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For over five years, the Michigan Tax Tribunal (MTT) has been ruling against townships, sending the message that big box stores are not worth what they cost to build. The MTT has been assigning low taxable values to big box stores by comparing them to “dark” stores that sold for lesser uses. Several court cases attacking the rationale of the MTT and legislative efforts have been unsuccessful in resolving these issues. How does this impact your township and what can you do to potentially minimize the loss of property tax values from big box stores in the months and years ahead?

What is the Problem with Big Box Stores?

Big box stores refers to the commercial warehouse-style facility used by many of the major resellers to distribute consumer goods, such as Lowe’s and Home Depot. Big box stores are being highlighted in recent newspaper reports from around the state noting the concerns about MTT decisions and settlements involving large tax cuts to the taxable value of big box stores.

Since 2010, the MTT has repeatedly applied a new valuation theory to big box stores that slashes their property values by 50% or more. As a result, hundreds of big box stores across Michigan have been devalued and local governments and schools have lost tens of millions of dollars in tax revenues.

The new approach has also caused a rush to settle big box property tax appeals for lower values, with catastrophic results to the revenues of local taxing units. This new method of tax valuation may spread to other kinds of property.

Now that these tax valuations are cut, Proposal A enhances the damage to townships. Proposal A was a tax measure enacted in 1994 to limit local taxes charged. Part of the measures adopted with Proposal A now mean that annual tax assessments on property are limited in the amount that tax assessments can increase each year. These limitations under Proposal A may make it impossible to fairly revalue the big box stores after their values have been slashed by the MTT.

When did the MTT Start Applying This New Valuation Theory

The new valuation method used by the MTT in these big box cases incorrectly compares operating big box stores with “dark stores.” Dark stores are obsolete or failed stores that have become vacant or gone out of business and then are converted to some other use. One of the dark stores the MTT uses to value operating big box stores is a former Sam’s Club that closed, then sold, partially converted to an indoor go-cart track but never opened, then resold for use as a warehouse. Another dark store used by the MTT is a former big box store purchased by a congregation for conversion to a church.

The MTT started this recent line of opinions on September 21, 2010 in Target Corp v City of Novi, MTT Docket No. 345523, setting the precedent that is now being followed by the MTT.  Since 2010, the MTT has issued a dozen opinions following that precedent in cases involving other big box stores.

Is the MTT’s New Valuation Theory Defensible?

The MTT’s comparison of new stores to dark stores is not supportable. Equating the value of an operating store to a dark store ignores the reality that dark stores will never be worth as much as a currently operating store. This is why Michigan property tax laws require value to be based upon the “existing use,” rather than some secondary use of the building after it becomes obsolete for its existing use.

When a big box retailer abandons a store, it indicates something is wrong with the use at that location. That is one reason that these dark stores invariably end up being used for some other lesser purpose. In addition, the seller almost always places a deed restriction on the building preventing it from being used as a store. This means that the resellers who could use the building of its intended purpose are restricted from doing so.

The recent MTT rulings also ignore the property tax law requirement that properties must be valued based on their “highest and best use.” Clearly, a dark store that was sold for a church or a warehouse has a different “highest and best use” than a big box store that is currently being used as a store.

How has the MTT Attempted to Defend Its Approach?

The recent MTT decisions justify their results by making various sophisticated-sounding arguments, including:

• Claiming that valuing the existing use would value the store based on “who” is using it.
• Rejecting the construction cost of big box stores as a measure of their value, and instead relying on the value of dark stores.
• Claiming that a big box store value based on its existing use would result in its “use value,” not its true cash value.
• Ignoring leases of currently operating big box stores because they are “build-to-suit” leases. In other words, they were leases prepared to recover the costs of building a particular store for a particular use. According to the MTT, these leases must be ignored because they reflect specialized costs that another user would not have incurred to build a building for its own use.
• Rejecting the use of existing store leases as a basis for valuing stores under the income approach. The MTT claims that using such lease rents improperly values big boxes for their “leased fee” interest, rather than for a “fee simple” property interest.
• Similarly ignoring big box stores that sold from one investor to another investor (which happens fairly frequently) when the store is subject to a “build to suit” lease because this was the sale of a “leased fee.”
• Claims are sometimes made that big box stores are becoming obsolete as a result of the increase in online retailing.

Although it is unimportant whether a home improvement store is being used by Lowe’s, Home Depot or Menards, it is still essential to recognize that it is being actively used as a home improvement store – not as a church or a warehouse or some other secondary use.

The MTT’s justifications, however, are false. In Marquette Township, for example, the MTT considered a Lowe’s store that had just been built for $10 million, and concluded that it was only worth $4 million. There is no reason that the construction costs should not be considered in the tax value of the building. The MTT’s use of dark stores also ignores the appraisal principal that the building’s value should consider its highest and best use. If the existing use, such as home improvement store, is the same as the highest and best use, the value of operating that big box store must be accounted for in considering its true cash value.

The MTT has also applied this new method to big box stores, suggesting they are a specific building intended for a specific use. This ignores that big box stores are essentially large building shells with very little ornamentation or costly frills. There are no unique costs in constructing a big box store that justifies discounting their value by 50% or more. The MTT is also ignoring the rental income and leases that provide an indication of the value.

Despite the MTT’s conclusion that big box stores are diminishing, the truth is that the big box retailers are continuing to build more and more stores. And why wouldn’t one build a big box store that is subject to an advantageous valuation method not applied to any other commercial building type.

What Can a Township Do that Receives an Adverse Ruling from the MTT?

A township can appeal the decision of the MTT to the Court of Appeals and the Supreme Court. But in the only big box cases that were appealed so far, involving two townships in the Upper Peninsula, the appellate courts did not reverse the MTT’s decision. This is due to the fact that appellate courts have a limited review of the MTT decisions. This means it is extremely difficult to reverse the MTT on appeal.

Has the MTT Expanded its Ruling to Other Commercial Retail Operations?

Currently, the MTT is not offering the same property tax reductions to other types of uses, such as mom-and-pop hardware stores, ordinary department stores and other retail operations that are struggling to compete with the big boxes.  It is expected that other retail, commercial and industrial uses will begin to demand the same steep discounts the MTT is giving to big boxes. As noted above, there is nothing so unique about a big box store that justifies the tax preferences they are currently receiving.

So far, the MTT has refused to extend the “dark store“ approach to a Taco Bell restaurant and a fitness center. It remains to be seen whether petitioners will be able to extend the dark store approach to other properties besides big box stores. If left unchecked, the MTT may find it impossible to deny the extension of these discounts to many other uses. The result will be the loss of essential tax revenues that townships cannot afford to lose.

What Solutions May Be Available?

Townships can carry the burden in defending these tax appeals. A township can look to receive a favorable settlement or look at litigating the issue in the MTT.

The Michigan Townships Association also recommends that townships consider including a provision in their zoning ordinances that prohibits new big box stores from including deed restrictions in their deeds upon sale of the property. This cannot retroactively affect existing big box stores, but it might be applied to future big box stores that are permitted. Justification for such a requirement under a zoning ordinance includes:

• Deed restrictions artificially depress the value of properties.
• As a result of deed restrictions, former big box stores tend to remain vacant for extended periods of time.
• Vacant stores tend to create blight in neighborhoods, can lead to vandalism and other crime, and negatively impact the local economy and nearby property values.

Regardless of the solution that any township chooses to resolve its issues with big box valuation, it also important to remember that action by the Legislature may also correct the false valuation method being applied by the MTT.  Every township can assist in part by making local Senators and Representatives aware of the financial harm caused to townships by the MTT’s valuation approach and the inequity that results when other retailers are paying taxes based on generally accepted appraisal principles (and not being afforded these large tax cuts).

By:      William K. Fahey

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Fahey Schultz Burzych Rhodes PLC, Your Township Attorneys, is a Michigan law firm specializing in the representation of Michigan townships. Our lawyers have more than 150 years of experience in township law, and have represented more than 150 townships across the state of Michigan. This publication is intended for our clients and friends. This communication highlights specific areas of law, and is not legal advice. The reader should consult an attorney to determine how the information applies to any specific situation.