Is Pennsylvania Ready in 2018 to End (Most) Property Tax For Funding Public Schools?

Is Pennsylvania Ready in 2018 to End (Most) Property Tax For Funding Public Schools?

By Bradley S. Dornish, Esq.

For over four years, I have been following efforts to change the way Pennsylvania funds public education. SB 76 of 2013 has become SB 76 0f 2017. While SB 76 was referred to the finance Committee in June, it has languished there for the rest of the year to date, with the last comment on the bill on the Senate floor in September by Senator Folmer expressing frustration, but vowing never to give up trying to pass property tax reform.

However, what appears cannot be accomplished directly may well be accomplished indirectly. First, the General Assembly passed HB 147 in the 2015-16 session, and HB 1285 in the 2017-18 session. Then, PA voters in the November general election approved the Property Tax Ballot Measure to amend the Pennsylvania Constitution to permit a change in the Homestead Property Tax Assessment Exclusion Clause, raising the exclusion allowed from fifty percent of the median assessed value of a home in a local taxing jurisdiction to 100% of the assessed value.

This effectively abolished the longstanding protection for owners of investment real estate who do not live and vote in a taxing jurisdiction in which their properties are located that their properties had to be uniformly assessed with properties of owner occupant voters in the jurisdiction. If this amendment led to a 100% Homestead Exclusion in a taxing district, it would no longer matter to voters how their residences were assessed relative to other property in the taxing district, or the millage rate applied, as they would receive a 100% homestead exclusion and pay no property tax.

The General Assembly still has to craft enabling legislation to allow localities to adjust their property taxes under the newly approved constitutional amendment. The passage of the ballot measure did not automatically lead to reduced or eliminated property taxes. Local governing bodies will be looking to adjust their property taxes, and the vast majority of municipalities and school districts will not be able to rely solely on commercial properties to support their budgets, and will be looking to replace revenue lost in the Homestead Exclusion with revenue from other sources such as income tax and sales tax. At least for the funding of school districts, SB 76 offers a statewide mechanism to accomplish that shift in revenue source.

For years, Pennsylvania has funded state and local governments, and public school elementary and secondary education with a combination of three main types of taxes; Income taxes, sales and use taxes, and real property taxes. Pennsylvania currently imposes a personal income tax at the rate of 3.07 percent on the income of residents, Pa income of non-resident individuals, and income of estates, trusts, partnerships, S corporations, business trusts and limited liability companies not taxed by the federal government as corporations. Nearly one in five PA households including many retirees and low income families qualify for tax forgiveness.

Pennsylvania also has a corporate net income tax of 9.9% on the federal taxable income of corporations doing business, carrying on activities, having capital or real property in Pennsylvania.  According to a PA Department of Revenue News Release in July of 2016, for the last reported fiscal year, which ended June 30th, 2016, Pennsylvania collected into its General Fund from all sources a total of $30.9 Billion Dollars. Of that amount, $12.5 Billion Dollars, or just over 40% was from personal income tax. Another $5.1 Billion Dollars, or 16% more, was collected from corporate income tax, so almost 60% of Pennsylvania’s annual tax revenue came from income taxes.

Pennsylvania also imposes a sales, use and hotel occupancy tax. The tax rate is 6% in the rest of the state, 7% in Allegheny County and 8% in Philadelphia. Major exemptions from the current tax include food not ready to eat, candy and gum, most clothing, textbooks, computer services, pharmaceutical drugs and residential heating fuels such as electricity, oil, gas, coal and firewood. For hotel occupancy, the tax is applied to all room rentals for fewer than thirty days. The use or consumption in Pennsylvania of tangible personal property or certain services purchased out of state is subject to the use tax owed by the purchaser, in the same amount as sales tax.

The Governor’s Comprehensive Annual Financial Report for the Fiscal Year ended June 30, 2016 indicates that the state spent $14.8 billion dollars on Public Education including elementary, secondary and college expenditures, equal to just under half of all tax revenue collected by the Commonwealth. Despite that amount, state funding of local public schools in Pennsylvania is just over a third of the total cost of that education, with the majority of funding coming from local school districts themselves.

Property tax is the primary source of tax dollars for county and municipal governments, and currently the main source of funding for school districts. According to data cited in the recent decision of the PA Supreme Court in William Penn School District v. PA Department of Education, 46 MAP 2015, decided September 28, 2017, the total revenue of public school districts in Pennsylvania for the 2010-2011 fiscal year, the last year for which data has been analyzed, was just under 25.4 Billion Dollars. Just under 13.5 Billion Dollars came from local property taxes, just under 8.7 Billion Dollars came from State funding, and the rest from federal, other local and outside sources. This meant that over 53% of the cost of public K-12 education in PA was supported by local taxes, while 34% of funding came from the state, and only 8.6% of funding came from the federal government.

The William Penn decision by the PA Supreme Court in September reversed a prior Commonwealth Court decision and remanded the case for further proceedings on plaintiff districts’ claims that the current method of public school funding in PA violates the mandates of the Education Clause in the PA Constitution, and the rights of pupils and parents in disadvantaged school districts to equal protection and to attain a constitutionally adequate education. The claims are that the high percentage of the cost of PA public education borne by local property taxes creates inherently underfunded schools in those districts.

The passage of the Property Tax Ballot Measure, and the remand of the William Penn case by the Supreme Court last fall both make SB 76 more likely to be reconsidered in the legislature, in 2018 if not this year. But is SB 76 a good alternative to address the complex issue of school funding?

If SB 76 ispassed in early 2018, the bill would bar all school districts in PA from imposing most property taxes beyond the current fiscal year. Philadelphia (and probably Pittsburgh and Scranton districts) would end most property tax as of December 31, 2018, while other districts would end property taxes as of the end of their respective fiscal years on June 30, 2019.

Notice the word “most” in both sentences. All districts would still collect property tax to pay debt service and pay down principal on existing debt of the districts as of December 31, 2018.

I live in a school district which recently built a new high school, funded by an 11 million dollar bond. The district also has about 2.5 million dollars in general bond debt. That means I will still pay property taxes to the school district for quite some time, to cover debt service and repayment of principal on those bonds. I may end up continuing to pay over 20% of the school tax I pay now, if my calculations of how much of the school budget is devoted to interest on and repayment of the principal of those bonds is correct. Since the district’s rating has gone down, the interest it pays on its debt may even go up, and my calculation of how much I will still pay in school property tax may be low. Of course, the county and municipality will still be getting their respective property taxes, and the county will remain responsible for reviewing and adjusting my assessment to reflect current value of my property and any improvements, and so my assessment could go up in the future. That would increase my respective school property tax burden as well as municipal and county taxes.

Each school district will also be able to assess and collect its own taxes to supplement the additional money it would receive from the state. However, the new taxes assessed by school districts will not be property taxes. Instead, school districts will assess either personal income taxes or earned income and net profits taxes. Either tax must be approved by a referendum of voters, so that at least in theory provides some protection from a rush to tax. However, my district, like many others in PA, has a large number of property owning voters who are retirees, and who would not be as substantially affected by either a personal income tax or an earned income and net profits tax as they are by property taxes. Many other voters in the district are lower income wage earners, who would not pay a substantial portion of either new tax. And the new law would allow a complete exemption from such a tax for those individuals earning less than $12,000.00 per year. Thus, I fear my objection to such a tax, and that of other higher income voters, would be outvoted by those who would pay disproportionately less of either such tax, or no tax at all.

The most significant revenue replacements to local property taxes, however, will be expanded state taxes, collected by the Department of Revenue and distributed to the school districts. The first such tax would be an “Education Tax”. That tax would increase Pennsylvania income tax by over 40%, from the current 3.07 % to 4.34%. I’ve done a rough calculation and realize that if I were not the owner of multiple investment properties that increase in income tax alone would wipe out any savings I realized from the reduction of school property taxes on my personal residence.  Pull out your own PA 40, and add 40% to the total tax you paid last year.  Would that substantially reduce the benefit of saving on your school property tax? Based on last year’s Personal Income taxes collected, the 40% increase would add over 4.5 billion tax dollars to state coffers.

The increase in personal income tax, however, is only part of the state tax increase planned in SB 76 to offset the reduction in school property tax. The second state tax increase is an increase of state sales tax from 6% to 7%, a 16 and 2/3% increase in the sales tax. On last year’s reported sales tax revenue of 9.8 billion dollars, that percentage would increase revenue by 1.6 billion dollars.

Going back to the numbers cited above, over 13.5 billion dollars was raised by school property taxes in fiscal 2010/2011. If 6 billion dollars were to be satisfied by increases in the rates of personal income tax and sales tax, another billion dollars or so were covered by continuing school property taxes to cover debt of school districts, and yet another billion dollars were covered by the new personal income, or earned income and net profits taxes charged by school districts themselves, education funding would still be over five billion dollars a year short.  How would that revenue shortfall be made up?

SB 76 also includes a dramatic expansion of the coverage of sales tax, the expanding the goods and services to which the tax applies. Exact details are subject to more lobbying efforts, like the seemingly successful effort by the organized bar to avoid tax on most legal services. It appears that the drafters of the bill believe these extensions of the sales tax to additional types of goods and services will raise the additional five billion dollars a year needed to replace most school property tax. I don’t know how they can predict the amount of sales tax which will be collected on these items, because the tax may cause people to shift from buying, using or consuming taxable goods, to finding non-taxable substitutes. Also, sales tax by its very nature depends on spending. If the economy weakens and consumer spending drops, the amount of sales tax collected will likewise drop.

Even assuming that the new taxes collected will completely replace the property tax eliminated, there remains to be considered the mechanism for distribution of tax dollars collected by the state to individual districts. Right now, my school property tax dollars go to my local tax collector, and she passes those dollars directly to the school district within which my property is located. Under SB 76, the money collected throughout the state from income taxes and sales tax would go to the Department of Revenue, and the formula by which it will be distributed is based on last year’s operating costs for each district, exclusive of interest and principal payments each district made on its debt. Frugal, well managed districts would be penalized for their past good practices, while spendthrift districts would lock in the benefit of more money to subsidize their expenditures. Apparently, wide variations in teacher salaries and benefits would be preserved from district to district despite statewide tax dollars being the primary means used to fund education. People who chose to buy property in well run districts with low per pupil costs would save on their property tax, but see large increases in the sales and income taxes they pay being used outside the districts where they live, work and even spend money on taxable purchases.

Further, SB 76 does not have a clear mechanism for reapportionment of tax dollars to account for changes in enrollment, changes in districts’ mandatory costs like retirement and health care for employees. It appears that districts which face additional cash requirements would have to look to local earned income tax to cover their needs, while districts with declining enrollment or other events lowering costs might continue to receive funds based on their prior history.

Finally, current federal tax laws allow taxpayers to elect to deduct either state property tax or state sales tax from federal income for tax purposes. To the extent PA shifts funding of schools to sales tax, but keeps funding of municipal and county government by property tax, Pennsylvanians who itemize on their Federal tax returns will lose part of their federal deductions either way, resulting in a higher federal tax burden.

Thus, while the ballot measure and William Penn suit make serious consideration of SB 76 more likely in 2018, I believe it still requires a lot of work to make the bill a fair and reasonable way to reform PA school funding. (And we haven’t even touched on looming school employees’ pension growth).

The author, Bradley S. Dornish is a licensed attorney, title insurance agent and real estate instructor in Pennsylvania.  He can be reached at

Is Pennsylvania Ready in 2018 to End (Most) Property Tax For Funding

November 2017

Arbitration of Disputes under PA Commercial Agreements of Sale

By Bradley S. Dornish, Esq.

Unlike the mediation process under the PA Association of Realtors’ ASR residential agreement of sale discussed in my last article, the Realtors’ Association’s ASC commercial agreement of sale form has a provision for mandatory, binding arbitration of disputes arising under the agreement. Paragraph 25 of the current form, last updated in 2015, provides that either a buyer or a seller can make a written demand for arbitration, after which each party has thirty days to select a competent and disinterested arbitrator. The arbitrators selected by each side then select the third arbitrator, referred to as the neutral arbitrator.

If the arbitrators selected by the parties cannot agree on the neutral third arbitrator within thirty days,  either party can ask the Court of Common Pleas of the county where the property is located to select a third arbitrator. Each party bears the expenses, typically hourly charges, of the arbitrator of its choosing, and the parties split the cost of the neutral arbitrator. Though not required by the contract, the arbitrators chosen are, in my experience, usually experienced real estate lawyers or former judges, and their fees can be expected to run hundreds of dollars per hour. Likewise, the arbitrators chosen by the parties typically select another experienced real estate lawyer or retired judge to be the neutral arbitrator.

When you consider that each party to the arbitration will then be paying his or her own lawyer to handle the case, the fees of the selected arbitrator, and half of the fees of the neutral arbitrator, the process for arbitration under commercial agreements of sale is not cheap. However, the high cost per hour or day of the arbitration is usually balance by the greater speed of the process, as compared to trials in court, and by the privacy of the process, as opposed to the public nature of court proceedings. Both the privacy and the relative speed of arbitration are very important to many real estate transactions, where the seller’s ability to complete the sale of the property to anyone can be delayed by the dispute with the current buyer.

I have served as an arbitrator in commercial real estate arbitrations and as counsel to parties. I have also handled many real estate related trials in the Courts of Common Pleas, and on appeal.  I have found that the typical arbitration proceeding is over in about three to five months, mostly dependent on the schedules of the five lawyers serving as counsel and arbitrators.  By contrast, typical time frames for non-jury litigation of real estate disputes run for a year or two, and with appeals can be much longer than that. The longest arbitration I can recall being involved in ran for close to a year, only because of the illness of an arbitrator part way through the proceedings. There is also a virtual elimination of the appeals process for arbitration, which is under the rules for PA Uniform Arbitration Act, Common Law Arbitration provisions, found at 42 Pa. C.S.A. Section 7341, et.seq. The act makes appeals except in egregious situations of misconduct by arbitrators, almost impossible.

Another advantage to the arbitration process over court proceedings is its flexibility. The arbitrators selected are typically busy lawyers or retired judges, and they are able to look at the issues between the parties and structure, in consultation with counsel for the parties, a more efficient process for the case to proceed than the more rigid structure of court proceedings under the rules of civil procedure. Information is generally exchanged between the parties in a less formal manner; testimony of witnesses is often taken by depositions, with the transcripts of those depositions provided for the review of the arbitrators, without the need for a separate trial. Once the documents are exchanged and depositions completed, the arbitrators can schedule argument and request briefs on limited issues, and quickly thereafter render a decision on the merits.

This contrasts to the proceedings in court, where substantial time and legal fees can be spent on preliminary objections to formal pleadings and motions for judgment on the pleadings before discovery begins. Thereafter, discovery is often scheduled and rescheduled over a number of months, punctuated by motions to compel discovery and attendant delays, followed by motions for summary judgment, briefs on those motions and arguments before the court, before a pretrial and trial process, and an ultimate trial where most witnesses are presented live in court, in addition to having been deposed for discovery.

For cases involving high profile real estate developments, the interested public can follow court proceedings, and each of the motions and the trial itself are open to the public, to observe but not participate. I do believe that the presence in the courtroom of many spectators has an influence on witnesses, the conduct of lawyers, and even in some cases, the conduct of judges.  Private proceedings in arbitration are much more comfortable for the party facing public opposition, as well as for witnesses whose testimony is mostly given in depositions in front of only a court reporter, the attorneys for the parties, and some of the parties.

While the arbitration clause can certainly be modified, for example to a single arbitrator or to non-binding mediation, as in the ASR form agreement, or can be stricken entirely by those who do not want to go through either arbitration or mediation, but prefer litigation in the courts, I recommend keeping the arbitration clause in commercial agreements of sale to my clients who are buyers, sellers and real estate brokers. I have found the process to be more beneficial to all parties than protracted litigation, which usually benefits the lawyers being paid by the parties more than the parties themselves.

Sooner or later, most real estate investors who buy and sell commercial properties have a dispute over a transaction or agreement which they cannot resolve amicably. Understanding the arbitration process before you have such a dispute, and getting the language you want into every commercial agreement of sale you negotiate means that when your dispute comes up, you will be fully prepared to deal with the process.

The author, Bradley S. Dornish is a licensed attorney, title insurance agent and real estate instructor in Pennsylvania.  He can be reached at

October 2017

Alternative Resolution of Pennsylvania Real Estate Agreement of Sale Disputes: Part One- Residential Agreement Mediation

By: Bradley S. Dornish, Esq.

Sooner or later most real estate investors face a real estate agreement of sale dispute. It is less likely for consumers but always a possibility. There are required non-court processes in both the PA Association of Realtors’ residential agreement of sale form (ASR) and its commercial agreement of sale form (ASC). The procedures are different, in front of different types of authorities, but both types of mandatory alternative dispute resolution have a lot in common, too.

As I write this article, my last mediation representing an investor was just over a week ago and I am presently serving as an arbitrator in the resolution of a dispute under a commercial agreement. This article will examine mediation under the ASR and a second article will discuss arbitration under the ASC.

For residential agreements of sale used for single family homes and up to four unit residential apartment buildings, the process is mediation. Parties to an agreement of sale need to understand what mediation is and is not. Mediation is an opportunity for both parties to the agreement of sale to be heard by an impartial mediator, who hears both sides, typically together in the same room, then works with each, typically one at a time, to try to reach a compromise which both sides can accept, to avoid going to court against each other.

The parties required to participate in the mediation of their disputes over the agreement of sale are the seller and the buyer. Sometimes real estate agents and brokers, home inspectors or others involved in the real estate transaction may agree to participate in the mediation as parties with respect to claims against them but those parties are not bound to go through the mediation process.

The buyer and seller can each make the demand to submit their dispute to mediation and each pays an equal share of the mediator’s fees. If one party requests mediation the other is bound under the agreement of sale to participate. As a practical matter, however, if a party refuses to pay his or her share of the mediator’s fees, the mediation is reported as unsuccessful and the parties are able to proceed to court.

Each party is allowed to be represented by counsel but no party is required to have counsel to participate in the mediation.  Certain local associations of realtors, like the Realtors’ Association of Metropolitan Pittsburgh, have contracts in place to refer mediations which are presented to them to a particular mediator or service. Other associations send their mediation requests to the Pennsylvania Association of Realtors which identifies potential available mediators and provides a list of several to the parties.

One advantage of the mediation process is its relative speed. Once a request is made and a mediator is selected, it often takes only a few weeks to have the face to face, sit down mediation. This contrasts to time delays of many months or even a year to get to court. Despite the required payment of the mediators’ fees by the parties, mediation is often less expensive than filing a court action because even if the parties hire lawyers for the mediation it typically only consumes a couple of hours of attorney time, as opposed to time drafting complaints and answers, going to court for motions, asking and responding to discovery, preparing witnesses and attending trial. These types of activities typically consume ten hours or more, sometimes much more attorney time.

Of course, if either party is not prepared to compromise and reach a settlement through mediation, all the time and costs of mediation are spent already and the case still has to proceed to court. The type of court action which follows a failed mediation depends on the amount of money claimed as damages by the party bringing the action, typically the buyer. Sometimes the seller brings the action if the buyer fails to close, has not liquidated damages and the seller claims to have suffered a loss as a result of buyer’s failure to close.

For actions involving $12,000 or less, the parties can file in Magisterial District Court and get a quick hearing in front of a Magisterial District Judge. While many of these judges are lawyers, many are not and some do not have experience with real estate contracts.

For cases involving up to $50,000 in at least Philadelphia, Montgomery, Bucks and Lehigh Counties, up to $35,000 in Dauphin and Allegheny Counties (among others), and caps as low as $25,000 in some other counties, suits can be filed to be heard in front of three lawyers who practice in the county, who take turns serving as arbitrators and who may or may not have experience in real estate contract matters. When the dispute involves amounts above the arbitration limit for the particular county, such cases go directly to a judge of the county Court of Common Pleas where they are heard either with, or more often without a jury.

Like mediation, the hearings or trials in front of Magisterial District Judges or Arbitrators can be appealed to a trial de novo, or to a brand new trial in front of the Arbitrators from the Magisterial District Judge, or in front of a judge from arbitration. Each of those appeals requires more time and more preparation from attorneys, so the fast, easy result in a smaller case can turn into a long, expensive process in any event.

The potential costs and time consumed by litigation create an incentive for all parties to participate in mediation. Any party who does not understand the potential costs, and those who do not care about the costs and just want to exact punishment on their opponents, do not heed the economic incentive to mediate.

In my experience there are some parties who are by nature more or less likely to successfully mediate. First time homebuyers who confuse seller disclosure claims with a warranty or guarantee, are often made to understand the difference by a mediator. Lawyers and engineers as parties, who often approach mediation as only the first phase in a process, are less likely to reach a settlement by sitting with a mediator.

Consider the parties as well.  Claims against real estate sellers which also involve claims against brokers, agents, inspectors or others may not be able to be mediated effectively if those parties decline to participate.

For parties ready and willing to resolve their disputes quickly and efficiently, mediation remains an extremely effective tool and should not be overlooked.  If you have a dispute over a residential agreement of sale for which the Pennsylvania Association of Realtors ASR form was used, consider the factors above and determine whether you want to pursue mediation.  If you receive notice that mediation has been requested by the other party to such an agreement, be prepared to respond.  In either instance, you should consult with an attorney familiar with the mediation process before you go it alone.

The author, Bradley S. Dornish is a licensed attorney, title insurance agent and real estate instructor in Pennsylvania.  He can be reached at

June 2017

Recent Developments in PA Rental Registration and Inspection Cases

By: Bradley S. Dornish, Esquire

The last few months have seen several important developments in rental registration litigation in Pennsylvania. The most recent development was a series of Commonwealth Court decisions on May 17th, which will have a significant impact on the pending rental registration cases challenging Pittsburgh’s rental registration ordinance. Those cases, Building Owners and Managers Association of Pittsburgh v. City of Pittsburgh et. al., at No. 100 C.D. 2016 and No. 102 C.D. 2016, and Pennsylvania Restaurant and Lodging Association, v. City of Pittsburgh, at No. 79 C.D. 2016 and No. 101 C. D. 2016, were both appeals of decisions by Allegheny County Court of Common Pleas Judge Joseph James, in which Judge James had found city ordinances, one requiring City employers to give all employees sick time off under a specific set of rules, and the other ordinance requiring security guards and building service employees in Pittsburgh buildings to receive training on emergency response to exceed the City’s authority to regulate employers under its Home Rule Charter.

In both cases the Commonwealth Court en banc , meaning seven of the judges of that court together, rather than a panel of three, affirmed Judge James’ decision that the ordinances exceeded the City’s authority under its Home Rule Charter to regulate employers. These decisions are very positive signs for the rental registration cases against the City, which are now pending in front of the same Judge James in the Court of Common Pleas of Allegheny County.  That is because the landlords’ and real estate agents’ attorneys in the rental registration cases made the same argument that the rental registration ordinance exceeded the City’s authority under the Home Rule Charter.

Not only are those arguments made in briefs which we filed with the court many months ago, but Judge James had also stayed further proceedings in the rental registration cases while waiting for the Commonwealth Court rulings on the cases above. When he did that, he indicated that he preferred to wait to see what the Commonwealth Court decided in those cases, so he would not be reversed on three similar cases. This suggests that the Judge is inclined to rule that the Pittsburgh rental registration ordinance likewise exceeds the City’s authority under its Home Rule Charter.

On May 30th, Judge James advised that he is now ready to move forward on the rental registration case, with additional briefs and argument by the attorneys to take into account the recent decisions of the Commonwealth Court.  We expect to get dates for those briefs and argument in June, and could get the court’s decision on the Home Rule Charter issue this Summer.  Even if the decision is in our favor, and the ordinance is invalidated by Judge James, the City could still appeal, and the case could go until well into 2018.

Unfortunately, a decision invalidating the City of Pittsburgh’s rental registration ordinance on the basis of exceeding its authority under its Home Rule Charter will not invalidate all other such ordinances, even if the decision is appealed to Commonwealth Court and affirmed there. That is because most PA municipalities are not home rule municipalities, so the decision on that basis would have no bearing on their ordinances.

The other rental registration case we are following is now pending in Pennsylvania appellate courts. The case of Costa, et. al v. City of Allentown, was decided in the Commonwealth Court at No. 826 C.D. 2016, with an opinion filed January 12, 2017. That decision does affect all other rental registration ordinances in Pennsylvania, and the cases pending in the courts to challenge those ordinances, such as the cases against the Erie and Pittston ordinances.

In the Allentown case, there was a non-jury trial in the Court of Common Pleas of Lehigh County, and the primary issue in that trial was whether the $75.00 annual fee for rental registration in Allentown was an amount which covered the City’s costs of administering the registration program, and therefore a legal and proper fee, or whether that amount was substantially in excess of the costs of the registration program, and therefore an illegal tax on residential rental properties in violation of the Local Tax Enabling Act, 53 P.S. Section 6901 et. seq.

The Local Tax Enabling Act (LTEA) is the PA state law keeping control of the power to tax in the state legislature, except for certain specific types of taxes which the legislature has specifically authorized municipalities and school districts to charge.  For example, a few years ago when the City of Pittsburgh tried to fill a budget shortfall by raising its occupational privilege tax on those who work in the City from $10.00 per year to over $50.00 per year, the City had to go to the State Legislature and get the legislature to amend the LTEA to allow the City to impose that exact tax on those who worked there. The legislature amended the LTEA, and Pittsburgh has collected the extra tax ever since.

In Allentown, the City had imposed rental registration, with inspection every five years, beginning in 1999. The original license fee was $11.00 per year per residential rental unit, and climbed to $21.00 per unit by 2009. In 2010, the City more than tripled its annual license fee to $75.00 per unit per year, and landlords in the City thereafter filed suit seeking a declaration that the $75.00 annual fee was an unlawful special tax, an injunction against the collection of the fee, and a refund of the fee paid by all landlords in the City since 2010.

At trial, the landlords and the City each had accountants as expert witnesses. The landlords’ accountant, Robert Boland analyzed the amount of revenue collected by the City from the $75.00 fee, looked only at the direct costs to the City associated with the registration and licensure of rental units and inspections, and testified that the revenue generated by the $75.00 annual fee on 24,000 units, roughly $1,800,000.00 per year, grossly exceeded the costs of the program and therefore constituted an illegal tax. Boland looked at the city’s personnel costs related to the rental registration, licensing and inspections, and certain direct costs like vehicle maintenance, vehicle insurance and fuel, cell phones for inspectors, and increased computer costs of the City.

The City’s expert accountant, Trevor Knox did a different analysis of the costs of the rental registration and licensing, called a “full cost” approach. In his analysis, Knox considered the rental program as a comprehensive program regulating all activities of the City related to residential rental units. Knox more broadly allocated personnel costs to the program, including $223,000.00 per year for wages of City personnel who performed general services not specific to rental registration, and $165, 566.00 in general City overhead. He also allocated $482,285.00, a substantial amount of the City’s police budget, to the rental program based on a finding that there had been a disproportionate number of police calls to residential rental units, as opposed to commercial properties and owner occupied homes.

Even with these allocations of additional costs over $900,000.00,constituting over half of the total revenue collected by the City, and additional allocation by Knox of the cost of certain code enforcement functions like boarding up vacant properties, complaint inspections, emergency sewer issue responses and social services to tenants living in substandard conditions, Knox concluded that the total costs which he allocated to the rental program were about 15% below the revenue generated by the $75.00 fee per unit, resulting in general revenue to the City of over $250,000.00 per year.

The trial judge rejected Boland’s testimony, accepted Knox’s testimony, and concluded that for all practical purposes, the costs of the Rental Program equaled the revenues generated by the $75.00 annual fee.

On appeal to the Commonwealth Court, the landlords made the argument that only the direct costs associated with the registration of each unit, the inspection of each unit, and disruptive conduct reporting costs should have been considered by the trial court, since those were the only costs which were created by the ordinance, and which would disappear if the Rental Program created by the ordinance ended.  The Commonwealth Court rejected the landlords’ argument, and affirmed the trial court decision in favor of the City.

The Commonwealth Court explained its decision by finding that the landlords’ attempt to limit the calculation of the City’s costs to direct costs was too narrow.  Judge Brobson, writing an opinion in which Judges Wojcik and Pellegrini joined, explained the Court’s decision that the City was allowed to add some indirect costs related to the Rental Program to its calculation of cost of the program, including some pre-existing budget items which were redirected to the Rental Program.  Judge Brobson stated” In essence, the governmental unit is permitted to reallocate or redirect existing costs to a newly established program if additional burdens are placed on such governmental unit’s existing services.”

In applying the “additional burdens” standard to Allentown’s allocation of costs to the Rental Program, Judge Brobson explained that some costs like the time police took to track and report disruptive conduct of tenants, and some part of the salaries and benefits of City employees who worked in other departments but spent some of their time performing functions for the Rental Program, were reasonable to allocate as costs of the program. However, the judge also explained that certain other indirect costs included by the City’s expert would not be properly attributable to the Rental Program. Those costs included general administrative overhead supporting the City as a whole, and any code enforcement functions not related specifically to the Rental Program, such as costs to board up vacant properties, responding to emergency sewer issues, or assisting social services agencies with conditions at residential rental properties.

Judge Brobson’s opinion thus gave a good bit of guidance on how to analyze allocation of indirect costs in rental registration cases under his “additional burdens” standard. In the Allentown case, however, the Commonwealth Court did not go through each allocation of indirect costs made by the City. Instead, the court stopped its analysis once it found that the landlords had taken an all or nothing approach, arguing that only direct costs of the program could be allocated by the City. The court found that the landlords had the burden of proof of showing which indirect costs were not reasonable to allocate to the program, and by not getting into the details of those costs, did not meet their burden.

To be fair, the landlords not knowing the standard the Commonwealth Court, or even the trial court would apply at the time they engaged in discovery, it would have been extremely difficult to anticipate correctly. And since the Allentown decision has been appealed to the PA Supreme Court, and is awaiting its decision whether to allow the appeal, we can’t presume that the additional burdens standard will remain the law in Pennsylvania. Landlords would certainly prefer a direct costs analysis like that presented by the landlords in Allentown.

If the PA Supreme Court allows the appeal and reverses the Commonwealth Court, we could get a better standard against which to hold ordinances in future cases. For the time being, however, the standard explained by Judge Brobson in his Allentown decision is the current law in Pennsylvania. That means we have changed our approach to arguing the reasonableness of rental fees in other pending cases. In cases from Erie to Pittston, we are developing through additional discovery whether there are indirect costs which those cities can show they reasonably allocate as costs of their rental programs, as creating additional burdens on existing city services. We will also have our expert witnesses analyze the direct costs of such programs separately from the indirect costs, so that we can be prepared if the PA Supreme Court reverses the Commonwealth Court decision in the Allentown case on appeal while our other cases are still pending.  It is likely to be a very interesting year for rental registration cases in PA. Look for more updates to come!

The author, Bradley S. Dornish is a licensed attorney, title insurance agent and real estate instructor in Pennsylvania.  He can be reached at

June 2017

Crowdlending Mortgages for Pennsylvania Real Estate Investment

By Bradley S. Dornish, Esquire

Solicitation of mortgage backed loans for rest estate investment has long been regulated and greatly limited by both Federal and Pennsylvania Securities laws.

Federally, under the Securities Act of 1933, the offer and sale of securities is required to be registered. Under the Securities Exchange Act of 1934, once a registered offering is made, the offeror is subject to ongoing reporting obligations over the life of the investments.  Many exceptions to the requirements of these laws are limited to investors known as “accredited investors,” those with high net worth and investing experience.

Pennsylvania real estate investors seeking private money backed by mortgages to buy and/or renovate Pennsylvania investment properties with funds from Pennsylvania residents, may be able to avoid the imposition of Federal Securities Laws, but Pennsylvania has its own Securities Law, the Pennsylvania Securities Act of 1972.  Under that Act, the offering of securities in Pennsylvania is regulated, subject to very limited exemptions.  Offers to no more than 50 persons over the course of a year which result in sales to no more than 25 investors who meet the Pennsylvania standards for “accredited investors” avoid registration under the Pennsylvania Securities Act, but still must be documented as “limited offerings” with thick, detailed Private Placement Memoranda requiring detailed legal disclosures and accountant prepared financial forecasts.   These costs can be substantial.  The last private placement I was involved in ran over $10,000.00 in legal fees and more than that in accounting fees, taking a year to prepare before the first solicitation could be made.

For these reasons, we have long directed our clients away from raising capital by selling shares or interests in proposed real estate mortgages, unless they are ready to spend tens of thousands of dollars on securities compliance in an effort to raise millions of dollars of real estate financing.  Most investors with purchase and development plans which meet these threshold requirements also have the cash or equity and good credit to finance through bank loans at lower cost and with shorter turnaround times.

Since the emergence of the internet as a primary means of communication and connection between those with needs and those with skills or money, the ways of doing business have changed substantially.

First, crowdsourcing became a means by which those with problems were able to find those with skills and desire to solve those problems without hiring the problem solvers and creating an in-house research and development team.  Much innovation by small business relies, at least in part, on crowdsourcing and major companies have also turned to the crowd to augment their own research and development.

Crowdfunding has taken longer to develop in the United States due to the complex Federal and State Securities Laws described above.   The first crowdfunding activities here were on a non-equity donation basis, where someone with a business dream asked for, and sometimes received, small donations from the crowd, with no expectation of return of capital, interest or equity in the business.  Certainly, this avoided securities problems but meant that there was no investment benefit to those in the crowd who parted with their money.

The Jumpstart Our Business Startups Act, known as the JOBS Act, was enacted in April of 2012 and established a regulatory structure for startups and small businesses, including real estate investors, to raise capital through securities offering using crowdfunding on the internet.

At that time, Title II of the JOBS Act directed the Federal Securities Commission to amend its Rule 506 of Regulation D to permit general solicitation or general advertising in offerings under Rule 506 but still required that all purchasers of the securities had to be accredited investors.

Title III of the JOBS Act added a new Section 4(a)6 {15 U.S.C. 77d(a)(6)} to the Securities Act and that exemption created the greatest opportunity for crowdfunding business investment including mortgage loans on investment real estate.

The Section 4(a)6 crowdfunding exemption has specific requirements and limitations, which include:

  • The amount of capital raised must not exceed one million dollars in a twelve (12) month period.
  • Individual investments in all crowdfunding issuers in a twelve (12) month period are limited to:
  1. the greater of $2,000 or five (5%) percent of annual income or net worth, if the annual income or net worth of the investor is less than $100,000; and,
  2. ten (10%) percent of annual incomed or net worth (not to exceed an amount sold of $100,000), if annual income or net worth of the investor is $100,000 or more.
  • Transactions must be conducted through an intermediary that either is registered as a broker dealer or is registered as a new type of entity called a “funding portal.”

Section 4A of the Securities Act was also part of Title III of the JOBS Act.  That section, 77 U.S.C 77a, requires the issuers of crowdfunding securities and the intermediary broker-dealers or the funding portals who connect those securities to the investors, must provide certain specific information about the investment, the issuer and the intermediary, to the investors, take offer actions and provide notices and information regarding the transactions to the Securities Commission.


Section 4A of the Securities Act was also part of Title III of the JOBS Act.  That section, 77 U.S.C 77a, requires that the issuers of crowdfunding securities and the intermediary broker-dealers or the funding portals who connect those securities to the investors, must provide to the investors certain specific information about the investment, the issuer and the intermediary and must take offer actions and provide notices and information regarding the transactions to the Securities Commission.

After the JOBS Act was enacted in 2012, the Securities and Exchange Commission (SEC) began to develop regulations to implement the new law.   Some provisions on crowdfunding were ambiguous in the law as written and required clarification through regulation before they could be implemented.

In October of 2013, the SEC published proposed new rules for crowdfunding, which generated almost 500 detailed comments from industry groups, state securities regulators, investor organizations, Members of Congress and others.  After consideration of all of those comments, final rules for “Regulation Crowdfunding” were published by the SEC in 2015, and became effective May 16, 2016.   With these rules in place, borrower/issuers, Crowdfunding Portals and lender/investors can now feel comfortable moving forward with compliant crowdlending transactions.

The first clarification offered in Rule 100(a)(1) of Regulation Crowdfunding is a clear limit of one million dollars in the aggregate amount a borrower/issuer can borrow from all crowdlending investor/lenders in a twelve (12) month period.  This limit is on the total amount loaned and does not allow for deduction of the amount of fees and costs the borrower/issuer pays to the funding portal to process and place the loan transaction.  The rule also makes clear that there is a control group test for the aggregation.  This means that you, as a borrower/issuer, cannot increase the amount of money you can borrow by forming one or more additional entities.

Under Regulation Crowdfunding Rule 100(c), an investor/lender is limited to investing the greater of $2,000 or five (5%) percent of the lesser of the investor’s annual income or net worth if either net worth or annual income is less than $100,000. An investor whose net worth and annual income both exceed $100,000 is limited to investing ten (10%) percent of the lesser of annual income or net worth, in any event not to exceed $100,000 across all crowdfunding investments, even if the crowdfunding investor/lender is an “accredited investor”.

The SEC provided the following chart to help explain the rules.


Annual                        Investor                                                                                               Investment

Income Net Worth Calculation Limit

$     30,000      $   105,000      Greater of $2,000 or 5% of $30,000 ($1,500)                        $    2,000

$   150,000      $     80,000      Greater of $2,000 or 5% of $80,000 ($4,000)                        $    4,000

$   150,000      $   100,000      10% of $100,000                                                        $  10,000

$   200,000      $   900,000      10% of $200,000                                                        $  20,000

$1,200 000      $2,000,000      10% of $1,200,000 (Capped at $100,000)                 $100,000

Next under Rules 100(a)(3) and 300(c), borrower/issuer is limited to using a single portal and its associated platform for each proposed loan.  This is to help assure transparency for the transaction, making it easier to confirm the maximum aggregate borrowing of the borrower/issuer and the maximum permitted investment of each lender/investor.

Regulation Crowdfunding Rule 100(b) excludes from using crowdfunding foreign issuers and investment companies, as well as Exchange Act reporting companies (companies issuing securities listed on securities exchanges like the New York Stock Exchange).  The Rule also prevents those borrower/issuers who are delinquent in providing their annual Regulation Crowdfunding reports to the SEC under Rules 202 and 203(b), from issuing additional offering of securities under this Section.  So, a borrower who wants to continue borrowing up to a million dollars each year under Regulation Crowdfunding has to keep up on all annual required reports or will be shut off from further use of the borrowing process.

The information required to be disclosed when money is sought through Crowdfunding is clear:  Rule 201(a) and (c) requires a borrower/issuer to disclose information about each person having a twenty (20%) percent or greater interest in the borrower/issuer and information about the business experience over the past three (3) years of its officers, directors or others with similar roles.

Rule 201(d) requires disclosure of the business and business plan of the borrower/issuer, but is flexible to allow the scope of those disclosures to match the amount of money sought.

Rule 201(i) requires a description of the use of proceeds sufficient to permit prospective lender/investors to evaluate the investment.  The level of detail is determined based upon particular facts and circumstances, and the rules contemplate that even a range of possible uses of proceeds without a single definitive plan can be the basis for a request for funding under this Regulation.

There are additional disclosure requirements on the identity and compensation of the intermediary or crowdfunding portal, risk factors of the investment, other debt of the borrower/issuer, as well as its other exempt offerings and related party transactions.  Rule 201(y) added a catchall provision for the borrower/issuer to disclose any material information to not make the rest of the information disclosed not misleading in light of the circumstances under which they were made.

Disclosures of the financials of the borrower/issuer are also scaled to the amount of the loan being requested.  For amounts up to $100,000, disclosure of total income, taxable income and total tax on tax returns and financial statements certified by the principal executive officer covering the past two fiscal years are sufficient for offerings more than $100,000 up to $500,000.  Rule 201(t)(2) adds a requirement for accountant reviewed financial statements and for offerings more than $500,000, a one-time use of reviewed financial statements, followed by a general requirement for audited financial statements.

All statements issued are to be prepared in accordance with Generally Accepted Accounting Principles (GAAP).

The author, Bradley S. Dornish is a licensed attorney, title insurance agent and real estate instructor in Pennsylvania.  He can be reached at

February 2017