$11.5 Million Prize Turns Tax Law Into First Class Legal Jousting Match

money pit

by Naja and Arnaud Girard…….

There may be no salvation in sight for Balfour Beatty in its courtroom scuffle over delinquent property taxes.   Attorney’s for the giant British conglomerate were in town last Monday trying to convince Monroe County Judge David Audlin that the company is not the owner, but merely a property manager, of 890 units of housing situated on Navy land here in Key West.

If the Court disagrees, Balfour may have to pay $ 11.5 Million in back taxes.   But what if the Court does find for Balfour/Southeast and declare it is not the true owner of this real estate empire, which is comprised of over 5,000 units that span across the southeast?  Those assets have been used to collateralize over $ 550 Million in bonds.  How could Balfour’s LLC have borrowed so much money secured by property it didn’t own?

Here’s what happened last Monday:

According to Balfour Beatty’s attorney, Jim Spoonhour, the Monroe County Property Appraiser had agreed not to assess taxes on local privatized military housing but later changed his mind.   Balfour, you see, is in possession of a 2007 letter signed by former Property Appraiser, Karl Borglum, stating that the Navy’s housing properties would remain tax-exempt after privatization.

Everyone in the courtroom is thinking: well obviously if you were told you were tax exempt that should count for something.  But Borglum claims Balfour’s attorneys neglected to mention plans to convey ownership of the buildings at the time he wrote and signed the letter, “They described a management agreement,” said Borglum in an interview in May 2012.

“They knew.  They always knew,” says Spoonhour to Judge Audlin, “it was all described in the memo and once the tax roll is certified the Property Appraiser can’t go back and change his mind.”

The Judge then asks the Property Appraiser’s attorney,  “Mr. Dent, can you really come back and change the tax roll after it has been sealed and certified?”

Now comes the other side of the story, the one where the law is the law and, as it turns out, the Property Appraiser had no authority to write a pre-determination ‘letter of exemption’ that would bind the PA office in any way.  (The letter was written even before the privatization deal was formally entered into.  In fact, there were no executed contract documents for the PA to look at that time.)

According to Dent, Florida Statutes require any entity seeking a tax exemption to file an initial application on a prescribed form and any property owner who has been awarded exempt status (through this formal application process) is obligated by law to notify the Property Appraiser when there is a change of ownership or any change in status that could invalidate the exemption (like military housing that is rented to non-military tenants?  Or a transfer of ownership from the government to a private for-profit company?)  Well you would think corporate lawyers would know about all that.

So, not only did Balfour never file the mandatory application for exemption but, according to Dent, they never informed the Property Appraiser of the subsequent transfer of ownership from the Navy to GMH Housing nor from GMH to Southeast Housing LLC, Balfour Beatty’s subsidiary.   That omission, according to Dent’s reading of the Statutes, should cost Balfour not only the back taxes, but another 50% in penalties as well as interest on the amount that had not been paid.

There’s no denying that Balfour managed to fly under the radar in Monroe County; they even paid document stamp taxes for their Key West properties in far away Duval County. Additonally, Balfour rebuilt several hundred units of housing here in Key West (those new houses you see over on Trumbo Point) but never obtained a single building permit, such permits being one of the indicators that Property Appraisers use to detect unreported transfers of property (and according to the contract Balfour signed with the US Navy – obtaining local permits was a specific obligation).

When Balfour finally got ‘caught’ last year (some five years into the deal) after former City Commissioner and Last Stand board member, George Halloran, informed the Property Appraiser that recorded mortgage documents contained references to a conveyance of 890 housing units in Key West to a private company, Balfour floated the idea that the housing was located inside a federal enclave and was beyond the reach of state and local laws; in other words, not really in Florida.  Based on that theory, for purposes of assessing local taxes, those properties might as well have been in Mexico.  At least that is what former Property Appraiser, Karl Borglum was led to believe. “We believe that in 1937, Florida ceded these lands [Navy Housing] to the exclusive authority of the Federal government,” said Borglum last May.

At that time we were told that Balfour Beatty was going to be sending the “paper work” evidencing the enclave status.  Meanwhile, the Property Appraiser held off on the 2012 tax assessment.   While the controversial sale of Peary Court [for a rumored $30 Million] was being rushed through we fell upon a most unexpected lead that ended up jamming up the whole scheme.   Actor Wesley Snipes’ tax advisor, serving time for tax evasion, had copies of official documents that showed that federal enclaves in Key West had been expressly opened up to full State legislative jurisdiction back in the early 1990’s.

We obtained the documents and immediatley sent them to Borglum, who apparently decided he had been lied to enough and for long enough.  After careful study of Balfour’s contracts with the Navy, Borglum filed a lien against Balfour Beatty’s local properties to the tune of $11.5 Million including back taxes to 2008, penalties and interest, thereby blocking the sale of Peary Court.

So, some issues that Judge Audlin may have to decide are whether Borglum’s 2007 “tax exemption letter” has any legal value, whether Balfour was required to file a formal application for tax exemption (once they became the titled owners of the property), and more interestingly, whether or not some of those lawyers did indeed mislead the Property Appraiser back in 2007.

Then came the crux of the affair… Are these privatized housing properties tax-exempt?  Spoonhour claims that even if the exemption letter is not valid, Federal law prohibits the State from taxing federal property unless Congress expressly allows the taxation to occur.  The MHPI [the privatization act authorizing these deals], he says, does not specifically allow taxation of MHPI properties and therefore the local governments cannot tax Balfour’s housing.  Again, everyone in the courtroom sees the $11.5 Million flying out the window along with the textbooks and the milk money.    “Our business model, says Spoonhour, was based on a scenario where we were not going to pay taxes.”

The problem with that argument, however, is that  (according to documents filed by Dent) the Secretary of Defense’s solicitation for bids directed GMH (later merged with Balfour Beatty) and other bidders to assure that their business model calculations included…  local property taxes.  In a follow-up letter, the Secretary of the Navy asked GMH for clarification on just how property taxes had been calculated in its bid submission.  GMH responded by saying that they had assumed “full taxation for all locations.”

So, why are the Secretary of Defense and the Navy insisting that bidders for these privatization deals compute property taxes if they are exempt as a matter of federal law, as Spoonhour claims?  “Because they are not exempt,” says Dent.   “The federal government’s local tax immunity only applies in federal enclaves and to property that is owned by the Untied States.  Balfour’s Southeast Housing LLC is a for-profit private company that owns title to the 890 units of housing located on local Navy properties.”

An NAS Key West document obtained by The Blue Paper indicates that almost 40% of occupied units were rented to civilians in 2009.  By all accounts, civilian rentals have increased since that time.  According to one source Balfour is in fact running a very profitable business: even if the private company were to pay property taxes, the company would still pocket some $1.2 Million a year in profit on its Key West rentals alone.   [There are seven other jurisdictions in Florida that are included in the Southeast Housing privatized military housing project owned by Balfour.]

Balfour argues that it’s simply the apparent owner and that the real “equitable” owner is the US Navy.  (See our March 15, 2013 article for more on this.)   The Blue Paper continues to make inquiries on this issue:  As we said, Balfour/Southeast borrowed $550 Million which was collateralized by what Standard & Poor’s financial analysts have called “high quality assets”; in other words, all of those rental housing units on military land that were thought to be owned by Balfour/Southeast.  Judge Audlin gave the parties about a month to file their final briefs on the matter and we can expect a ruling shortly thereafter.

Now, if Balfour manages to convince Judge Audlin that it doesn’t really own those assets, what will that mean for the bondholders in terms of security?  We called US Bank National Association, the bank assigned as trustee on behalf of the bondholders and Moody’s Investor’s Service to ask them what would be the result of such a court ruling on the value of the bonds and the collateral securing the mortgage.    US Bank (rather adamantly) declined to comment, but Moody’s representative, David Jacobson, had this to say:

“We do still rate Southeast Housing at Ba1/negative outlook.  This is below investment grade and the negative outlook means there is downward pressure on the rating, meaning there could be another downgrade in the next 24 months.  We don’t have anything new to add at this point with both sides locked in the courts.  We’re aware that Monroe County has asked for a summary judgment on the tax liens recently, and there is a House Bill on the floor that would erase the tax liens.  All these variables and uncertainty are currently part of the rating.”

 And to think, all Key West wanted was 30% affordable housing at Peary Court…

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