External Obsolescence Issues in Guardian Energy, LLC vs. County of Waseca (Heard in State of Minnesota Supreme Court)
By William C. Herber and Laura A. Wisneski
External obsolescence is a type of depreciation that results from external influences, and often reduces the value of a property. For example, if a landfill is constructed next to a home, the value of the home will likely fall, through no fault of its own and regardless of the condition of the home itself.
Several years ago, Guardian Energy (Guardian) contested the property tax value assessed to their property in Waseca County, Minnesota. Guardian Energy operates an ethanol plant on 140 acres in Janesville, and felt the County Assessor’s values for the property in 2009, 2010, and 2011, were too high. After their grievances were heard by the Tax Court, an appeal was made to the Minnesota Supreme Court. The case was eventually heard in 2015 by the Minnesota Supreme Court, which focused on two issues: 1) whether the determination that the ethanol tanks on the property were real property, and 2) the tax court’s independent determination of external obsolescence. For this article, we will only focus on the application of external obsolescence.
Both sides presented the court with their determination of external obsolescence for the property. Guardian proposed a 33.3 percent reduction for each year, based on the 40% decline in commercial market values generally, and an industry-wide decrease in the profit margin of ethanol resulting from overcapacity, lower demand, and the increased price of corn. Upon further examination, however, Guardian admitted that its profit margins were higher than industry averages. The court also took issue with Guardian’s reliance on the price per gallon of ethanol as an indicator of the decline in value of the property, stating that the price is related to the value of the business rather than the value of the property. The tax court cited a previous case where it was determined that “a failure to meet sales projections, does not, by itself, demonstrate that a property suffers from external obsolescence.1”
Guardian’s property, however, was not a run-of-the-mill office building, where any number of businesses could operate. An ethanol plant is a special-purpose property, and the County, while estimating slightly different reduction percentages, agreed with Guardian’s methods in this respect by also considering the price per gallon and general industry trends in its calculations. The county concluded 45 percent, 35 percent, and 25 percent reductions for external obsolescence for each year, while Guardian Energy used 33 percent for all three years.
Rather than relying on the testimony of either side, the tax court used an entirely different approach to calculate its own determination of external obsolescence. By taking national levels of demand and comparing these to levels of production, the tax court determined the property’s function obsolescence reduction at 16 percent, 8 percent, and 0 percent. While the tax court would have been within its rights to reject the methods used by both sides, if it deemed them inappropriate, it would still be required to explain why it used the method it ended up choosing. The Supreme Court decided that the tax court failed to adequately explain its reasoning for selecting this particular method of determining external obsolescence and failed to show that the method it selected is an accepted approach.
The Supreme Court could also not understand how the property value could be separated from the value of the viability of the business, because as stated previously, this was a special-use property that could only have one practical use, and “capitalization of the income loss attributable to the negative market influences is a generally respected approach to calculating external obsolescence.” The Supreme Court acknowledged the complexity involved in determining the value of property and would not provide an opinion of which method(s) should apply, but instead recommended the case be remanded to the tax court for further proceedings.
Shenehon Company supplied the appraisal report for Guardian Energy.
1 State of Minnesota in Supreme Court A14-1883, A14-2168