PA Supreme Court Decision in Tech One: Practically Speaking

1. PA Supreme Court Decision in Tech One: Practically Speaking May 24, 2012 PBI Webinar Anthony C. Barna, MAI, SRA Sharon F. DiPaolo, Esquire

2. Tech One “In conducting this valuation [of the market value of the real estate as a whole], the impact of the lease on the market value of the real estate owned as the leased fee and, also, on the market value of the real estate owned as a leasehold interest must be considered.” Tech One Associates v. Board of Property Assessment, Appeals and Review of Allegheny County, West Mifflin Borough and West Mifflin Area School District, 32 WAP 2010 (Pa. Supreme Court, April 25, 2012), at page 32. Leased fee + Leasehold = Value for Taxation

3. Tech One Associates v. Board of Property Assessment Review of Allegheny County • PA Supreme Court, No. 32 WAP 2010 • April 25, 2012 • Unanimous decision Leased fee + Leasehold = Value for Taxation

4. Tech One What does it mean?

5. Tech One Leased fee + Leasehold = Value for Taxation

6. Tech One Where do we start?

7. Uniformity • Pennsylvania Constitution Article 8, Section 1: “All taxes shall be uniform, upon the same class of subjects, within the territorial limits of the authority levying the tax, and shall be levied and collected under general laws.” Leased fee + Leasehold = Value for Taxation

8. Objectsof Taxation • General County Assessment Law, 72 P.S. Sec. 5020-201 “Subjects of Taxation Enumerated” • “The following subjects and property shall . . . be valued and assessed, and subject to taxation...[a]ll real estate. . . “ Leased fee + Leasehold = Value for Taxation

9. “Real Estate” and “Real Property” Leased fee + Leasehold = Value for Taxation

10. Real Property The interests, benefits, and rights inherent in the ownership of real estate. Leased fee + Leasehold = Value for Taxation

11. Actual Value • General County Assessment Law 72, P.S. Sec 5020-402 “Valuation of Property”: All “objects of taxation” are to be valued “according to the actual valuethereof, and at such rates and prices for which the same would separately bona fide sell.” Leased fee + Leasehold = Value for Taxation

12. Actual Value “Actual value” defined by PA Supreme Court: “[P]rice which a purchaser willing but not obliged to buy, would pay an owner, willing but not obliged to sell, taking into consideration all uses to which the property is adapted and might in reason be applied.” Dietch, 209 A.2d 397, 400 (Pa. 1965). Leased fee + Leasehold = Value for Taxation

13. Marple I and Marple II What were the facts? Leased fee + Leasehold = Value for Taxation

14. Marple I and Marple II • Shopping center Leased fee + Leasehold = Value for Taxation

15. Marple I and Marple II • Shopping center • Built in 1964, approximately 200,000 sf Leased fee + Leasehold = Value for Taxation

16. Marple I and Marple II • Shopping center • Built in 1964, approximately 200,000 sf • 1968 lease for land and building Leased fee + Leasehold = Value for Taxation

17. Marple I and Marple II • Shopping center • Built in 1964, approximately 200,000 sf • 1968 lease for land and building • 25 years (expires 1994) with option for additional 50 years (expires 2044) Leased fee + Leasehold = Value for Taxation

18. Marple I and Marple II • Shopping center • Built in 1964, approximately 200,000 sf • 1968 lease for land and building • 25 years (expires 1994) with option for additional 50 years (expires 2044) • $1.47 square foot rent, remains constant throughout term Leased fee + Leasehold = Value for Taxation

19. Marple I and Marple II • Shopping center • Built in 1964, approximately 200,000 sf • 1968 lease for land and building • 25 years (expires 1994) with option for additional 50 years (expires 2044) • $1.47 square foot rent, remains constant throughout term • Late 1970s Klein’s goes out of business Leased fee + Leasehold = Value for Taxation

20. Marple I and Marple II • 1987 Marple XYZ Associates acquires the Klein’s lease Leased fee + Leasehold = Value for Taxation

21. Marple I and Marple II • 1987 Marple XYZ Associates acquires the Klein’s lease • Later Kleins (Marple XYZ) subleases to others at $3.04 square foot Leased fee + Leasehold = Value for Taxation

22. Marple I and Marple II • 1987 Marple XYZ Associates acquires the Klein’s lease • Later Kleins (Marple XYZ) subleases to others at $3.04 square foot • 1990 New Circuit City built, 35,000 sf, on land subject to Klein’s lease. Marple XYZ subleases to Circuit City. Circuit City paid for and financed the building. Leased fee + Leasehold = Value for Taxation

23. Marple I and Marple II • 1987 Marple XYZ Associates acquires the Klein’s lease • Later Kleins (Marple XYZ) subleases to others at $3.04 square foot • 1990 New Circuit City built, 35,000 sf, on land subject to Klein’s lease. Marple XYZ subleases to Circuit City. Circuit City paid for and financed the building. • 1992 New small shops built adding 18,000 sf , on land NOT subject to Klein’s lease. Leased fee + Leasehold = Value for Taxation

24. Marple I • Case tried for 1988 and 1989 tax years • BEFORE new construction • Issue: whether to use Klein’s rent or market rent in valuation • Case went to PA Supreme Court • “Economic reality” test Leased fee + Leasehold = Value for Taxation

25. Marple II • Case tried for tax years 1990, 1991, 1992 • AFTER construction of new Circuit City and construction of new small shops • Issue: whether Circuit City (subtenant to Klein’s lease) should be valued separately or as part of Klein’s lease • Commonwealth Court ruled Circuit City should be valued as part of Klein’s lease • Supreme Court refused to take case Leased fee + Leasehold = Value for Taxation

26. Tech One What were the facts? Leased fee + Leasehold = Value for Taxation

27. Tech One • Century Square Shopping Center Leased fee + Leasehold = Value for Taxation

28. Tech One • Century Square Shopping Center • 50 acres of land Leased fee + Leasehold = Value for Taxation

29. Tech One • Century Square Shopping Center • 50 acres of land • Lease signed in 1989 Leased fee + Leasehold = Value for Taxation

30. Tech One • Century Square Shopping Center • 50 acres of land • Lease signed in 1989 • 50 years Leased fee + Leasehold = Value for Taxation

31. Tech One • Century Square Shopping Center • 50 acres of land • Lease signed in 1989 • 50 years • Annual rent $665,000 for entire term Leased fee + Leasehold = Value for Taxation

32. Tech One • Century Square Shopping Center • 50 acres of land • Lease signed in 1989 • 50 years • Annual rent $665,000 for entire term • 415,000 square feet shopping center, movie theater restaurant Leased fee + Leasehold = Value for Taxation

33. Leased fee + Leasehold = Value for Taxation

34. Tech One • Case tried for tax years 2001 to 2005 • Appraisers agreed on leased fee value ($9.5 Million or $9.3 Million) • Issue: whether leasehold must be valued? Leased fee + Leasehold = Value for Taxation

35. Tech One • Special Master: Leased fee. $9.5 Million • Trial Court: Leased fee plus leasehold. $22 Million to $35 Million • Commonwealth Court: Leased fee plus leasehold. Leased fee + Leasehold = Value for Taxation

36. Tech One Leased fee + leasehold Leased fee + Leasehold = Value for Taxation

37. Tech One “Where … ownership of taxable real estate which comprises one tax parcel is divided into leased fee and leasehold interests, Section 402) still requires that the market value of the real estate as a whole be determined.” page 31 Leased fee + Leasehold = Value for Taxation

38. Tech One • Assess the entire property • Does not matter who owns • Leased fee + leasehold Leased fee + Leasehold = Value for Taxation

39. The Valuation of All Objects of Taxation • Tech One is the evolution of Marple that reflects the genuine “economic reality” • Practical result is UNIFORMITY • Every lease creates leased fee property rights (property owner) leasehold property rights (tenant) Leased fee + Leasehold = Value for Taxation

40. Tech One Decision Leased fee property rights (Vlf) + Leasehold property rights (Vlh) = Actual Value (Va) = Value for Taxation Leased fee + Leasehold = Value for Taxation

41. Tech One Decision Value of Leased fee property rights (Vlf) + Value of Leasehold property rights (Vlh) = Actual Value (Va) = Value for Taxation At market rate: $18 • Vlf + Vlh = Va • Owner receives + (Tenant receives-Owner Receives) • $18 + ($18-$18) = Va=Value for Taxation Leased fee + Leasehold = Value for Taxation

42. Tech One Decision Leased fee rights (Vlf) + Leasehold rights (Vlh) = Actual Value (Va) At market rate: $18 • Vlf + Vlh = Va • $18 + ($18-$18) = Va • $18 + $0 = Va • $18 = Va Leased fee + Leasehold = Value for Taxation

43. Above Market Rate Market rate: $18 Above market rate: $30 Leased fee + Leasehold = Value for Taxation

44. Above Market Rate Market rate: $18 Above market rate: $30 • Vlf + Vlh = Va Leased fee + Leasehold = Value for Taxation

45. Above Market Rate Market rate: $18 Above market rate: $30 • Vlf + Vlh = Va • Owner receives + (Tenant receives-Owner Receives) • $30 + ($18-$30) = Va Leased fee + Leasehold = Value for Taxation

46. Above Market Rate Market rate: $18 Above market rate: $30 • Vlf + Vlh = Va • $30 + ($18-$30) = Va • $30 - $12 = Va Leased fee + Leasehold = Value for Taxation

47. Above Market Rate Market rate: $18 Above market rate: $30 • Vlf + Vlh = Va • $30 + ($18-$30) = Va • $30 - $12 = Va • $18 = Va= Value for Taxation • Important: this illustration is an over-simplification, because it does not take into account differing capitalization rates for the leased fee and leasehold positions, but it reflects the economic reality. Leased fee + Leasehold = Value for Taxation

48. Below Market Rate Market rate: $18 Below market rate: $5 Leased fee + Leasehold = Value for Taxation

49. Below Market Rate Market rate: $18 Below market rate: $5 • Vlf + Vlh = Va Leased fee + Leasehold = Value for Taxation

50. Below Market Rate Market rate: $18 Below market rate: $5 • Vlf + Vlh = Va • Owner receives + (Tenant receives-Owner Receives) • $5 + ($18-$5) = Va • $5 + $13 = Va • $18 = Va Leased fee + Leasehold = Value for Taxation