Local Government Revenue Basics

Paying for Public Services Under Propositions 26 and 218

Presented by Senior Deputy County Counsel Mark Servino, County of Orange

1 2/3/2016

Local Government Revenues Sources

•Taxes

•Services Charges, Assessments and Fees

•Intergovernmental Transfers

•Rents for Use of Public Property

•Fines, Forfeitures and Penalties

2

County Revenue Sources

Source: SCO Annual Report on Counties

3

City Revenue Sources

Source: SCO Annual Report on Cities

4

Taxes Fall Into Two General Categories General Taxes • “General tax” – Tax imposed for general governmental purposes.

• General purpose agencies like cities and counties must get majority voter approval for new and increased general taxes.

• Special purpose districts, including school districts, cannot levy general taxes.

Special Taxes • “Special tax” – Tax imposed for specific purpose. Cannot be

imposed on an ad valorem (property value) basis.

• New or increased special taxes must be approved by a two-thirds vote of the electorate. 5

Taxes

• Property Tax – Tax based on the value of real and tangible personal property. Strictly limited by Proposition 13.

• Sales and Use Tax – Sales tax is imposed on retailers for the privilege of selling items in California. Use tax is imposed on purchases where sales tax does not apply such as when good is purchased out of state for use in California.

• Business License Tax – Imposed on persons or entities doing business within the city or county with rates determined by local government.

• Utility User’s Tax (UUT) – Counties may levy a UUT on the consumption of electricity, gas, water, sewer, telephone, telegraph and cable television services in the unincorporated area.

• Transient Occupancy Tax (TOT) – Imposed on persons staying 30 days or less in a hotel, inn, or other lodging facility.

6

Intergovernmental Transfers

• Gas Taxes – State imposed tax that is apportioned in part to cities and counties. Much of the revenues are earmarked for transportation and road purposes.

• Motor Vehicle License Fees – Tax on ownership of vehicles. Used to fund realignment, including health and social service programs and public safety.

• Subventions – Financial support provided by one level of government to another. For example, the State’s reimbursement of city and county costs to implement a State mandate.

• Federal and State Grants – Costs of programs must be calculated consistent with OMB A-87.

7

Services Charges, Assessments and Fees • Utility Rates – Fees for utility services charged to users for public agency provided

water, sewer, electric or other utility services.

May be subject to Proposition 218

• Benefit Assessments – Charges on real property to pay for public facilities or services that provide a special benefit to each property.

Subject to Proposition 218

• User Fees – Charges for services or privileges provided to the fee payer.

Proposition 26

• Regulatory Fees – Fees to pay for the costs of issuing licenses and permits, performing inspections, and enforcing agency laws and regulations.

Proposition 26

• Development Impact Fees – Fees to pay for improvements to serve new development or to mitigate the impacts of such development.

May have to demonstrate a nexus and rough proportionality between the fee and the proposed land use.

8

Rents for Use of Public Property

• Rents, royalties and concessions – Includes lease payments for the use of publicly owned property, charges for advertising on public transportation and charges to operate a concession at a publicly owned airport.

• Franchise Fees – A form of rent for the use of public streets and roadways. Examples include trash hauling and pipelines, transmission and distribution lines for electricity, gas, petroleum, oil byproducts and cable TV lines, along with the utility’s associated equipment. Franchise fees might be subject to federal and state law limits.

9

Fines, Forfeitures and Penalties

•Not subject to Propositions 26 or 218.

•Includes fines for the violation of laws and forfeiture of bail amounts.

•State law might govern the distribution of certain fine revenue, such as fines for parking violations.

10

Propositions 26 and 218 in a Nutshell: Assessments & Fees Cannot Exceed Costs

• “No assessment shall be imposed on any parcel which exceeds the reasonable cost of the proportional special benefit conferred on that parcel.” (Art. 13 D, § 4(a).)

• “Revenues derived from the fee or charge shall not exceed the funds required to provide the property related service.” (Art. 13 D, §6 (b)(1).)

• “The local government hears the burden of proving by a preponderance of the evidence that a levy, charge, or other exaction is not a tax, that the amount is no more than necessary to cover the reasonable costs of the governmental activity…” (Art. 13 C, § 1.)

11

What Are The Costs of the Governmental Activity?

There are two basic types of costs that are incurred by any department in conducting its operations: direct costs and indirect costs.

• Direct costs are costs that can be identified specifically with a particular final cost objective.

• Indirect costs are those costs that are (1) incurred for a common or joint purpose and (2) not readily assignable to the cost objectives specifically benefited without effort disproportionate to the results achieved.

Determining the costs of an activity or program, including indirect costs, is a critical component of SB 90 Claims, fee calculation, claiming reimbursement from Federal and State grants, and resource allocation decisions.

12

County of Orange v. Barratt American, Inc. 150 Cal. App. 4th 420, 438 (2007)

• County appeared to have accumulated an $18 million surplus of fee revenues. After it reduced the fees, a developer argued that the fees ought to be even lower.

• Trial court found that the County had not shown that expenditures were reasonable and necessary as to $ 4.5 million, and ordered the County to lower fees further until that amount was dissipated.

• The Court of Appeal affirmed and held that the burden of proof should be on the County because it is in a better position to know whether the expenditures were allowable as indirect costs under OMB A–87. 13

Proposition 26

•Adopted on November 2, 2010.

•Expands definition of “tax” to ensure that state and local governments cannot circumvent constitutional restrictions on tax increases “by simply defining new or expanded taxes as ‘fees.’”

•Directed at fees “couched as ‘regulatory’ but which exceed the reasonable costs of actual regulation …”

14

Proposition 26 Checklist

•Was the fee in existence prior to November 3, 2010?

•Is the fee imposed and collected by local government?

•Do any exceptions to Proposition 26’s definition of “tax” apply?

15

Does Prop 26 Immediately Apply To Fees Existing Prior To Its Passage?

Probably not. The Legislative Analyst stated that “most other fees or charges in existence at the time of the November 2, 2010 election would not be affected unless … [the] local government later increases or extends the fees or charges.”

16

Prop 26 – “Tax” Refers to Charges Payable to a Local Government

Schmeer v. County of Los Angeles (2013) 213 Cal.App.4th 1310

• LA County enacted an ordinance requiring retail stores to charge 10 cents for each carryout bag provided, which is retained by the store to be used for specified purposes.

• Held: The charge is not a tax under Proposition 26, because the charge is payable to and retained by the retail store and not remitted to the county. Proposition 26’s definition of “tax” is limited to charges payable to, or for the benefit of, a local government.

17

Proposition 26 Broadly Defines “Tax”

A “tax” means any levy, charge, or exaction of any kind imposed by a local government,” unless it falls within one of seven listed exceptions.

•Bottom Line: If a local government imposed fee does not fall within an exception to Prop 26’s tax definition, then it will be deemed a tax that must be approved by either a majority (general tax) or a 2/3 (special tax) vote.

18

Section 1(e)(1) – Specific Benefits or Privileges Exception

A charge imposed for a specific benefit conferred or privilege granted directly to the payor that is not provided to those not charged, and which does not exceed the reasonable costs to the local government of conferring the benefit or granting the privilege.

19

Section 1(e)(2) – Government Service or Product Exception

A charge imposed for a specific government service or product provided directly to the payor that is not provided to those not charged, and which does not exceed the reasonable costs to the local government of providing the service or product.

20

Section 1(e)(3) – Reasonable Regulatory Costs Exception

A charge imposed for the reasonable regulatory costs to a local government for issuing licenses and permits, performing investigations, inspections, and audits, enforcing agricultural marketing orders, and the administrative enforcement and adjudication thereof.

21

Section 1(e)(4) – Access to or Use of Government Property Exception

A charge imposed for entrance to or use of local government property, or the purchase, rental, or lease of local government property.

•Examples: Franchise fees for the right to use government property, like cable, gas, electric, and pipeline franchises. Park and recreation entrance fees and equipment rental fees. Leases of government property.

22

Jacks v. City of Santa Barbara (2015) 234 Cal.App.4th 925 (2015), review granted

• City imposed a franchise fee on Southern California Edison (SCE).

• SCE passed this fee on directly to utility consumers through a 1 percent surcharge on their electricity bills and remitted the revenues to the city .

• Consumers filed a class action claiming that the surcharge constituted an illegal tax that was imposed without voter approval in violation of Proposition 218.

• The Court of Appeal found that the surcharge was a tax that required voter approval rather than a franchise fee.

• The California Supreme Court granted review. Case is pending.

23

Section 1(e)(5) – Fines and Penalties Exception

A fine, penalty, or other monetary charge imposed by the judicial branch of government or a local government, as a result of a violation of law.

Section 1(e)(6) – Development Impact Fees Exception

A charge imposed as a condition of property development.

24

Section 1(e)(7) – Proposition 218 Exception

Assessments and property-related fees imposed in accordance with the provisions of Article XIII D.

25

Prop 26 - Burden of Proof

A local government must prove by a preponderance of the evidence that:

1. The levy, charge, or other exaction is not a tax;

2. That the amount is no more than necessary to cover the reasonable costs of the governmental activity; and

3. That the manner in which those costs are allocated to a payor bear a fair or reasonable relationship to the payor’s burdens on, or benefits received from, the governmental activity. 26

City of San Buenaventura v. UWCD, 235 Cal.App.4th 228 (2015), review granted

• City sought to over turn a water conservation district’s decision to increase city’s rate to pump water from the district’s territory to sell to residential customers resulting a in 3 to 1 cost ratio between agricultural and non-agricultural rates.

• Court held that the rates the district charged the city were not “property related” within the meaning of Proposition 218.

• Key: Court held charge did not violate Proposition 26 because a regulatory fee does not become a tax simply because the fee may be disproportionate to the service rendered to individual payors. Proportionality is not measured on an individual basis, but rather, it is measured collectively.

• California Supreme Court granted review. 27

California Building Industry Assn. v. SWRCB, 235 Cal.App.4th 1430 (2015), review granted

• Plaintiff challenged Board’s storm water program fees.

• Court held that Plaintiff bears the burden of proof to establish a prima facie case showing that the fee is invalid.

• The reasonableness of the Board’s imposition of annual permit fees relates to the costs of regulating the entire program and is measured collectively, considering all rate payors, not by the impact on an individual payor.

• California Supreme Court granted review on whether Proposition 26 applies to the fees and whether the Board bears the initial burden of demonstrating that its fees are valid.

28

Suggestions For Implementing Prop 26

•Require departments sponsoring a fee to identify the Prop 26 exception that applies to the fee.

•Provide analysis and facts that supports the Prop 26 exception that is being invoked by the department.

•Request that the governing board make findings that the fee meets the requirements of the exception that is being invoked.

29

Suggestions For Implementing Prop 26

Analysis of proposed fee should address how it meets the following three criteria or why the criteria is not applicable:

• That the fee or charge is not a tax, i.e., it falls within one of Prop 26’s exceptions;

• That the amount is no more than necessary to cover the reasonable costs of the governmental activity; and

• That the manner in which those costs are allocated to payors bear a fair or reasonable relationship to the payors’ burdens on, or benefits received from, the governmental activity.

30

Proposition 218

• “Right to Vote on Taxes Act” (1996) – ensures that all taxes and most charges on property owners are subject to voter approval

• Establishes procedural and substantive requirements for local government adoption of taxes and fees

• Proposition 218 states that, “[n]o tax, assessment, fee, or charge shall be assessed by any agency upon any parcel of property or upon any person as an incident of property ownership except”: (1) an ad valorem property tax; (2) a special tax; (3) an assessment adopted as provided therein; and (4) a property related fee as provided therein.

31

Proposition 218 Assessments (Art. XIII D, § 4)

• Assessment is a charge that confers a special benefit

• “Assessment” is a charge on property to pay for a public improvement or service that benefits the property. It is placed on the tax bill but are based on the costs of the improvement or service, not on the value of the property.

• ”Special benefit” means a particular benefit to the land or building. Cannot be a general benefit to the public or a general increase in property values.

• An assessment imposed on each parcel cannot exceed the reasonable cost of the proportional special benefit conferred on the parcel.

• Must estimate the amount of special benefit and the amount of the general benefit using a professional engineer’s report.

• State or local government owned parcels generally may not be exempt. 32

Proposition 218 Assessment Procedures (Art. XIII D, § 4)

•Assessments must be approved by a majority of property owners in a mailed ballot election.

•Ballots are weighted based on the amount of the proposed assessment on the property. “One dollar-one vote” system, not “one person-one vote.”

•Burden is on the public agency to demonstrate: (1) the properties in question receive a special benefit over and above the benefits conferred to the public at large; and (2) the amount of the assessment is proportional to, and no greater than, the benefits conferred on the properties in question.

33

Proposition 218 Property Related Fees (Art. XIII D, § 6)

Substantive Requirements:

• “Fee” or “charge” means any levy other than an ad valorem tax, a special tax, or an assessment, imposed by an agency upon a parcel or upon a person as an incident of property ownership, including a user fee or charge for a property related service.

• “Property-related service” means a public service having a direct relationship to property ownership.

• Examples include fees for garbage collection, sewer service, and water service, but electrical or gas service fees are excluded from the definition of property related fees. 34

Proposition 218 Property Related Fees (Art. XIII D, § 6)

Substantive Requirements:

• Revenues cannot exceed costs to provide the property related service.

• Fee imposed on a parcel or person cannot exceed the proportional cost of service to the parcel.

• Fees may only be used for the purpose for which the fee was charged.

• Service must be actually used by or immediately available to the fee payer, i.e., stand-by charges and “future facility fees” must be adopted as assessments.

• Fee may not be imposed for general governmental services including, police, fire, ambulance or library services, where the service is available to the public at large.

35

Proposition 218 Property Related Fees (Art. XIII D, § 6)

Procedural Requirements:

• Provide written notice of a public hearing by mail to the record owner of each parcel upon which fee or charge will be imposed.

• Notice must be mailed no less than 45 days prior to the public hearing.

• Notice must contain: (1) the amount of the proposed fee; (2) the basis upon which it was calculated; (3) the reason for the fee; and (4) the date, time and location of the public hearing.

36

Proposition 218 Property Related Fees (Art. XIII D, § 6)

Procedural Requirements:

• At the public hearing, agency must consider all protests.

• One written protest per parcel.

• If written protests against the proposed fee are presented by a majority of owners of the identified parcels, the agency shall not impose the fee or charge.

• Election required for fees other than charges for sewer, water, and refuse collection services.

Majority vote of the property owners of the property subject to the fee or charge; or

A two-thirds vote of the electorate residing in the affected area. 37

Overview of Public Involvement in the Revenue Process

Type of Charge Public Hearing Protest Procedure Voter Approval

General Tax No No Yes, majority vote

Special Tax No No Yes, two-thirds vote

Property Related

Fee

Yes Yes Yes, except for water,

sewer or refuse

Benefit Assessment Yes Yes Yes, mailed ballots

Development

Impact Fees

Yes No No

Utility Rates Sometimes Sometimes Sometimes

38

Agreements for the Collection of Special Taxes, Special Assessments and User Fees

• Counties can recover their costs for collecting the special taxes, special assessments and user fees that are placed on the county tax roll by cities and special districts. (Gov’t Code § § 29304, 50077, 51800.)

• The amount of compensation often must be fixed by an agreement between the county and the agency. (Gov’t Code § § 29304, 50077, 51800.)

• California State Association of County Auditors Guidelines recommend:

• A written agreement between the county and the agency, which should describe the amount of compensation to be paid by the county.

• An annual compliance certification statement from the agency that it has complied with applicable law such as Proposition 218.

• An agreement to indemnify the County Auditor and the County for any liability arising from the tax, fee or assessment that is being collected by the county.

• Consult with your counsel.

39

More Information

• California Local Government Finance Almanac http://www.californiacityfinance.com/

• California League of Cities Proposition 218 Implementation Guide (2007)

• California League of Cities Proposition 26 Implementation Guide (2011)

• State Controller’s Handbook of Cost Plan Procedures for California Counties and 2 CFR Part 225 (OMB A-87).

40