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Olympic and Georgia Partners, LLC v. County of Los Angeles
Citation: Not availableDocket: B312862
Court: California Court of Appeal; April 7, 2023; California; State Appellate Court
Original Court Document: View Document
The Court of Appeal of California addressed the case of Olympic and Georgia Partners, LLC versus the County of Los Angeles, where the plaintiff contested the County's assessment of a hotel using the income method, which improperly included income from intangible assets. The County violated established rules from Roehm v. Orange County and Elk Hills Power, LLC by including three disputed intangibles: an $80 million subsidy, a $36 million discount, and $34 million in hotel enterprise assets. The court affirmed the trial court's remand to the County’s Assessment Appeals Board for re-evaluation of the hotel enterprise assets and reversed the judgment concerning the subsidy and discount. The $80 million subsidy originated from the City of Los Angeles, aimed at supporting the hotel project deemed necessary for enhancing the competitiveness of the downtown convention center. The County incorrectly added this figure to the hotel's assessment, which was affirmed by both the Board and trial court. The case has been remanded for further proceedings regarding fees and costs. Olympic owns a hotel but has contracted Ritz-Carlton and Marriott to manage it, with each operating a different section of the property. The hotel, perceived as two brands, is managed under a lengthy contract where Olympic pays the managers a percentage of gross revenues and cash flows in exchange for their services. A key point of contention is a one-time $36 million payment, referred to as "key money," which is viewed as a discount rather than income. This payment is considered a way for the managers to secure their contract with Olympic, akin to a cash rebate. The County and trial court affirmed that this discount should be classified as income for assessment purposes. Additionally, Olympic values three enterprise assets related to the hotel at $34 million, which include intangible benefits from their agreements with the managers, such as brand goodwill, marketing access, and a trained workforce. Olympic estimates these "flag and franchise" benefits at $17 million. The assessor and Board did not deduct this valuation from the overall assessment. 'Food and beverage operations' refers to the hotel's two restaurants, a pool bar, 24-hour in-room dining, and banquet services, with revenue from these sources distinct from room revenue. A significant portion of this revenue is generated from visitors who come to the hotel for dining or drinks. Olympic proposed a valuation of $13 million for the intangible asset associated with these operations. The term 'assembled workforce' describes the intangible advantages stemming from over 800 trained employees at the hotel, with a notably low turnover rate—33% in 2010, dropping to 12% by 2013—contrasting sharply with the average 47% turnover rate reported in a 2001 survey of other hotels. Lower turnover rates are linked to financial benefits, such as reduced recruitment and training costs, especially for hotels with higher room rates. Olympic valued this workforce intangible at $4 million. The hotel's development has a lengthy history, beginning with an environmental impact report in 2001. Olympic became involved in 2007 through contracts with the City and major hotel brands. After completing construction, the County aimed to assess the property's value for taxation. Olympic contended that the assessor should deduct $80 million, $36 million, and $34 million from the hotel’s assessed value, but the County disagreed, prompting Olympic to appeal to the Board. The parties could not reach an agreement on the first two sums. For the $34 million related to hotel enterprise assets, Olympic presented an analysis by business valuation expert Mary O’Connor, who utilized established appraisal methods to substantiate the values of the intangibles, totaling $34 million. Olympic argued that prior case decisions mandated excluding these items from the hotel’s valuation, but the Board denied Olympic's request. The Board included an $80 million subsidy in its valuation, classifying it as an intangible asset tied to property ownership. It rejected a $36 million deduction labeled as key money, determining it represented a tangible right associated with the property and should be factored into the valuation. Regarding hotel enterprise assets, the Board concluded that the intangible components related to the flag, franchise, and workforce belonged to Ritz-Carlton and Marriott, granting Olympic usage rights under the Management Contract. The Board found Olympic's valuation of these intangibles unconvincing and lacked evidence to separate their value from the real estate. The Board dismissed Olympic's assessment of the food and beverage business's income as unreliable. Following a bench trial in 2021, the superior court upheld the Board's inclusion of the subsidy and discount in its valuation but remanded the hotel enterprise assets issue for further determination. Both Olympic and the County appealed the ruling. The summary judgment revealed that the County incorrectly included the subsidy and discount in its valuation and also erred in valuing hotel enterprise assets. The court's remand for further assessment of these assets was upheld, and the matter of fees and costs was returned to the trial court for resolution. The California property taxation framework is primarily shaped by Justice Roger Traynor's Roehm opinion, which established that property tax imposition hinges on the tangibility of the property. Traynor, a notable tax expert prior to his judicial appointment, outlined that while tangible property is directly taxable, only seven types of intangible property—notes, debentures, shares of capital stock, bonds, solvent credits, deeds of trust, and mortgages—can be taxed directly by local governments. All other intangible assets are deemed 'immune' from such taxation. This distinction arose from historical analysis conducted by Traynor, who noted that taxing intangibles often led to concealment of assets rather than increased revenue. Roehm specifically ruled that the County of Orange could not directly tax a liquor license, as it was an intangible not included in the specified list. The subsequent case, GTE Sprint Communications Corp. v. County of Alameda, further clarified the treatment of intangible assets in property assessments. The appellate court overturned a trial court's affirmation of the county assessor's valuation, highlighting that the county had overlooked evidence of GTE’s intangible assets, such as trademarks and goodwill, which were essential to accurately determining the company's value. This case reinforced the principle that proper consideration of intangible assets is necessary in property tax assessments. GTE’s expert witnesses utilized established appraisal methods to identify and value intangible assets, presenting documentation to support their claims. However, the county dismissed this evidence without adequate consideration, asserting that California law allows income from tangible property to be enhanced by intangibles. The GTE opinion clarified that this perspective undermines the assessor's obligation to exclude intangible assets from assessments, emphasizing the necessity for assessors to address credible evidence of intangible valuations provided by taxpayers. In 2013, the Supreme Court incorporated the GTE ruling into its Elk Hills decision, which clarified a contradiction in California tax law regarding the treatment of intangible assets. One provision prohibited including intangible asset values in taxable property assessments, while another suggested assessors could consider necessary intangibles for property use. The Elk Hills court resolved this by stating that when assessing property value using the income method, assessors must quantify and deduct income attributable to intangible assets. In Elk Hills, the assessor prevailed because the taxpayer failed to provide a basis for separating income linked to its intangible asset. Conversely, in situations where taxpayers can accurately value intangibles, assessors are required to subtract those values from the final assessment. Applying this precedent to the current case, the $80 million subsidy, characterized as an intangible asset contributing directly to the hotel's income, must be deducted from the hotel's valuation, as established by Elk Hills. The County contends that the Board correctly determined the subsidy is linked to property ownership. However, the relevant test from Elk Hills focuses on whether the asset is essential for productive use, intangible, and capable of valuation. In this case, the criteria are met, necessitating a deduction. The County attempts to differentiate this case from Elk Hills in three ways, all of which are ineffective. Firstly, while the County highlights the assessor’s success in Elk Hills, it fails to recognize the taxpayer's inability to provide a valuation basis in that case, unlike here where Olympic has established a valuation of $80 million. Secondly, the County's assertion that payments were made to Olympic rather than from it inadvertently aligns with the Elk Hills precedent by recognizing Olympic's receipt of income from the intangible. Thirdly, while the County disputes that the subsidy qualifies as an intangible asset, the Board has already classified it as such, and the County does not claim it is tangible. Regarding the $36 million discount, the County and trial court mischaracterized it as hotel income; it is merely a price reduction from managers to the hotel. The distinction is exemplified by comparing it to a car dealer discount, which is not income to the buyer. The County's arguments citing Civil Code section 1950.8 and Edamerica, Inc. v. Superior Court are irrelevant to property taxation. Moreover, the analogy to prepaid rent is flawed since neither party involved a rental transaction. The County's claim that management rights are tied to hotel property lacks legal precedent and fails to address the direction of payments. References to Pacific Southwest Realty Co. and Forster Shipbuilding Co. are also irrelevant as they do not pertain to this case’s circumstances. Finally, the hypothetical scenario regarding a buyer’s willingness to pay for key money does not change the reality that the $36 million represents a discount on manager income, not hotel income. The County does not contest Olympic’s claim that the management agreement constitutes an intangible asset. The controversy centers on the County's incorrect treatment of hotel enterprise assets, specifically intangibles that significantly contribute to the hotel's success and can be valued. O’Connor provided credible valuations supported by extensive analysis, which the Board dismissed without adequate justification. The Board cited two reasons for rejecting O’Connor’s valuations: that Olympic did not own the intangibles and that the analysis was not 'compelling' or 'reliable.' The first reason is flawed as California law does not require taxpayers to pay property tax on intangibles they do not own, and the County failed to provide legal support for its position that contradicts the principle that intangibles are exempt from direct property taxation. The second reason was also insufficient; the GTE decision emphasizes that assessors must thoroughly engage with credible valuations presented by taxpayers. The trial court correctly mandated the Board to determine and exclude the value of these intangibles in their assessments. The County's argument that franchise fees eliminate all intangible benefits was deemed incorrect and lacked empirical support. The case is remanded to the trial court for consideration of costs and fees. The trial court's previous ruling that the subsidy and key money are taxable as property is reversed, while the order to remand for proper valuation of the intangible assets is affirmed. Costs on appeal are awarded to Olympic, and requests for judicial notice are denied. The dissenting opinion in B312862 Olympic and Georgia Partners, LLC v. County of Los Angeles argues against the majority's decision to reverse the trial court’s ruling regarding the inclusion of the transient occupancy tax and key money as taxable income from hotel operations. The dissent criticizes the majority for recharacterizing the $80 million transient occupancy tax payments from the City as a "monthly subsidy to build" the hotel and the $36 million key money as a "discount," contending that these terms misrepresent the nature of the income. The dissent asserts that the County's assessment approach, based on the income the hotel could generate, was appropriate given the unique valuation challenges associated with hotels, which derive income from both real property and business operations, including intangible assets. The dissent explains that the subsidy arises from an agreement between the City and the hotel’s original developer, intended to incentivize the construction of a hotel near the Los Angeles Convention Center. The City agreed to pay the developer the transient occupancy taxes collected from hotel guests over 25 years, facilitating hotel occupancy for convention attendees. Olympic acquired these subsidy rights when it purchased the hotel. The dissent argues that this subsidy should be considered taxable income, as it is generated from the hotel's operations rather than an intangible asset, countering the majority's reliance on Elk Hills Power, LLC v. Board of Equalization (2013) to exclude it from taxable value. In summary, the dissent maintains that both the transient occupancy tax and key money should be included in the taxable income for assessing the hotel's value, arguing that the majority's reasoning misinterprets the income's nature and the applicable legal precedent. The Elk Hills decision emphasizes the importance of valuing taxable property based on all earnings generated from its beneficial use, specifically addressing the treatment of intangible assets in income method valuations. Intangible assets are divided into two categories: 1. **Necessary Intangible Assets**: These are essential for the operation of taxable property but do not generate income independently (e.g., emission credits required for operating a power plant). Such assets do not provide a separate income stream that can be deducted from the property's income when calculating its value. 2. **Income-Contributing Intangible Assets**: These assets directly enhance the going concern value of a business and contribute to an income stream (e.g., goodwill, customer base). The Elk Hills court mandates that income derived from these assets must be deducted from the income stream analysis prior to taxation. The court reaffirmed that the fair market value of property should be based on its projected income over its lifetime, focusing strictly on earnings from the property itself rather than enterprise activity. The majority's interpretation misapplies this principle by attributing a subsidy value derived from an intangible asset (a contract) without recognizing that the true value arises from the property's utilization, akin to lease payments arising from property use. The Elk Hills case did not address income-generating intangible assets tied to taxable property but focused on goodwill and similar entities that derive value from business operations. Income from intangible assets is not derived from the taxable property itself or its beneficial use. Elk Hills does not prohibit considering income from intangible assets that can be attributed to taxable property in its valuation. The key principle from Elk Hills is that all income properly attributable to taxable property must be considered in its income valuation. In this case, the subsidy represents income from the use of the taxable property. The objective of commercial real estate development is to create income streams exceeding development costs. Olympic indicated that without public support, hotel development was economically unfeasible due to the hotel's high costs compared to its potential income. The subsidy effectively replaced a portion of the expected income from room rentals, making it part of the overall return on investment necessary for the hotel’s development. The agreement to develop the hotel with specific requirements, including room allocations for conventioneers, was contingent on receiving the subsidy. Thus, both hotel revenues and the subsidy are viewed as interchangeable sources of return deriving from the property's use as a hotel. Elk Hills mandates that such earnings must be included in the valuation of taxable property using the income method. Olympic recognizes that various fees from hotel services contribute to the property's taxable value. The argument that the subsidy should be treated differently because it does not involve a property interest acquisition is rejected, as income can be generated from transactions that do not confer property interests. Additionally, the hotel's management does not categorize the subsidy as income for accounting purposes, but this does not negate its status as income from the property. The managers' compensation is linked to operating revenue, leading to their exclusion of the subsidy from income reports. The managerial agreement does not define the entirety of income generated from the property's use, indicating that the subsidy should be considered part of the income from the taxable property. Olympic cites Revenue and Taxation Code sections 402.9 and 402.95 to argue against the inclusion of government subsidies in property tax assessments, acknowledging that these provisions specifically pertain to low-income housing. However, Olympic distinguishes the government's interest in low-income housing from the City's interest in hotel development for convention center usage. The tax code provisions create an exception for low-income housing subsidies, suggesting that in general, subsidies may be included in income for assessment. In jurisdictions lacking such exceptions, government subsidies have been factored into property income for valuation, as illustrated in Rebelwood, Ltd. v. Hinds County, where federal subsidies were considered in property value assessments. Additionally, the majority opinion mischaracterizes a $36 million payment from the hotel’s managers to Olympic as a 'discount,' akin to a consumer price reduction. This perspective is criticized as flawed, as the payment was made for the hotel management agreement, which grants the managers rights and obligations for a 50-year term. The payment structure indicates that it is not merely a discount but part of a long-term business relationship, with conditions for repayment based on contract performance, contrasting significantly with a one-time consumer transaction. The County's analogy compares the management agreement to a commercial property lease, where a property owner earns income by granting property rights to a business in exchange for payment. In this case, Olympic owns a hotel as an investment, while the managers, who specialize in hotel management, paid $36 million to Olympic for exclusive rights to operate the hotel as their business. The management agreement grants the managers control over the hotel's operations, allowing them to occupy and manage the property without interference and includes rights for capital improvements, repairs, and advertising contracts. Upon termination of the agreement, the managers must return the hotel to Olympic, reinforcing their possessory rights. The $36 million payment is treated as hotel income, similar to prepaid rent in a lease, for valuation purposes. Olympic contends that the management agreement is not a lease but an intangible asset, arguing against treating the payment as income from real property. However, the focus should be on the economic substance of the transaction rather than its characterization. The valuation method employed is based on income from the property or its beneficial use, and Elk Hills does not exclude income derived from contract rights associated with real property. The determination is that not all contract rights related to real property income should be disregarded in assessing taxable value. Revenue generated from renting guest rooms is recognized as part of a hotel property's taxable value, with Olympic acknowledging that guests do not gain any property interest during their stays. The $36 million received by Olympic is categorized as income from its property rights, similar to room rents from occupancy agreements, despite being based on a non-traditional contract. Olympic requested clarification that payments for securing intangible assets, like the Management Agreement, should be exempt from property taxes. However, the majority declined this request, stating that payments linked to rights derived from taxable property must be treated as income for property valuation purposes. Furthermore, the majority's conclusion that the $36 million "discount" does not constitute income does not support Olympic's proposed exemption.