The Law on Valuing Mineral Interests in the Context of Condemnation Cases

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1 The Law on Valuing Mineral Interests in the Context of Condemnation Cases

2 Primer on General Valuation Principles in Condemnation Cases In general, just compensation in a condemnation action is measured in terms of fair market value of the real property at the time of taking. See, e.g., City of St. Paul v. Rein Recreation, Inc., 298 N.W.2d 46, 49 (Minn. 1980). Often times, the valuation issue with respect to sand, gravel, and mineral deposits will be in the context of a partial taking across a larger parcel. Where there has been only a partial taking of land, fair market value is the difference between market value of the entire tract immediately before the taking and the market value of what is left after the taking. State v. Pahl, 95 N.W.2d 85, 90 (Minn. 1959) (emphasis added)

3 Because valuation is based on the entire tract before and after the partial taking, by definition, this rule prohibits measuring damages based on a separate valuation of the portion of land taken. See, e.g., Minneapolis-St. Paul Sanitary Dist. v. Fitzpatrick, See, e.g., Minneapolis-St. Paul Sanitary Dist. v. Fitzpatrick, 201 Minn. 442, 457, 277 N.W. 394, 402 (1937) [The landowner] is entitled to the difference between the market value of the entire tract immediately before the taking and the market value of what is left after the taking.... But an owner is not entitled to receive compensation for the land actually taken.... )

4 Some other general doctrines that are relevant here: The Unit Rule Where several persons have separate estates or interests in a single tract or parcel of land taken in condemnation proceedings, the proper mode of reaching a fair valuation of the property, and of ascertaining the damages of those interested, is to treat the property as though the entire estate and all interests therein were in a single person, and to find the value and damage in gross, leaving apportionment of the award to be thereafter made according to the previous interest of the parties in the property. Hennepin v. Holt, 207 N.W.2d 723, 727 (Minn. 1973) The Larger Parcel Theory Under the larger parcel theory, if separate parcels of land are sufficiently connected, they may be considered together for the purposes of measuring damages to the remaining property after a partial taking. City of Minneapolis v. Yale, 269 N.W.2d 754, 754 (Minn. 1978) Factors which must be considered to treat adjoining properties as a single tract include: unity of ownership physical contiguity; and unity of use.

5 Recap of the General Law on Valuation in Takings Cases Just Compensation for a Total Taking: The fair market value of the real property taken (as a unified fee simple interest) on the date of taking. Just Compensation for a Partial Taking: The impact of the taking on fair market value (i.e. the difference in value before and after the taking) of the unified fee interest in whatever real property is subject to the taking (i.e. the larger parcel).

6 The General Rule on Valuing Mineral Deposits They are part of the land, and are a factor to consider in determining the fair market value of the land, but it is improper to separately value mineral deposits in determining just compensation

7 The rule ordinarily applicable... is that in determining the compensation in eminent domain proceedings the existence of valuable mineral deposits in the land taken constitutes an element which may be considered insofar as it influences the market value of the land. The general rule has been applied indiscriminately to all forms of mineral deposits, such as coal, ore, gold, fire clay, sand and gravel, and stone or limestone. The rule has frequently been expressed, however, by the negative statement that the award may not be reached by separately evaluating the land and the deposits, since the latter, being only one element among many in determining the market value of the land, cannot be considered as an independent factor the value of which is to be added to the value of the land. State Highway Comm'n v. Ullman, 88 S.D. 492, 501, 221 N.W.2d 478, 482 (1974) (citing Am.Jur.2d, Eminent Domain).

8 This specific rule comports with the general rules of valuation that dictate that just compensation is the fair market value of the entire real property taken (total take), or the change in fair market value of the entire real property subject to taking (partial take). Like any other feature of the property that affects the property s value in the eyes of the market, mineral deposits are a factor to be considered in determining fair market value. Just compensation, however, is not determined by adding up the value of each cubic yard (or whatever other unit of measure is applicable) of mineral deposits that might be harvested.

9 Quick Aside on Trees In accordance with general principles of valuation, this rule is applicable to any resources that are part of the land in a condemnation case, such as vegetation: The generally accepted rule is that it is proper to consider the existence of vegetation on land being condemned, but only to the extent that such vegetation enhances the value of the land. In keeping with the unit rule of valuation... vegetation is generally not to be valued separately and then added to the value of the underlying land in a summation approach. Nichols on Eminent Domain, 3rd Ed., 13.13[1].

10 Back to Minerals This is the general rule in Minnesota, the 8th Circuit (which includes federal courts in much of the upper Midwest), and several other jurisdictions

11 State v. Horman, 247 N.W. 4, 5 (Minn. 1933) ( The difference between the fair market value of the property before [the condemnation] and its fair market value after was the measure of damages.... That there was a valuable deposit of sand or gravel, or anything else, on the property, the use of which would be interfered with or prevented, was a factor for consideration. The value of the property for plaintiff's peculiar use was not determinative. But evidence of the deposit of sand and gravel and that the market value was thereby enhanced was competent. ) United States v Acres of Land, Situate in Monroe Cty., Mo., 586 F.2d 79, 87 (8th Cir. 1978). ( In the case of land that is underlaid with marketable minerals... the existence of those minerals is a factor of value to be considered in determining the market value of the property, but the landowner is not entitled to have the surface value of the land and the value of underlying minerals aggregated to determine market value. The value of the mineral deposit is to be considered only to the extent to which it goes into and affects the over-all market value of the property. And it is generally not permissible to determine the value of a mineral deposit by estimating the number of tons in place and then multiplying the tonnage by a unit price per ton. )

12 Important Distinction The law doesnot say that you can t or shouldn t gather and develop precise information on the mineral deposits on the property, including the quantity and market value of the deposits themselves. Rather, it all depends on how you use this information. Generally, you cannot simply add the separate value of the deposits as part of just compensation. You need to take an extra step, and that extra step is to determine how this information (i.e. the quantity, quality, market price, development costs etc. of the deposits) would affect the fair market value of the entire real property that would be set by a willing buyer and seller.

13 Appraisal Practice To measure the impact of mineral deposits on fair market value of real property, there are a lot of things you need to know, because this is all information that the market would consider in setting the price of the property.

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15 Examples

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18 Back to Law All potentially relevant appraisal issues relating to property with mineral deposits. Keep in mind, however, that, as a general rule, Keep in mind, however, that, as a general rule, the ultimate duty under the law in a typical condemnation case is to value the entire property, and that is the valuation determination that you need to take the steps to make.

19 A recent unpublished case by the Minnesota Court of Appeals reflects that information relating to the value of gravel deposits is relevant and admissible if it supports an ultimate opinion on fair market value of the property, should be admissible: At issue here is the amount of damages necessary to compensate [the property owner] for the condemnation of the property, which contains subsurface gravel. [The expert] derived his opinion of value from the amount and quality of gravel located at the property, his knowledge of the local gravel industry, his experience evaluating properties containing gravel for purchase, and his assessment of the market for comparable properties. [The expert s] opinion is probative of the property's pre-condemnation market value, which is an essential factor when determining just compensation for the condemnation.... The district court erred when it excluded [the expert s] valuation testimony as not relevant. State ex rel. Com'r of Transp. v. Persson, No. A11-791, 2011 WL , at *8 (Minn. Ct. App. Nov. 28, 2011).

20 An Important Point to Note Just because a property potentially has mineral deposits, it does not mean these deposits impact total market value

21 Courts have recognized that appraisers can appropriately make an informed judgment that a property highest and best use does not involve harvesting the deposits, and accordingly, the deposits to not influence market value. United States v Acres of Land, More or Less, Situate in Polk Cty., State of Iowa, 638 F.2d 1123, 1128 (8th Cir. 1981): [The Owner] alleged that sand and gravel deposits in the parcel were not properly considered by the commission. However, [the appraiser] considered that possibility and discussed the speculative nature of those deposits. It is our view that the commission was justified in accepting his conclusion that the parcel's highest and best use was not sand and gravel development.

22 In Sum If you use this approach.... Value of the land + Separate value measure of mineral deposits = Just Compensation POTENTIALLY PROBLEMATIC AND SUBJECT TO AN EFFORT TO EXCLUDE

23 Ifyouusethisapproach... Determination that market value of the real property subject to the taking is impacted by minerals deposits Consideration and presentation of various information regarding minerals deposits (such as quality, quantity, costs of removal, etc.) as well as other factors impacting market value of the property Determination of market value in light of all of this information GOOD IF PERFORMED CORRECTLY AND ADMISSIBLE

24 A Couple of Caveats WhitneyBenefits: Income (Discounted Cash Flow) Approach to Valuation

25 Whitney Benefits, Inc. v. United States, 18 Cl. Ct. 394 (1989) involved the taking of a mineral estate of a property that planned for mining, by the operation of a federal regulation that essentially prohibited mining. Pretty unique context, in which only the mineral estate interest was taken, and it was only to be determined to be taken after the mineral estate owner brought an inverse taking claim.

26 After finding that there was in fact a taking of the mineral estate in this case, the court embraced a valuation of that mineral interest in accordance with a discounted cash flow ( DCF or income) approach: This case involves coal reserves, the value of which can be measured only by their ability to produce income. Simply stated, an operator's interest in a mineral estate is a compensable property interest.... [T]he value placed on an operator's interest is not compensation for the consequential damages of lost business profits; it is compensation for the taking of an interest in real property.

27 Whitney Benefits, (as far as we can tell), has not been cited in any published opinion outside of the federal court of claims, and how far it extends is uncertain. However, it indicates that a discounted cash flow analysis (the income approach), can potentially be used to value property with mineral deposits.

28 However, other courts have held the same See, e.g., United States v Acres of Land, More or Less, Situate in Polk Cty., State of Iowa, 674 F.2d 722, (8th Cir. 1982) One permissible method of estimating the value of land with mineral interests is the income capitalization method, in which the income stream from the sale of minerals over a number of years is capitalized in terms of present worth.

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30 However, the same courts have also cautioned against the misuse of this approach in the context of valuing land with mineral deposits: [T]he capitalization of income method may be appropriate in certain cases, but where such method is used all of the factors that must necessarily be taken into account should be established by proper evidence. Where several of the elements or factors relied on... are without objective evidential support, that method is faulty and can obviously lead to unfounded and enhanced valuations. Again, it appears clear that comparable sales are the best evidence of the value of condemned land, which sales on the whole reflect the principle of a willing seller and a willing buyer concluding armslength negotiations. The income capitalization method is justified mainly when better evidence is not available. Great care must be taken, or such valuations can reach wonderland proportions. It is necessary to take into consideration manifold and varied factors, like future supply and demand, economic conditions, estimates of mineral recoverability, the value of currency, changes in the marketplace, and technological advances. Many of these factors are impossible to predict with reasonable accuracy. United States v Acres of Land, More or Less, Situate in Polk Cty., State of Iowa, 674 F.2d 722, 726 (8th Cir. 1982).

31 In sum, the income approach, if prudent, may be used, but it is naturally subject to speculation, and, depending on the facts, a court may hold it unreliable and inadmissible if it is not justified or carefully implemented.

32 Treatment of Minerals as Personal Property Under law, once minerals, such as sand and gravel, are severed from real estate, they are considered personal property. SeeShirley v. National Applicators of California, 566 P.2d 322, 326 (Ariz. Ct. App. 1977) ( sand and gravel become personalty when severed from the freehold ) Case with MnDOT

33 Summary General rule with minerals and resources (if they are still part of the land) in the condemnation context: They are a factor to be considered in valuing the entire property. In certain circumstances, a soundly developed income- based approach can be justified. As a matter of appraisal practice, it is important to gather and consider precise information regarding minerals and resources on the property and their potential harvest This information, however, should be evaluated within the framework of the ultimate valuation question of fair market value of the property.