State property tax implications for military privatized family housing program.

• Author: Morrison, Philip D.

1. INTRODUCTION

   The Military Housing Privatization Initiative (MHPI) is a recent Department of Defense and Congressional initiative to leverage private sector financing and construction methods in order to build adequate military-family housing. Originally passed in 1996, the initiative was designed to quickly provide military families with badly needed family housing. Military-family housing was not meeting current standards because many of the units were built over 30 years ago using outdated building materials and design standards. (1) The private sector had been deemed a necessary partner to assist in making up the shortfall. The reasons were simple. The private sector has the ability to attract private capital and complete projects faster than using traditional military construction methods. (2) Under the new privatization (MHPI) concept, the federal government asks private developers to submit proposals to build military-family housing. After a successful bidder is chosen, the federal government leases land to a developer under a long-term ground lease. In return, the private developers renovate or construct new housing units on the leased land. The developers then receive payments through monthly allotments made directly from the tenant's paycheck. In most cases, the projects span 50 years. This new initiative has created a complex tax problem because of the federal nature of the housing developments and the myriad of state and local taxing authorities affected by new construction. Local taxing authorities appear poised to take advantage of the projects and the property tax revenues. (3)

   The purpose of this paper is to explore the problems and issues regarding local and state taxation of the military's new housing privatization program. The paper will not focus on the income tax issues. Rather, the discussions will focus on the property tax and ad valorem taxes assessed on these new military housing projects. This paper will explore the competing interests at stake. On the one hand, the MHPI is designed to meet the deficit of military-family housing and the immediate need of military families in a cost effective manner. On the other hand, local taxing authorities are increasingly reliant on property tax revenues to meet fiscal demands. A "battle royale" is in the making. If recent cases are any guidance, states and municipalities appear to be ignoring issues of constitutional and federal law in order to satisfy their insatiable urge to obtain local revenues. As the reader will see, at stake in a typically large housing project is between $1-2 million dollars per year in property and ad valorem taxes on an average MHPI project. Numerous projects have taken place or will take place across the United States involving over 100,000 military-family units.

   This paper will address the housing privatization initiative, the complex nature of the projects, how projects can claim tax exemption, and how state and local authorities will try to tax new MHPI developments. In Part II of this paper, the history of the MHPI will be discussed. This will also involve a look at the basics of commercial property taxation. In Part III, there will be a discussion of the four types of federal jurisdictions on federal installations. This discussion will explore whether a state taxing authority can reach the new housing developments. The new developments may involve one, two, or more of these jurisdictional areas and will directly affect the tax law that will apply. In Part IV, state property taxation on federal installations will be explored with a look at recent state case law. Developers who are taxed on projects in federal enclaves pay higher expenses. As will be discussed below, state taxation of privatized housing will have a direct impact on profitability of the private developers and a significant impact on reinvestment into the projects. Finally, Part V will conclude with some specific recommendations for housing privatization in order to increase project viability and reinvestment.

2. BACKGROUND OF MILITARY HOUSING PRIVATIZATION INITIATIVE (MHPI)

   1. Legislative History

      The Military Housing Privatization Initiative (hereinafter MHPI) gave the Department of Defense (DoD) special legislative authority designed to replace unsafe and dilapidated family housing. (4) The MHPI is designed to make up for a vast shortage and awful state of military-family housing in the early Nineties. The military housing problem became readily apparent soon after the first Gulf War as outdated and "cookie-cutter" military housing of the 1940's and 1950's had reached the end of its useful life. (5)

      Prior military housing initiatives utilizing the private sector had just not worked effectively. (6) Wherry Act military housing was begun under the authority of the National Housing Act of 1949 (a.k.a. the Wherry Military Housing Act of 1949), (7) and was effectively terminated in 1955 over congressional concerns about developer windfalls. Capehart Housing, named for Senator Homer Capehart of Indiana, a WWI veteran, involved military-family housing using private financing like MHPI, but the projects were turned over to the government upon completion. Capehart Housing units were larger than Wherry Housing units, and therefore were preferred by military tenants. DoD made a mortgage payment and in return the tenants forfeited their monthly housing allowance or BAH. Approximately 115,000 Capehart units were constructed. (8) Following Capehart, 801/802 Housing was the next military housing initiative. (9) This program involved lease and rental guarantees to private developers in exchange for military housing. These projects were eventually costly and were discouraged. (10)

      The Department of Defense currently owns, operates, and maintains an inventory of about 300,000 family housing units. Almost 200,000 units or two-thirds were considered unsafe and in immediate need of demolition or major renovation. (11) Many of the housing units were constructed during World War II (or just after) and were only designed to last a few years. The problem was severe enough that many feared that service members would leave the military due to the lack of adequate housing. (12) In addition, many older units had environmental problems such as lead-based paint, asbestos, and could not meet current building codes. Roofs leaked, plumbing was inadequate, and families struggled to live comfortably. The Department of Defense could not meet the need to improve the housing situation fast enough. Housing privatization seemed to be one alternative to get adequate housing built 3-4 times faster than other military construction methods (i.e. where the military directly contracts for the construction of the units on base and owns them upon completion). (13) Some estimates placed the timeframe to fix the housing problems using traditional legislative authority (i.e. military construction) from 30-40 years. (14) Inadequate housing gave many military families reason to leave after their service commitments were up. Retention was a deep concern on the minds of Congress and Pentagon leadership. (15) Military Housing Privatization was a new tool designed to make up for the shortfall in housing and leverage the private sector in a new way. This paper will now focus on a discussion of the features of this new legislative initiative.

   2. The Military Housing Privatization Initiative Features

      Congress responded to the problem by passing a bold and innovative alternative to military construction. The National Defense Authorization Act of 1996 (16) was enacted with a goal of remedying this military housing shortfall. It permits faster construction of more military-family housing while meeting current market standards. (17) It was designed to create a body of special legislative authority for the Services to enter into agreements with private companies to renovate or construct houses on military reservations. (18) It was not designed to replace military construction of family housing altogether. Rather, it was another tool to leverage private sector resources when the conditions were right.

      The new MHPI contains a number of features. It includes the ability to lease federal land to private companies. (19) It also allows the military to enter into joint ventures and even share in ownership of project companies. (20) Special accounts are established to channel the project funds and authority to direct military tenants to pay developers by allotments. (21) The military department can also enter into direct loans and loan guarantees in order to assists in financing private developers. (22)

      Currently, the Department of Defense has awarded 40 military family housing privatization projects. These projects include the construction and/or renovation of 80,000 units. Over 40 housing projects are in solicitation. (23) The Air Force, for example, has scheduled 26,500 units to be completed by 2005, (24) and more projects are scheduled for completion in the next few years. (25) The Army and Navy have numerous projects ongoing as well. (26) Legislative authority for the housing program was extended between 1996 and 2004, (27) until permanent authority for the program was provided in the National Defense Authorization Act for Fiscal Year 2005. (28)

      Before looking at the tax law, one must first look at the specifics of the housing projects in order to get an understating of the nature of the projects. The housing privatization projects are awarded through a competitive process. The Army, Navy and Air Force structure their competitive bidding processes slightly differently. (29) Construction typically begins after the real estate closing. Bidders are national construction firms or joint venture operations. After competitively bidding for a project, a developer is awarded the military project. The housing projects are projected to save the federal government hundreds of millions of dollars over the life of...