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Judge rules Billings’ ‘franchise fees’ were illegal sales tax

Posted at 5:57 PM, Jan 07, 2022
and last updated 2022-01-07 19:57:12-05

A protracted battle that affects nearly every resident living within Montana’s largest city may wind up costing the City of Billings between $6 million and $8 million as a judge ruled “franchise fees” charged to water and sewer users were illegal sales taxes, prohibited by state law, reports The Daily Montanan.

Moreover, the court order demonstrated that city officials had known about the questionable practice for years and feared sometime they’d be sued, but still chose to collect the 4% to 5% fee charged to residential hook-ups until the lawsuit was filed in 2018.

The court case remains a class-action suit for many residents, and a second class of residents, which include any residential subdivision incorporated since 1992, may be added. While the case has not gone to trial, the summary judgment ruling likely opens the city for returning a part of the money.

Judge Michael Salvagni ruled that the city had been charging franchise fees — payments Billings said went to offset indirect costs of providing city water and sewer services — even though Montana is replete with examples of the Supreme Court striking down such charges. In his ruling, Salvagni said Billings had devised a scheme where it charged itself for the public right-of-way, something municipalities can do for residential utility providers, like Montana Dakota Utilities or NorthWestern Energy. However, Billings’ implementation was different, Salvagni said, because it already owned the right-of-way, unlike a public utilities company. Franchise fees may still be legal under that definition, but the city instead charged the fees while not putting that money back toward water or sewer services.

“The ‘franchise fees’ did not have any relationship to the cost of providing water, wastewater or solid waste disposal to city customers,” Salvagni wrote. “Further, there was no franchise agreement between the city and the public works department. The primary purpose of the ‘franchise fee’ was to raise revenue.”

Instead, the City of Billings charged an arbitrary 4% or 5% since implementing the fees in 1992, and they were passed through to the city’s general fund, where they were used to support other services, like police or firefighters.

Court records also show that city employees and leaders had worried about the legality of the franchise fees for years. In fact, Public Works Finance Manager Jennifer Duray alerted then city administrator Tina Volek in 2017 that a customer was insisting the fees were illegal and had threatened to get an attorney.

“This is just what we feared,” Volek told Duray, according to court records.

The court also recounted that former city council member Dan Farmer objected to the franchise fees, calling it “a very regressive sales tax” because “it hurt the little guy on fixed income and the elderly.”

Farmer also believed it was “fundamentally dishonest to go around the (city’s) Charter,” according to the court documents.

Public works director Dave Mumford also testified that he had repeatedly told the city administration the fees were problematic, starting in 2004. He told the court he had a very specific conversation with Volek in January 2016.

“I have discussed with legal staff in the past my concern that the state Supreme Court ruling that the franchise fee is a tax as currently implemented,” Mumford said via court documents. “The court ruling clearly states that there must be a nexus between how the fee is used to what you are being assessed for. By assessing the fee on customers for the use of (rights-of-way) and using revenues for general fund obligations would not appear consistent with the court ruling.”

The court case also noted that Billings residents do not have a choice in services – city law requires residential homes within city limits to be hooked up to services.

“In this case, the city forced ratepayers to transact with it by using its sovereign authority to monopolize water, wastewater service, and solid waste disposal services by the city,” the court decision said.

The judge also ruled that it appeared the franchise fees were created when the city needed money and weren’t tied to any documented cost of running the public works department.

“The city’s contention that it used ‘franchise fees’ to cover ‘unallocated’ or ‘indirect’ costs is not supported by any evidence in the record. Moreover, the city’s contention is flatly contradicted by its own admissions and testimony of its own city officials,” the court said. “The city was in need of revenue and property tax was not an alternative available to it.”

The court also faulted Volek for making an argument to justify the costs without any support.

“Her conclusory opinion that ‘franchise fees’ should be characterized as a ‘cost of service’ is simply a form-over-substance remark that carries no weight in a tax case,” Salvagni wrote.

Salvagni also ruled on several other motions that had bogged down the case as it bounced from judge to judge for nearly three-and-a-half years (eight Yellowstone County judges recused themselves because all were residents of Billings and could possibly benefit from a settlement). One of those motions on a due process claim will likely determine how large the city’s liability could go if the court eventually finds in favor of the class-action suit.

Salvagni dismissed several counts while keeping alive the due process claims, which could mean that the City of Billings would be on the hook for as many as three years’ of franchise fees. While neither side has calculated the exact amount that would be owed, an earlier report pegged the franchise fees at between $2 million and $2.5 million per year.

Attorneys for the city did not respond for requests for comment on the rulings, and the case still has to go through several other class-action steps before trial. Among those steps are notifying residents who may be entitled to franchise fee refunds if the court ultimately sides with the residents.

A group of Billings residents has been pursuing the issue of franchise fees for years, at one point, offering to settle with the city for $20,000 and the promise that it would never implement the fees again, to which the city balked.

Now, the city of Billings could be liable for attorney’s fees plus franchise fees, which could total millions.

“After engaging in four years of expensive and unnecessary litigation, residents will hopefully be refunded the illegal sales tax they were charged from the city,” said attorney Matthew Monforton, who is representing the residents.