will simply sit idle until either property values rise or brownfield incentives, such as grant funding, can be used to offset costs.

Multiple Ohio cases have held that introduction of evidence regarding the cost of cleanup and a request to reduce the value by that cost is inappropriate. See,  Chem-Masters Corp. v. Geauga Cty. Bd. of Revision (Dec. 21, 1990) BTA Case No. 88-J-994, unreported; Society National Bank v. Carroll County Board of Revision, BTA Case No. 94-M-454 (April 19, 1996); Hufford v. Montgomery County Board of Revision, BTA Case No. 95-M-855 (May 2, 1997); McDonald Local School District Board of Education v. Trumbull County Board of Revision, Case No. 94-A-757 (1996).

Ohio Accepts Evidence on Impact of Contamination

Many of the cases referenced above also discuss the need for introduction of an appraisal which considers the impact of the contamination on the value of the property. For example, in Company at 34 v. Lake Cty. Bd of Revision (Mar. 25, 1994), 92-T-763, the BTA held that evidence must be submitted on the “diminutive effect the contamination has upon the value of the property.” Testimony from a consultant or someone familiar with the property will more than likely not be sufficient.

There have been a couple cases in which an appraisal was submitted that argued for a reduction in the value by deducting cleanup costs. In Alder v. Licking Cty. Bd. of Revision (Apr. 22, 1994), BTA Case No. 92-R-976, the BTA did not find an appraiser’s testimony and report credible because the appraiser did not have “personal knowledge surrounding the contamination…and had never appraised a parcel of contaminated real estate.”

Most Recent Ohio BTA- Battle of Appraisers

In May of 2015, the Board of Tax Appeals (BTA) heard another case that involved a dispute over the proper methodology to value contaminated property. See, FIP Realty Co. LTD v Franklin County Board of Revision (Case Nos. 2014-1120, 2014-1121). The case involved a 68.5 acre industrial property in the Columbus area.    The County assessed the property at $5,981,600.  Both the property owner and School Board presented testimony from expert appraisers to support their positions regarding valuation of the property.

The property owner appraiser, using an income approach, opined the property "clean" would be worth $2,785,000 at market rates.  As an alternative, the appraiser uses a sales comparison approach to arrive at a valuation, assuming the property to be clean, of $2,750,000.  The appraiser then reduced both methods of arriving a clean values based upon the amount to cleanup up the property ($2,215,000) using a discounted cash flow analysis.  The owner's expert arrived at an "as is" value of $570,000 under the income approach and $895,000 under the sales comparison approach.  

The owner's expert asserted that his methodology did not amount to a dollar-for-dollar reduction based upon cleanup costs because those costs were discounted based on the time value of money. The appraiser's testimony was supported by additional testimony from the environmental consultant responsible for the cleanup.

The School Board appraiser also used both the income approach and sales comparable approach to value the property. Under the income approach, the appraiser used a higher capitalization rate to account for environmental contamination (i.e. discounted the value of the property).  Under the sales comparable approach, the School Board's appraiser selected the lower range of comparable sales to account for environmental contamination.

The BTA rejected the property owners approach as still amounting to a "cost to cure" method.  The BTA accepted the School Board's appraisers methodology finding he had properly accounted for contamination.

However, the issue with the methodology endorsed by the BTA is that it is still not based in reality. The School Board's appraiser only chose the lower range of comparable sales from "clean" properties. With regard to the income approach, he chose a higher capitalization rate to provide  discount to account for contamination.  However, that capitalization rate was not based on real world examples of contaminated property.

The most recent BTA decision endorses a very subjective approach to valuing contaminated property.  The method did not compare sales of other brownfield properties or provide a clear methodology for discounting values based upon the presence of contamination.  Without such a clear methodology, property owners will be forced to speculate regarding the discounted value of their properties.  

Pennsylvania Supreme Court Decision on Valuation of Contaminated Property

On September 29, 2015, the Pennsylvania Supreme Court ruled that the presence of contamination is a relevant factor in determining the value of property. See, Harley Davidson v. Springettsbury Township, et al. Case No. 82 MAP 2014.  The Court also endorsed the concept of of reducing contaminated property due to the stigma caused by the presence of contamination.  Due to the unique circumstances of the case in which a pre-existing settlement covered full cleanup costs, the Court refused to decide whether the "cost to cure" approach was appropriate in Pennsylvania. 

Harley-Davidson owns a 229-acre parcel of industrial property where it operates a motorcycle manufacturing plant.  The property was previously used by the U.S. Navy for weapon manufacturing.  Approximately half of the property is contaminated and half is clean form prior use.  Under as settlement agreement, Harley-Davidson has been cleaning up the property.  The parties have agreed to split future cleanup costs.

Similar to the Ohio case, the competing experts arrived at two different valuations of the property based upon the contamination issues.  The taxing authority expert said the property should be valued as essentially two pieces- the manufacturing half and the vacant half.  Harley-Davidson's expert argued the whole property should be valued as industrial.

The "cost to cure" approach was rejected due to the existing of the settlement agreement under which all future remediation costs were the responsibility of the settling parties.

The Court held:

  • Relevant Factors- “[a]ll relevant factors having a bearing on the value of a property, including environmental contamination, must be considered in a fair market value determination, [and that] the potential impact of a settlement agreement regarding environmental remediation and ongoing limitations and maintenance as a by-product thereof, through a buyer-seller agreement, are relevant factors that must be taken into account.”
  • Stigma- “environmental stigma, although an inherently imprecise concept, may be relevant to determining fair market value of real estate for tax purposes.” The court opined that a 5% stigma discount to the value was potentially appropriate even though the expert provided little support for the 5% figure other than it was based upon his professional experience. 

It would have been helpful to have seen the Court weigh in on the "cost to cure" approach. Overall, the decision is similar to the recent Ohio BTA opinion in that does not provide a clear methodology for valuing contaminated property.