January 04, 2017 Article

The Strange (Property Tax) World of Leasehold Communities and Equitable Ownership

Several cases in Florida have shown these lessees attempting to avoid ownership in order not to pay ad valorem real estate taxes

Ralph H. Schofield Jr.

In so-called leasehold communities, where government or Native American land is leased out perpetually in lieu of deed, questions arise for the homeowner as to whether that hefty mortgage really gives him or her undisturbed dominion in the property. Usually, these lessees want to be treated like owners, but several cases in Florida have shown these lessees attempting to avoid ownership in order not to pay ad valorem real estate taxes. Those efforts to own tax free have been largely unsuccessful, until now.

In 2012, nearly three years after graduation from law school and happy in my job as a litigation associate in Fort Walton Beach, Florida, I decided to purchase a beachfront condominium unit. From the moment I walked into the unit, I knew it was the one, and I spent many mornings and evenings sitting on the balcony listening to nothing but the waves of the Gulf of Mexico. Sometimes I sat in the safety of my living room with my hurricane-grade balcony doors closed as I watched the next named storm roll in. This serenity gave me plenty of time to reflect on the beautiful property I now owned—well, leased actually.

Despite being on the hook for a six-figure mortgage, I am just a lessee. This is not uncommon. There are a number of “leasehold communities” throughout the United States, including Jekyll Island in Georgia, the Greater Baltimore area, and Native American land in Palm Springs, California. Each community is structured differently—some treating lessees as almost equivalent to fee simple owners and others that give fewer sticks in the bundle of rights. Without knowing the details of the leasehold community structure and history, a new lawyer looking at closing documents that include an assignment of lease instead of a deed might go into a panic.

Just a short drive from my condo is Pensacola Beach—another leasehold community on the same island. In 1947 and 1950, the United States government conveyed portions of Santa Rosa Island to, respectively, Escambia County (creating Pensacola Beach) and Okaloosa County (creating my condo’s home of Okaloosa Island). Both counties created a local “authority” to administer the property through leasehold interests, allowing for development of residences (including numerous condominium buildings) and commercial establishments (including, of course, restaurants and hotels).

One such leasehold interest was at issue in a case decided in March of this year: Island Resorts Investments, Inc. v. Jones, No. 1D15-2916, 2016 Fla. App. LEXIS 4383 (Fla. Dist. Ct. App. Mar. 21, 2016). In 1997, after the 1947 deed from the federal government, the county leased out 40 acres pursuant to a 99-year master lease. In 2008, the master lessee then entered into a development sublease agreement for 12 of those acres with Island Resorts Investments, with the sublease being subject to the master lease with the right to negotiate a renewal on mutually agreeable terms. The net sublessee was contractually on the hook for all lease fees, insurance, property taxes, utilities, and repairs.

In 2008, no property taxes were in fact imposed on the property, which was at the time unimproved land. In 2011, however, two separate opinions from the intermediate court of appeals for that region of the state—Accardo v. Brown, 63 So. 3d 798 (Fla. Dist. Ct. App. 2011), and 1108 Ariola, LLC v. Jones, 71 So. 3d 892 (Fla. Dist. Ct. App. 2011)—found similar 99-year sublessees to be equitable owners with property tax liability. In Florida, a lessee is deemed to be an “equitable owner” (1) if he or she holds virtually all of the benefits and burdens of ownership, including the obligations to insure, maintain, and pay taxes; and (2) if the lease is not perpetual, an option to purchase the land at the end of the lease term for nominal value.

Based on those appellate opinions, the county began assessing property taxes against Island Resorts Investments, which sued and argued that it was not the equitable owner (and clearly was not the legal owner given that it did not have a deed). If you are not a legal or equitable owner, but merely a lessee of government property, you may be afforded a property tax exemption under section 196.199 of the Florida Statutes. Charitable, literary, scientific, or religious organizations get a complete exemption, whereas others remain obligated for intangible personal property taxes on the leasehold interest, provided that rental payments of some form are due in consideration for the property interest. Notably, the statute makes clear that the lessee will be deemed an owner—and therefore subject to ad valorem real property taxes—if the lease was for 100 years or longer or if the property is financed, acquired, or maintained at least partially through bonds.

The trial court entered final judgment holding that Island Resorts Investments was, in fact, an equitable owner subject to property taxes. However, although the master lease is in fact renewable at the option of the master lessee after 99 years, the development sublease for Island Resorts Investments is subject to the parties reaching mutual agreement on the terms of a renewal. Therefore, on appeal of the trial court’s decision, where the parties agreed that the lease was not perpetually renewable and where rental payments were due for the lease, it became clear that the property was of the type covered by the tax exemption statute. As in the 2011 cases, the sublessee bears all of the burdens of the property during a very lengthy lease. But in contrast to the 2011 cases, all rights automatically revert back to the lessor (or, here, the master lessee) if that lessor does not choose to negotiate a renewal or if mutually agreeable terms cannot be obtained. In short, Island Resorts Investments did not have the right to be deeded the property for nominal consideration and did not have perpetual dominion over the property. Therefore, it was not sufficiently equivalent to an owner so as to justify the burden of ad valorem real property taxation.

Two cases cited in the Island Resorts Investment opinion are worth noting. In Hialeah, Inc. v. Dade County, 490 So. 2d 998 (Fla. Dist. Ct. App. 1986), the property was subject to a mortgage with the government owner holding the property merely as security for the mortgage. Once the mortgage was paid off, the tenant could obtain the property via deed for nominal consideration. For that reason, and because the tenant otherwise had all the rights and responsibilities of an owner, it was deemed an equitable owner. In 1108 Ariola, LLC v. Jones, 139 So. 3d 857 (Fla. 2014), the Florida Supreme Court held that there was no requirement for a perpetual lease or the ability to buy for nominal value when it came to taxation on merely the improvements on the property. The Florida Supreme Court noted that the taxpayer “presented . . . no specific argument concerning the useful life of the improvements”; therefore, the court did not address the question of whether the taxpayer can avoid ad valorem property tax by showing that improvements will outlast the non-perpetual lease without a right to purchase for nominal value.

In a comparison of the Island Resorts Investments decision to my own facts, the 99-year lease from the Okaloosa Island Authority to one James L. Hood runs from September 1955 and is renewable by its terms for subsequent 99-year periods upon notice from the master lessee, provided it has not been canceled for cause. The master lessee changed over time, and the new master lessees in October 1980 assigned their leasehold interest in the property now containing my condominium building to the developer of the building. That developer then assigned its leasehold interest in each of the units of the building to the initial occupants, who over time have reassigned that interest, resulting in me getting an assignment of lease in lieu of deed at closing, rather than a sublease. I have in fact been assigned rights as to the original 99-year lease with the Okaloosa Island Authority. Because I am one of many assignees of my own portion of rights under one large lease that may be terminated for cause, the question arises as to whether I am an equitable owner, because a breach of the lease by any of the other assignees, beyond my control, could lead to the lease evaporating.

Stay tuned for that and other developments in the leasehold and equitable ownership area of the law, including a possible decision from the Florida Supreme Court to address whether Island Resorts Investments and similarly situated lessees are in fact free from ad valorem real property tax.

Keywords: real estate litigation, equitable ownership, lease, leasehold community, ad valorem, property tax, sublease, exemption, purchase option

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