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Calif. App. Court (4th Dist) Upholds Dismissal of Challenges to PACE Loans

clean energy programThe California Court of Appeal, Fourth Appellate District, recently held that a group of senior citizen consumers were required to pursue administrative remedies before suing private companies to challenge their tax assessments billed under the state’s Property Assessed Clean Energy program (PACE).

In so ruling, the Fourth District upheld the trial court’s dismissal of several putative class action complaints seeking “tax refunds, an injunction against future tax assessments, and removal of tax liens” relating to PACE loans.

A copy of the opinion in Morgan v. Ygrene Energy Fund, Inc. is available at:  Link to Opinion.

California enacted PACE as a method for homeowners to finance energy and water conservation improvements. A PACE debt is created by contract and secured by the improved property. But like a tax, the installment payments are billed and paid as a special assessment on the improved property, resulting in a first-priority tax lien in the event of default.

Classes of consumers in multiple putative class actions who were over 65 years old and entered into PACE contracts sued private companies who either made PACE loans to the consumers, were assigned rights to payment, and/or administered PACE programs for municipalities. The consumers alleged that the PACE financing was actually, and should have been treated as, a secured home improvement loan. The consumers also asserted that the companies engaged in unfair and deceptive business practices by violating consumer protection laws, including California Civil Code section 1804.1(j), which prohibits taking a security interest in a senior citizen’s residence to secure a home improvement loan.

The defendant companies demurred to the complaints on the sole ground that the consumers failed to allege they first exhausted administrative remedies.

Generally, “a party must exhaust administrative remedies before resorting to the courts.” Plantier v. Ramona Municipal Water Dist., (2019) 7 Cal.5th 372, 383. Additionally, the California Constitution gives the legislature exclusive control over the procedure under which a taxpayer may recover certain tax payments. Article XIII, section 32 provides: “After payment of a tax claimed to be illegal, an action may be maintained to recover the tax paid, with interest, in such manner as may be provided by the Legislature.” It also specifies that “[t]he Legislature shall pass all laws necessary to carry out [its] provisions.” Cal. Const., art. XIII, § 33.

​​Taxpayers have the right to challenge an inaccurate or illegal tax assessment and to claim a refund of taxes. The process is initiated by an application for assessment reduction under Civil Code section 1603, subdivision (a), which provides: “A reduction in an assessment on the local roll shall not be made unless the party affected . . . files with the county board a verified, written application showing the facts claimed to require the reduction and the applicant’s opinion of the full value of the property.” Under section 1610.8, the board may “cancel[ ] improper assessments.” An order for refund cannot be made unless a verified claim is filed under section 5097. Lastly, the taxpayer may file an action in the superior court to recover a tax that the board has refused to refund after a duly filed claim. § 5140.

The trial court agreed with the defendant companies, sustained the demurrers without leave to amend, and entered a judgment of dismissal. The consumers timely appealed.

On appeal, the consumers primarily contended that they were not required to pursue administrative remedies because they had sued only private companies and did not challenge the municipal tax process involved. Instead, the complaints sought tax refunds, an injunction against future tax assessments, and removal of tax liens. Relying on Oakland v. California Construction Co., (1940) 15 Cal.2d 573 (Oakland), the consumers asserted that a “request by private party property owners for the return of money paid out on a void contractual obligation [is] not a challenge to an assessment lien” and, therefore, does not require that they first exhaust administrative remedies.

The Fourth District disagreed and held that, for the purposes of applying the exhaustion rule, the PACE assessments can only be treated as taxes. This is because, under Revenue and Taxation Code section 4801, “taxes” include “assessments collected at the same time and in the same manner as county taxes.” § 4801; see Kahan v. City of Richmond, (2019) 35 Cal.App.5th 721, 737. Therefore, despite their assertions to the contrary, the Court concluded that the consumers did challenge their property tax assessments.

The Fourth District also found the California Supreme Court’s ruling in Oakland to be materially distinguishable because that case did not involve a challenge to any tax. Rather, the City of Oakland sought to void street improvement contracts based on a contractor’s alleged fraud during the bidding process. Oakland, supra, 15 Cal.2d at pp. 574‒575.

The consumers also argued that the exhaustion rule only applies to lawsuits against the government. They found support for this view in section 5140, which provides that the “person who paid the tax” is authorized to bring a refund action against “a county or a city” to recover tax the county or city has refused to refund.

However, the Fourth District determined that this argument was foreclosed by the California Supreme Court’s decision in Loeffler. In that case, the court held that consumers had to first exhaust administrative tax remedies before bringing an action under the Unfair Competition Law to challenge a retailer’s alleged misrepresentation about whether a sale of hot coffee was subject to sales tax. Loeffler, 58 Cal.4th at pp. 1092, 1134. The California Supreme Court explained that the question of taxability had to be first decided administratively, followed by judicial review of the agency’s decision. Id. at p. 1127. An injunction prohibiting retailers from collecting sales tax “could indirectly reduce the flow of tax revenue in the future” and thus involved policies the exhaustion rule was intended to address. Id. at p. 1131.

Similarly here, the Fourth District concluded that the consumers’ PACE assessments undoubtedly would be affected by the adjudication of the complaints. The consumers alleged that the PACE loans were “void at inception for illegality” and the resulting security interest (i.e., a property tax lien) was also unlawful and “void.” Because the tax rested exclusively upon the validity of the PACE financing, a judgment that the debt and security interest were illegal and void would negate the sole basis of the tax assessment.

The consumers also asked the Fourth District to apply a broad exception to exhaustion on the grounds that “no purpose would be served” by requiring the board to consider a pure legal issue — whether consumer protection statutes apply to these PACE loans.

A limited exception to the exhaustion rule has generally been recognized where “‘the administrative agency cannot provide an adequate remedy’ and ‘when the subject of a controversy lies outside the agency’s jurisdiction.’” Williams & Fickett, supra, 2 Cal.5th at p. 1274. But in this case, the Fourth District concluded that an adequate remedy did exist because, by statute, the board “shall” refund property tax that is erroneously or illegally assessed. § 5096, subds. (b), (c).

Lastly, the consumers asserted that the Fourth District should still rule on whether they have stated a valid claim on the merits. However, because the demurrers were limited to whether the consumers had failed to exhaust administrative remedies, the Appellate Court held that the issue of whether the consumers’ substantive claims had merit was not before it.

Accordingly, the Fourth District affirmed the judgment of the trial court.

Photo: alphaspirit/stock.adobe.com

The attorneys of Maurice Wutscher are seasoned business lawyers with substantial experience in business law, financial services litigation and regulatory compliance. They represent consumer and commercial financial services companies, including depository and non-depository mortgage lenders and servicers, as well as mortgage loan investors, financial asset buyers and sellers, loss mitigation companies, third-party debt collectors, and other financial services providers. They have defended scores of putative class actions, have substantial experience in federal appellate court litigation and bring substantial trial and complex bankruptcy experience. They are leaders and influencers in their highly specialized area of law. They serve in leadership positions in industry associations and regularly publish and speak before national audiences.

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