Nonprofits and Real Estate: Maximizing Value and Understanding Taxes and Costs

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1 Nonprofits and Real Estate: Maximizing Value and Understanding Taxes and Costs Craig Kepler Partner, Lindquist & Vennum LLP Rinal Ray Deputy Public Policy Director, Minnesota Council of Nonprofits

2 Session Goals Convey the distinction between taxes, assessments, fees and charges at the local level Provide strategies for organizations to maximize the value of tax-exempt real estate transactions Understand the local government impact on nonprofit financial considerations

3 Potential Property Based Costs Property Taxes Special Assessments Fees and Charges PILOTS

4 History and Context Minnesota Constitution Article X, Section 1 (1857): Power of taxation; exemptions; legislative powers. The power of taxation shall never be surrendered, suspended or contracted away. Taxes shall be uniform upon the same class of subjects and shall be levied and collected for public purposes, but public burying grounds, public school houses, public hospitals, academies, colleges, universities, all seminaries of learning, all churches, church property, houses of worship, institutions of purely public charity, and public property used exclusively for any public purpose, shall be exempt from taxation except as provided in this section... The legislature by law may define or limit the property exempt under this section other than churches, houses of worship, and property solely used for educational purposes by academies, colleges, universities and seminaries of learning. The legislature may authorize municipal corporations to levy and collect assessments for local improvements upon property benefited thereby without regard to cash valuation. 4

5 Property Tax Exemption Whether the tax-exempt organization qualifies for property tax exemption The procedure and timing for applying the exemption What the exempt organization is or is not exempt from Taxes, assessments, etc.

6 Whether the Organization Qualifies for Property Tax Exemption Property tax exemption is governed by Minn. Stat This statute is a classic example of legislation by agglomeration. Consider, for example, the following:

7 Whether the Organization Qualifies for Property Tax Exemption Subd. 3.Public schoolhouses. All public schoolhouses are exempt. Has been in Minnesota law since at least 1851

8 Whether the Organization Qualifies for Property Tax Exemption Subd. 36.Certain school district property not exempt. Property owned, leased or used by any public elementary or secondary school district for a home, residence or lodging house for any teacher, instructor, or administrator, and any property owned by any public school district which is leased to any person or organization for a nonpublic purpose for one year or more pursuant to section 123B.51, subdivision 4, shall not be included in the exemption provided in subdivisions 1 to 33. Has been in Minnesota law since 1971

9 Whether the Organization Qualifies for Property Tax Exemption Subd. 42.Property leased to schools. a) Property that is leased or rented to a school district is exempt from taxation if it meets the following requirements: 1. the lease must be for a period of at least 12 consecutive months; 2. the terms of the lease must require the school district to pay a nominal consideration for use of the building; 3. the school district must use the property to provide direct instruction in any grade from kindergarten through grade 12; special education for disabled children; adult basic education as described in section 124D.52; preschool and early childhood family education; or community education programs, including provision of administrative services directly related to the educational program at that site; and 4. the lease must provide that the school district has the exclusive use of the property during the lease period. Has been in Minnesota law since 1990

10 Whether the Organization Qualifies for Property Tax Exemption Subd. 42.Property leased to schools. b) Property that is leased or rented to a charter school formed and operated under chapter 124E is exempt from taxation if it meets all of the following requirements: 1. the lease is for a period of at least 12 consecutive months; 2. the property is owned by (i) a nonprofit corporation or association exempt from federal income tax under section 501(c)(2) or (3) of the Internal Revenue Code; (ii) a public school district, college, or university; (iii) a private academy, college, university, or seminary of learning; (iv) a church; or (v) the state or a political subdivision of the state; 3. the charter school must use the property to provide (i) direct instruction in any grade from kindergarten through grade 12; (ii) special education for disabled children; or (iii) administrative services directly related to the educational program at that site; and 4. except for lease provisions that allow for the shared use of the property by (i) the charter school and another public or private school; (ii) the charter school and a church; or (iii) the charter school and the state or a political subdivision of the state, the lease must provide that the charter school has the exclusive right to use the property during the lease period. Added to Minnesota law in 2010.

11 Special Provisions Although the foregoing is specific to public schools, there is a plethora of special provisions for tax exemption, including: personal property used for pollution control (Subd. 10); emergency shelters for victims of domestic abuse (Subd. 13); satellite broadcasting facilities (Subd. 16); property used to provide computing resources to University of Minnesota (Subd. 21); ice arenas and baseball parks (Subd. 25) (but not football or soccer fields?); manure pits (Subd. 28); business incubator property (Subd. 31); at least 10 Subdivisions dealing with various sub-types of electrical generation facilities; monosloped roofs for feedlots and manure storage areas (Subd. 87); and last but not lease, electric generation facility; personal property (Subd. 99). Yes, 99 subdivisions. My prediction for 2016: Subd. 100 will be facility used for professional soccer at Snelling and 94 in St Paul.

12 Property Tax Exemption for Purely Public Charities [I]nstitutions of purely public charity are exempt. (M.S.A ) Case law definition of purely public charity development since 1881 North Star Research Institute v Hennepin County, 236 N.W.2d 754 (Minn. 1975). Six factors: helpful purpose without expectation of reward; supported by donations and gifts; beneficiaries required to pay for service, profit production; restricted beneficiaries; and private inurement Mayo Foundation v Commissioner of Revenue, 306 Minn. 25, 236 N.W.2d 767 (1975). Each case must be decided on its own particular facts and it is not essential that every factor mentioned in our decisions to be present before an institution qualifies for exemption. Under the Rainbow v. County of Goodhue, 741 N.W.2d 880 (Minn. 2007). Requirement for charity to be provided for free or reduced cost M.S.A subd. 7 defined institutions of purely public charity in state statute by modifying and codifying the North Star factors.

13 General Tax Exemption Provisions Subd. 7.Institutions of public charity. (a) Institutions of purely public charity that are exempt from federal income taxation under section 501(c)(3) of the Internal Revenue Code are exempt if they meet the requirements of this subdivision. In determining whether real property is exempt under this subdivision, the following factors must be considered: 1. whether the stated purpose of the undertaking is to be helpful to others without immediate expectation of material reward; 2. whether the institution of public charity is supported by material donations, gifts, or government grants for services to the public in whole or in part; 3. whether a material number of the recipients of the charity receive benefits or services at reduced or no cost, or whether the organization provides services to the public that alleviate burdens or responsibilities that would otherwise be borne by the government; 4. whether the income received, including material gifts and donations, produces a profit to the charitable institution that is not distributed to private interests; 5. whether the beneficiaries of the charity are restricted or unrestricted, and, if restricted, whether the class of persons to whom the charity is made available is one having a reasonable relationship to the charitable objectives; and 6. whether dividends, in form or substance, or assets upon dissolution, are not available to private interests.

14 Deeper Look: Factor Two pubic support whether the institution of public charity is supported by material donations, gifts, or government grants for services to the public in whole or in part; Fundraisers, individual or institutional gifts and donations, government grants (not fee-for-service contracts), etc.

15 Deeper Look: Factor Three - charity whether a material number of the recipients of the charity receive benefits or services at reduced or no cost, or whether the organization provides services to the public that alleviate burdens or responsibilities that would otherwise be borne by the government; Sliding scales, scholarships, pay-what-you-can, free events, etc.

16 The Takeaway If property tax exemption is an important part of your client s determination whether to proceed with a transaction, this is something you should investigate early in your process. Helpful tools: MCN s exemption toolkit, Charity Review Board Bulletin

17 Applying for Exemption Procedure and Timing To understand the structure and timing for applying for tax exemption, one needs to first understand the difference between Assessment Year and Payment Year. County Assessor determines exemption If denied exemption, organizations can request a Review or appeal to Tax Court.

18 Assessment Year Payment Year Assessed Value set by assessor Minn Stat , Sub 36 Prior to July 1 Property acquired prior to July 1 pays for prior assessed year (property must be acquired by exempt user; conversion by existing user does not fall within this rule. Applies only to exempt categories under Subds 2-8) Property acquired prior to July 1 is exempt for current assessed year Property that changes from tax-exempt to taxable use is taxable for the current assessed year June 30 Jan. 2 Feb. 1 Deadline for filing Claim of Exemption Must refile every 3 years thereafter Except churches and certain educational institutions. Exemptions are narrowly construed July 1 July 2 Property that changes from tax-exempt to taxable use after July 1 is placed on assessment rolls for the subsequent year Property that is acquired by a tax-exempt user is exempt beginning with the following assessment year

19 Assessments An entity levying assessments must comply with state laws. Minn. Stat , Subd. 3. In Minnesota, a special assessment is valid if it meets three criteria: 1. if the land receives a special benefit from the improvement; 2. if the assessment is uniform across the same class of property; and 3. if the assessment does not exceed the special benefit to the property. Buzick v. City of Blaine, 505 N.W.2d 51, 53 (Minn. 1993). Market value calculations are not affected by a piece of land s particular use at the time of an assessment. Vill. of Edina v. Joseph, 119 N.W.2d 809, 817 (Minn. 1962) (citation omitted). Thus, for example, the fact that a particular tax exempt user may not enjoy increased revenue due to the improvement, does not affect the obligation to pay assessments. The special benefit is measured by the highest and best use of the land as zoned when the assessment is levied.

20 However There are two Minnesota Tax Court cases, dealing with general property taxes, which are interesting: Blandin Paper Co. v. Cnty. of Aitkin, No. 01-CV , 2013 WL (Minn. T.C. Mar. 12, 2013), and Oberloh v. Cnty. of Nobles, No. C , 1999 WL (Minn. T.C. June 14, 1999). Both cases involved land subject to a conservation easement that significantly restricted development, regardless of zoning. In both cases, the court held that the highest and best use must be determined based on an actual allowed use of the land in the context of the easement. In the case of tax exempt users, there may be potential zoning classifications, such as a conservancy district, that significantly restrict use. Or, there is the possibility of granting a conservation easement. Depending on the circumstances, it could be possible to insulate the property from all or most special assessments.

21 Regulatory Service Fees Purposes and Characteristics of Fees Municipalities may collect regulatory service fees under police power to defray cost of regulating private activity For purpose of preserving public health, safety, welfare, and abating public nuisances Examples: permit and license fees; utility charges; building/inspection fees, nuisances, etc. Characteristic of fee: voluntary and charged to specific property owner Those not affected do not pay 21

22 Municipal Assessment and Fee Examples St. Paul ROW assessment Duluth street system maintenance fee Downtown Improvement Districts Mankato street lighting St. Cloud street lighting 20 + additional cities have fees 22

23 Recent Litigation Involving Special Assessments The city of St. Paul has a large cumulative amount of tax exempt property (churches, universities, schools, parks, etc.) Historically, St. Paul has passed through certain periodic street cleaning and maintenance costs as special assessments Two churches recently sued St. Paul over this practice. The Minnesota Supreme Court ruled that these types of charges may not be included in special assessments, and sent the case back to the trial court for factual determination as to whether each specific challenged charge confers a special benefit on the property. To avoid a final ruling on this determination, St. Paul admitted to liability and paid the full amount demanded by the churches. Several other organizations are now planning new lawsuits on this issue.

24 When is a fee or assessment really a tax? Tax Revenue raising for a public purpose Benefits general public Annually recurring assessment Imposed city-wide/large population Diverse services provided as needed Fee Covers regulatory cost Imposed on a limited number of property owners Charged for use or consumption of specific types of services Not limited by benefit conferred

25 PILOT Just because your organization is tax exempt does not mean that property tax is never its concern. Many municipalities require, as a condition to a development agreement, a Payment In Lieu of Taxes (PILOT). There is some controversy about this practice and it has not been fully parsed via litigation.

26 Internal Decision-Making and the Ability to Convey Title If you represent an entity purchasing property from a tax-exempt organization and you want your buyer client to receive marketable title, be prepared to do legal work for the seller as well as for the buyer. Tax exempt organizations are often created by volunteers. The lawyer who happens to be on the initial board, working on a volunteer basis, perhaps not even practicing in the area of tax exempt entities. They might use documents found on the internet or in self-help books. Often, they create their foundational documents with highly altruistic or ephemeral goals like inclusion and community and empowerment. This may seem great when it is being formed, but it can make it difficult to know whether the organization has authority to convey its real estate.

27 Documents You Will Need Articles Bylaws Resolution of the Board or Members 1023 Determination letter

28 Special Considerations if a Church is the Seller Minn. Stat states that if the seller of real property is a religious corporation, the trustees must (a) first pass a resolution agreeing to sell, consented to by two-thirds of the members of the congregation at a duly noticed meeting, or (b) if the religious corporation no longer has meetings, it must post notice of intent to sell, on the land, for a period of 20 days. We recently had a circumstance where a seller posted as required and, in response to unexpectedly high levels of objection by people of the same religious faith, elected to not sell. The member consent/posting requirement does not affect title for conveyances that have been of record for more than six (6) years. Minn. Stat

29 Examples One small, independent church s bylaws described its membership as: Every person who has accepted our Lord Jesus Christ as his personal God and savior at the altar of the Church. Elsewhere, the bylaws said that the Church could not transfer its real estate without an affirmative vote of at least 2/3 of the Membership. A formulation for a community center: All families residing within a 3-mile radius of the center. Again, the bylaws required a supermajority membership vote to convey real estate. In extreme cases like this, the only solution may be for the board of directors to file a petition in court (or, for Torrens land, in the Examiner s office), seeking an order authorizing the sale. This is a due diligence item for the buyer that you will want to satisfy before your earnest money goes hard.

30 Planning Issues: Creative Land Use Tax exempt organizations often involve uses that are not plain vanilla. It can sometimes be difficult to find suitable properties for their operations. Location, affordability, size, and access, can be quite unique, and when a property is found, there may be zoning hurdles. Keep in mind that often the tax exempt organization will be taking the property off of the tax roll.

31 Case Study 1: Mendota Heights

32 Case Study 1: Mendota Heights

33 Case Study 1: Mendota Heights Light Industrial and General Industrial Policies Provide opportunities for new industrial development, expansion of existing uses and the redevelopment of existing industrial uses to expand employment opportunities and to serve existing businesses in the community. Improve the appearance of existing industrial areas and minimize adverse impacts on the community s image and development potential. Ensure adequate public facilities and infrastructure systems to serve future development and redevelopment of the area. Improve existing industrial areas over time using redevelopment tools and possibly financial incentives, particularly in areas that are highly visible from adjacent roadways. Enact standards for new industrial developments that are in keeping with the need to improve the overall appearance of the community. Require landscaped buffers between dissimilar land uses to enhance compatibility.

34 Case Study 2: Minnehaha Ave. Saint Paul

35 Case Study 2: Minnehaha Ave. Saint Paul

36 Case Study 2: Minnehaha Ave. Saint Paul Rezoning Sought The property contained multiple tracts split into three zoning districts. One of the sets of tracts is zoned R4; one is zoned I1; and one is zoned VP. We requested a rezoning of the I1 and the VP tracts to T1. We also requested a rezoning of the R4 tract to RT1.

37 Case Study 2: Minnehaha Ave. Saint Paul Comprehensive Plan Analysis We were able to succeed based on based on an analysis of the Saint Paul Comprehensive Plan. That plan designates this site as an Opportunity Site (Comprehensive Plan, Land Use Section 1.54). Opportunity Sites are to be developed into mixed-use or employment centers. The T1 zoning is intended to provide for compact, pedestrian-oriented mixed-use areas of limited size, with a variety of residential, office and service uses. The RT1 zoning retains the residential category of the existing R4, but is more in harmony with the T1 zoning of the other two tracts.

38 Questions? Craig Kepler Rinal Ray