Surge in electricity sales tax lawsuits is reported.

Lawsuits stemming from the interpretation of electrical clauses and overtime heating costs are wending their way through the court system. While decisions on two State cases mean that owners and certain tenants will reap sales tax refunds from New York State, another case and some agreements made by the industry, so far are costing owners mucho dinero in city sales taxes.

In the first lawsuit, the Empire State Building was pursued for New York State sales tax payments based on a state interpretation of a lease clause.

The lease clause, more or less standard in commercial leases, called for the payment of rent that included a set charge for electricity per square foot of leased space. The state decided to go after the owners of the high profile property for utility sales tax on these payments.

After several years, the Court of Appeals decided the electrical charges were merely rent payments and the building did not have to pay a $3.256 million bill for the four-year period. The amount included penalties, but not interest that would have kicked the tab even higher.

This decision will enable owners who paid these sales taxes to apply for refunds from New York State as discussed in REW last week.

Unfortunately, explained Wien Malkin & Bettex partner, Robert A. Shapiro, who represented the Empire State Building, the refund liability for sales taxes goes back three years for those who made payments voluntarily and only two years fo those who were actually pursued by the state for these taxes.

"You may decide you will pay the tax that's asserted to stop the accrual of interest," he noted. "Then you are waiting for another owner's lawsuit to wend its way through the court system. While that owner is protected by the court, you are penalized by having only two years to request the refund, when it might take several years to obtain the final decision."

"The worst thing you shouldn't have is that you paid something to protect yourself and then find out you can't get the refund," Shapiro said sadly. "Here, there might be landlords who similarly paid to stop the running of interest and penalties who won't be able to obtain a refund for the entire amount."

In a case involving the law firm of Debevoise & Plimpton, the issue was New York State sales taxes on overtime charges for heating, ventilation and air conditioning (HVAC). "We went to tax that as a sale of a utility service," said James J. Morris Jr., chief of sales tax instructions and interpretations for the New York State Division of Taxation. "They said it was rent and not the sale of a utility. The court agreed it was a part of the rent and not subject to the sales tax."

If the building owner collected such sales taxes and filed them with New York State, tenants may be owed refunds that they can collect from the State.

If your building or tenant is eligible for a refund, call New York State at 1 800-462-8100 and tell the machine you want an AU-11 form to claim a sales tax refund. The sales tax in New York City is 8 1/4 percent with 4 percent of that the city fee and 4 1/4 percent paid to the state. The state also pays interest, currently at 6 percent, if the refund is not sent out within about 90 days. Most refunds are obtained within four to six months.

Kaufman's still fighting

Several years ago, the city's own taxation department decided to go after property owners for the sales tax due on the resale of electricity to tenants. The William Kaufman organization chose to fight the action in court, but it also had to pay what the city said it owed.

Its other option, the route of an administrative hearing, would have meant a probable appeal to the courts anyway, explained attorney Robert J. Ward, a partner in Shea & Gould, even though they wouldn't have had to pay the taxes up front. "This will set the law the administrators will have to apply," he noted.

Since the city claimed there was no statute of limitations as to how far back it could go, Ward said they eventually negotiated down to about two years for the lawsuit involving 127 John Street and Five Hanover Square.

"No one [in the industry] ever filed a utility tax form because no one in their right mind would think it's not part of the rent," he noted.

The issue is affecting everyone who owns real estate in the city, Ward noted. Other owners were approached for as many as 15 years, said Real Estate Board of New York President Steven Spinola. Eventually, Spinola said, "The city agreed to limit the retroactivity to five years and to waive panalties but not interest."

REBNY is pleased, he added, because the penalties were substantial and in actual costs are not a lot of money for the future. On one prominent building that he declined to identify, the bill was originally in the hundreds of thousands of dollars, while in the end it amounted to $50,000. "By eliminating ten years of retroactivity and penalties, most of the dollars were wiped out," he explained.

Under this REBNY agreement, sales tax is due for the identified profit on electricity. That identifiable profit, however, is What is left to define in the lawsuit that Ward is carrying forward on behalf of the Kaufmans' Sage Realty.

Ward has lost round one in Supreme Court and round two in the Appellate Division, which ruled a year ago on the issue of sales tax being due altogether. The Appellate Division court agreed, however, it should only be due on the profits an owner makes on resales.

Ward argued that taxing the resale of electricity is in fact double or even triple taxation, because the tenant is paying a commercial use and occupancy tax on the rental amount. The owner already pays sales tax on its bulk electric purchase and is now also being forced to pay sales tax on the rental amount.

"The Appellate Division said there is no double taxation because the tenant pays the commercial rent tax, but I said under the leases we can turn around and get tenants to pay this," added Ward. He noted there can be double taxation if the legislature provides for it.

The Court of Appeals declined to hear an appeal until all issues, including the way the profit is calculated, are settled by the court. Ward has completed discovery and is eager for a Supreme Court trial date that he expects by the spring. "This statute was never intended to apply to a rent included amount, so a court has to do it," he said. "We have the evidence assembled to show we don't have a profit."

Shapiro's law firm is pursuing a similar case with the Empire State Building and said, "We are following the Sage case very closely and hope we get a different result."