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Home My WebLink AboutSS3 - Underground Utility Assessment ITCC ExclusionCITY OF NEWPORT BEACH CITY COUNCIL STAFF REPORT Study Session Item No. ss3 November 27, 2007 TO: HONORABLE MAYOR AND MEMBERS OF THE CITY COUNCIL FROM: Public Works Department Iris Lee, P.E. 949 -644 -3323 or ilee @city.newport - beach.ca.us SUBJECT: UNDERGROUND UTILITY ASSESSMENT DISTRICT INCOME TAX COMPONENT OF CONTRIBUTION EXCLUSION ISSUE: Should the City exclude the Income Tax Component of Contribution (ITCC) from future underground utility assessment districts? DISCUSSION: Background As discussed at the August 14, 2007 Study Session, ITCC accounts for up to 35 percent of the total construction cost for Southern California Edison (SCE). Also presented during the same session, and later reiterated in a letter, dated September 14, 2007 (see attached), Eddie Marquez, SCE Public Affairs Region Manager, indicated the City is exempt from ITCC pursuant to SCE ITCC policy since these are "qualified governmentally created assessment district[s]. Nevertheless, SCE will not assume the liability of ITCC should the IRS, or any other governmental taxing authority, determine that SCE's interpretation is invalid and these projects are taxable events. The following are pros and cons of excluding the ITCC: Pros: • Lower overall assessment amount for property owners. If a district passes, the City would recover the expenses advanced for the design of an assessment district. • Eliminate the need for City staff to release the liens and reimburse pre -paid ITCC amounts after the eight year "hold" period. • Eliminate the difficulty of explaining ITCC to property owners. Cons: • City assumes the "risk" of paying ITCC if the IRS, or any other governmental taxing authority, levies the tax. Underground Utility Assessment District Income Tax Component of Contribution Exclusion November 27, 2007 Page 2 Two underground utility assessment districts went to vote recently and failed due to high assessment amounts (AD -99 on April 27, 2007, and AD -94 on May 8, 2007). The increase of up.to 35 percent in construction costs from ITCC, in addition to the already high assessments, may result in future districts sharing the similar fate as AD -94 and AD -99. There are currently four districts that are expected to take place within the next half year that will need Council's determination to exclude ITCC from the assessment: 1. AD -92 (area generally bounded by Riverside Avenue, Cliff Drive, Tustin Avenue, and W. Coast Highway — 54 parcels). This district is scheduled for Resolution of Intention by the end of November 2007. SCE construction cost is approximately $811,000. If ITCC were excluded, the City would assume a "risk" of approximately $284,000 if IRS levies the tax. 2. AD -101 (area generally bounded by Lindo Avenue, Edgewater Avenue, Adams Street, and Balboa Boulevard — 278 parcels). Staff anticipates starting the assessment engineering process by February 2008. Costs for this district have not been prepared. 3. AD -99 (area generally bounded by McFadden Place, West Balboa Boulevard, 141F� Street, and West Ocean Front — 245 parcels). Based on the Final Engineer's Report, the SCE construction value was $3,805,427 and ITCC was approximately $1.33 million. There may be a revised boundary for this district and may return to Council in the Winter of 2008. 4. AD -87 (Big Balboa Island — 1178 parcels). Staff anticipates starting the assessment engineering process in Winter of 2008. Costs for this district have not been prepared. It should be noted that although the ITCC is fully reimbursable if IRS does not levy the tax after eight years of forming the district, it causes an inconvenience to the property owners to advance this large sum of money. If the ITCC amount is not pre -paid in full, a lien will be placed on the property. Historically, no cities within the State of California have been assessed ITCC for underground utility projects of this nature. Based on a poll conducted in August 2007 of various cities in California, the cities of Ventura, Laguna Beach, Piedmont, Tiburon, Manhattan Beach, and Hermosa Beach excluded ITCC from their underground utility districts. The City Attorney's Office has researched this issue and believes that based on case law and IRS interpretations of current law there is a strong argument that the undergrounding of utilities is a non - taxable event. According to the City Attorney's Office, the question of whether the City should require the payment of taxes in regards to undergrounding turns on whether the undergrounding of utilities is "contribution -in -aid of construction," which is a taxable event, or a "contribution to the capital of the taxpayer," which is a non - taxable event. Specifically, the 1986 Tax Reform Act changed the tax treatment of contributions -in -aid of construction (CIAC) and required utilities to include in their gross taxable income the contributions they received. However, there is a strong argument that the Underground Utility Assessment District Income Tax Component of Contribution Exclusion November 27, 2007 Page undergrounding of utilities should not be included in gross income because gross income does not include "contribution to the capital' of the taxpayer. The term "contribution of capital' is not defined by the Internal Revenue Code, however, the courts and IRS interpretations of current law have stated that a payment, which is not a payment for service (i.e. the payment to provide, or encourage the provision of services), and which is made for a public benefit, is considered a non - shareholder contribution to capital and can be excluded from taxable income. Here, there is a solid argument that the payment to underground utility facilities is not a "payment for service" because the payment is not a prerequisite to provision of service and does not result in any change to the service being provided. Similarly, undergrounding is typically viewed as providing a public benefit because the undergrounding of utilities has an overall benefit to the community. In sum, there is some risk associated with not considering undergrounding to be a taxable event. However, the argument in favor of a determination that this is a non- taxable event is supported by case law and IRS interpretations of current law. Environmental Review: Underground utility projects qualify for a Class 2 California Environmental Quality Act (CEQA) exemption under Section 15302, item "d" of the Implementing Guidelines as follows: "Conversion of overhead electric utility distribution system facilities to underground including connection the existing overhead electric utility distribution lines where the surface is restored to the condition existing prior to the undergrounding". Public Notice: Not applicable at this time. Funding Availability: Not applicable at this time. Prepared by: QX M, N�l fo(, Iris Lee,Pt. Senior Civil Engineer Attachment: SCE Letter Dated September 14, 2007 Resident Letter Dated October 18, 2007 Submitted by: St en . Badum ublic Works Director SOUTHERN CALIFORNIA EDISON® An EDISON INTERNATIONAL* Company September 14, 2007 Mr. Homer Bludeau City of Newport Beach 3300 Newport Boulevard Newport Beach, CA 92663 Subject: Relocation of utility lines Underground Utility Assessment District 92 Dear Homer: Eddie Marquez Region Manager Local Public Affairs Southern California Edison (Edison) has received your plans for Underground Utility Assessment District 92 Based on the representations made by the City of Newport Beach (City), that this is a proposed relocation of utility lines paid for by a qualified governmentally created assessment district, City is exempt from the Income Tax Component. of Contribution (ITCC) gross up, pursuant to SCE ITCC policy. As such, the completed cost estimate has been calculated and presented to you without an ITCC. Please keep in mind that in the event that the Internal Revenue Service W), state, city and/or local governmental taxing authority determines that this project is taxable, the City of Newport Beach will reimburse the Southern California Edison Company for the.M amount of the tax liability determined by the IRS, state, city and/or local governmental authority, plus interest, penalties, fees, and related costs. Such amounts will be paid to Edison within 60 days after notification of such event by Edison to the City of Newport Beach. By execution of this document, the City of Newport Beach hereby acknowledges that this project is funded by a qualified governmentally created Assessment District Tfyourproject will be delayed or canceled, please notify me immediately at714 -973- 5619 PO Box 11982 11325 So. Grand Ave. . Santa Ana, CA 92711.1982 71"73- 5619/PAX 52619 tax 714-973-5752 Eddie.MarquezOscexom Please acknowledge your understanding of Southern California Edison's ITCC . . indemnification requirements, as stated above, by signing and returning a copy of this executed letter. Win& Public Affairs Southern California Edison City of Newport Beach Public Works Department By: Date: Signature Title: Print Name cc: Steve Badum, Director of Public Works Robin Clauson, City Attorney Patrick Arcmiega, City of Newport Beach Joe Cordero; Southern California Edison October 18, 2007 Stephen Badum Public Works Director City of Newport Beach 3300 Newport Blvd. Newport Beach, CA 92658 Dear Mr. Badum: ,UT 2 3 2007 Public Works Department City of Newport Beach I am the owner of 2228 Pacific Dr., Corona Del Mar. I was very disappointed to hear the May 8, 2007 public hearing regarding Assessment District No. 94 failed to garner enough votes to pass. While the majority voted in favor of it, not enough yes votes were cast in favor of it. Former Pacific Dr. Resident Mrs. Glabman spearheaded the initial drive to create the district. Once the Glabmans sold their property, we lost a valuable advocate. The vast majority of neighbors favored the initiative. Something happened along the way to derail the initiative. In my opinion, many on the residents who assumed this worthwhile neighborhood improvement would easily pass on May 8 simply forgot to vote or didn't properly complete their ballots. I understand various retired residents voted no because they felt the assessment was simply too high compared with what their friends were assessed for similar projects in Newport Beach. I am willing to spearhead another public hearing and vote on the issue. If the city can reduce or eliminate the ITCC Tax, I believe many of the retired residents that voted against the measure would vote in favor of it next time. I will also contact those who failed to vote or incorrectly completed their ballot to let them know how important their participation will be for the next assessment vote. Please let me know how I can help initiate another Assessment District No. 94 public vote. What is the most expeditious process? Feel free to call me at my daytime number of 949 - 360 -6262. You may also email me at ERK4RealEstateL&aol.com. Sincerely, E. Robert Kendziorski P.O. Box 4720 Irvine, CA 92616 _ SOUTHERN CALIFORNIA EDISON® An WISON IMUNAWONALO Company September 14, 2007 Mr. Homer Bludeau City ofNewport Beach 3300 Newport Boulevard Newport Beach, CA 92663 Subject: Relocation of utility lines Underground Utility Assessment District 92 Dear Homer: Eddie Marquez Region Manager Local Public Affairs Southern California Edison (Edison) has received your plans for Underground Utility Assessment District 92 Based on the representations made by the City of Newport Beach (City), that this is a proposed relocation of utility lines paid for by a qualified governmentally created assessment district, City is exempt from the Income Tax Component. of Contribution (ITCC) gross up, pursuant to SCE ITCC policy. As such, the completed cost estimate has .been calculated and presented to you without an ITCC. Please keep in mind that in the event that the Internal Revenue Service (IRS), state, city and/or local governmental taxing authority deterruines that this project is taxable, the City Of Newport Beach will reimburse the Southern California Edison Company for the full amount of the tax liability determined by the IRS, state, city and/or local governmental authority, plus interest, penalties, fees, and related costs. Stich amounts will be paid to Edison within 60 days after notification of such event by Edison to the City of Newport Beach. By execution of this document, the City of Newport Beach hereby acknowledges that this project is funded by a qualified governmentally created Assessment District Ifyourproject will be delayed or canceled, please notify me immediately at714 -973- 5619 PO Box 11982 -1325 So. Grand Ave. Santa Ana, CA 92711.1982 .714- 973.5619/PAX 52619 Fax 714973 -5752 Eddie.Marquez(hoe.mm Please acknowledge your understanding of Southern California Edison's TTCC . . indemnification requirements, as stated above, by signing and returning a copy of this executed letter. Southern California Edison City of Newport Beach Pablic.Works Department By: Date: Signature Title: Print Naive cc: Steve Badum, Director of Public Works Robin Clauson, City Attorney Patrick Arciniega, City of Newport Beach Joe Cordero, Southern California Edison Und I J sessment District ITC Cxcl. ion NoveAper 27, 2007 City CouncStudy Sesson ul City excl ud ponent of Contrib re utifthaawmRA e Tax from W ZTCC? I",e potentia ' ity to be owed bily comp l" t event�l'ae IRS deter wnes improve is p by property owneris a taxable ev This potential li ' � has bgga' inded in prior assessment istrict formations and can represent up to a 35% increase construction costs for affected property X exdu7in vo r of the ITCC Elirr4gptes need to process lied /or reimburse prep aid CC amounts after 8 -yeold period_ Eliminates confusion in explaining ITCC to property o�ers Agri 1", s City s "risk" , of QawAug ITCC if the IRS or of er governmenta taxing authority levies theastax ITCC h@#Ag b Ijp,d against 4W ,mss ess ent d ict in Califor Cities of Ventura, LagUaa Beac ;Piedmont Tiburon, Manhattan Beach and Hermosa Beach excluded ITCC from the costs of their undergroug.d uty districts City Attorney's Office believes that based on case law and IRS interpretation there is a strong argument that undergrounding utilities is NOT a taxable event a ry e is some Q&k to the C ,,yor however, the argument in excluding ITCC is expected to be supportable, the future. excluding favor of