In California Minerals v. County of Kern, (152 Cal.App.4th 1016, 2007 Daily Journal D.A.R. 9703, Cal.App. 5 Dist., June 26, 2007), a California Court of Appeal held that the assessed value of oil and gas mineral rights for ad valorem tax purposes is presumed to be the purchase price for the property, even if the property in question is nonproducing and has no proven oil or gas reserves. The court rejected the mineral owner’s argument that the assessed value should be zero because oil and gas reserves to the property had not been established.
Facts
In 1998, California Minerals, L.P. ("CM"), procured the mineral rights to approximately 212,000 acres located in 19 California counties, at a total purchase price of $17 million. The sale agreement allocated $6,009,465 of the price to rights associated with parcels located in Kern County ("County"). At that time, the property had no proved oil and gas reserves (i.e., there was no engineering or geologic data to support recovery of oil and gas from the property). CM submitted a “Preliminary Change of Ownership Report” to the County Assessor ("Assessor") describing the property interest as nonproducing minerals purchased for $6,009,465. To determine ad valorem taxes, the Assessor enrolled the base year value of the property at its purchase price, pursuant to Revenue and Taxation Code §110, which states that a property’s purchase price is presumed to be its fair market value. The Assessor did not apply State Board of Equalization ("SBE") Rule 468 (Cal. Code Regs., tit. 18 §468), which pertains to valuation of oil and gas properties. The Assessor took the position that Rule 468 applies only to properties currently producing oil and gas.
CM filed a challenge of the Assessor’s determination with the state Assessment Appeals Board ("Board"), arguing that Rule 468 applied, and that, because there were no proved reserves, the property had no assessable value. The Board denied CM’s challenge, finding that the purchase price for the property had been fairly allocated and that CM had not overcome §110’s presumption. CM paid all property taxes then due, and, after being denied a refund by County, filed a superior court action seeking a refund. The trial court agreed with the Board and denied CM’s request. CM appealed.
Decision
The Court of Appeal held that, without more, proof of the absence of proved reserves does not rebut the §110 presumption that the fair market value of an oil and gas mineral property interest is its purchase price.
In reaching this conclusion, the court first examined how oil and gas properties in California are appraised. Prior to state voters’ adoption of Proposition 13 in 1978, county tax assessors could reappraise oil and gas fields annually. Proposition 13, however, required assessors to establish a property’s base year value, which was then subject to increase by no more than two percent annually except in limited circumstances. Because of the unique nature of oil and gas interests, the advent of Proposition 13 required taxing authorities to reconsider appraisal techniques for such property so that they would not forfeit the ability to tax it by freezing the base year value of new or unexplored oil and gas fields at zero. SBE Rule 468 was the result. The rule distinguishes non-petroleum from petroleum interests, and allows revaluation of petroleum interests based on changes in proved reserves. It also provides that market value of an oil and gas mineral interest is determined “by estimating the value of the volumes of proved reserves.” The rule does not refer to “proved reserves” in its subsection concerning determination of base value, however; rather, it uses the terms “reserves,” “mineral reserves,” and “taxable reserves,” the court stated. In addition, Rule 468 provides that base year reserve values must be adjusted annually, to compensate for the value of depletions or additions to reserves in a given year.
CM argued that the only valuation method relevant to its mineral interest was Rule 468 because oil and gas production was the highest and best use of the property. Because the rule tied “market value” to “proved reserves,” CM argued, the Kern County property interests should be valued at zero. Although the court agreed that exploration/development of oil and gas was the property’s highest and best use, the court disagreed with the remainder of CM’s argument. Proved reserves are not the sole measure of fair market value, the court said. Rule 468 contains a number of other valuation principles that recognize oil and gas interests as part of an “appraisal unit” that includes the land itself and the accompanying right to explore for and develop oil and gas. In addition, “probable” as well as “possible” reserves are definitely considered by knowledgeable professionals in valuation of a property to determine its purchase price.
Despite the fact that CM did not have geologic evidence of proved reserves in Kern County, it nonetheless attributed a $6 million purchase price to its property interest there. The court noted that none of the acquired mineral interests had proved reserves, yet CM, as a knowledgeable and informed buyer, considered the price it paid to be the fair market value. CM presented no evidence that its purchase was “purely speculative” or that it was an “idiosyncratic or otherwise unusual buyer” entitled to an exception from the presumption that fair market value is the purchase price. The court therefore affirmed the trial court’s judgment.