Property Tax Resources

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Single-Family Rental Communities Suffer Excessive Taxation

To tax assessors, an investor's single-family, build-to-rent neighborhood is a cluster of separately valued properties.

Multifamily investors are accustomed to paying property taxes based on an assessor's opinion of their asset's income-based market value. But for the growing number of developers and investors assembling communities of single-family homes and townhomes for rent, tax assessment is more complex and potentially troublesome.

The difficulty for these taxpayers is that most assessors shun the income approach to valuing single-family rental properties. In the following paragraphs, we examine the roots of this common assessor stance, and explore strategies that may help taxpayers argue for a more predictable, apartment-like treatment for their single-family rental communities.

Similar, but different

Multifamily construction has delivered a tremendous volume of apartment properties over the past decade. Once stabilized, these assets have been relatively simple to value by relying on market rents, occupancy, expenses, and cap rates.

On the heels of this apartment construction, the nation is seeing a proliferation of investor-backed, single-family construction and acquisitions of large blocks of homes and townhouses for use as rental properties. This may take the form of constructing a multitude of homes or townhomes in a single development. Alternatively, it may involve the acquisition of many existing homes or townhomes in a localized area.

A concentration of adjacent or proximate single-family residences operated as rentals can enable owners to achieve economies of scale for management, maintenance, groundskeeping, repair and similar costs, similar to the operation of a large apartment complex or group of complexes. In most jurisdictions, however, the similarity between apartments and communities of rental homes and townhomes doesn't extend to valuation for property taxation.

As a rule, houses and townhomes are individually platted and therefore have separate tax parcel numbers. For existing properties acquired from third parties, this is expected. When it occurs with new construction, however, it typically results from the developer's decision to create true townhouses and single-family houses, as opposed to a traditional rental complex. The reasoning for this decision may be complex, but at the gate it appears to be a protective measure to allow for subsequent sales of the units.

For taxing purposes, each separate parcel – house or unit – is valued separately and independently, just as if individually owned and occupied for personal use by a homeowner. The taxing authorities value these properties using a market-comparable-sale approach, just as if the units were individually owned for personal use.

This is causing a good deal of consternation among investors who seek to have the units valued utilizing the income approach, and for those who would like to value assembled units collectively. The owner of a row of inline townhomes, for example, may prefer to have the properties valued as one economic unit, in the nature of an apartment complex.

Case law insights

The North Carolina Property Tax Commission in two recent cases affirmed that assessors must use the comparable sales approach to individually assess independent, platted rental homes. In those cases, (Mingo Creek Investments III LLC and American Homes 4 Rent Properties One LLC), commissioners set forth numerous reasons for their decisions.

Those cited factors included a legal requirement that each separately platted parcel be separately taxed. Additionally, the common owner was able to sell off a single unit at any time, and lacked an apartment owner's common control over amenities and other units. Not all units in a particular development are necessarily owned by the same entity, and in the cited cases there was a history of buying or selling of the individual units or neighboring units.

Assessors often make the policy argument that where single-family rental units exist in common with units that are individually owned for personal use, applying a different valuation method to those held for rent would create inequitable results. It would also raise uniformity concerns, because similar properties would be taxed differently. The same inequity issue that applies to a rental residential unit also applies to homes used as vacation rentals. To value rental single-family residences using an income approach and the neighboring, owner-occupied, single-family residence by the comparable sale approach would create inequities and a lack of uniformity.

Taxpayer tactics

So, where is the investor to go from here?

The elements addressed in each of the two Property Tax Commission decisions issued thus far, together with the policy considerations, limit the taxpayer's options. An investor or developer could common-plat the residential rental units in the development stage, creating a single plat that could be more readily valued with an income approach.

If the owner or developer is unwilling to common-plat the assemblage of rental homes or townhomes but seeks to have them valued for tax purposes under the income approach, it appears they would at least have to consider imposing common control restrictions on the parcels to create, as nearly as possible, the functional equivalent of an apartment complex.

For example, a development or ownership regime could impose not only common ownership but also common control over all the units, including a prohibition on the sale of individual units, or perhaps restrictions that the sale of a specific unit would not release that unit from the common control mechanism. Such a mechanism would be akin to a 100 percent developer-controlled homeowners association.

From a practical perspective, the developer could prohibit investors from selling individual properties until the developer chooses to start divesting itself of the project piecemeal. At that time, the developer could amend the restrictions, since it would still have total control because no units had been sold, and therefore no third parties had vested rights. At that time, it is likely the taxing authority would change the valuation method to a comparable sales approach.

Further, the developer would most likely need to ensure that the units under such common ownership and control would be physically distinct from neighboring properties. For example, all the units could be in a designated subdivision or portion of a development, as opposed to being alongside units held for personal use by their owners. By so doing, the developer could hopefully remove the uniformity argument.

From a market perspective, the units held for rent under common ownership and control would never be for sale on the open market as single units, at least so long as the restrictions remained in place.

As to appraisal, the appraiser could either apply the income approach to each unit, or appraise the combined residences as one economic unit and then apportion value among the units, so that each tax parcel receives a separate value. This is not to say this approach would be accepted by a tax court, but it would address many of the concerns espoused to date against use of the income approach for separately platted residential units held for rent.

These valuation regimes described above may prove too restrictive for some investors, in which case they would appear stuck with the current process. In all events, before becoming wedded to any plan, taxpayers should at least run the numbers both ways – using income and comparable sale approaches – to be certain the value difference is worth the effort of contesting their assessment. 

Gib Laite is a partner in the law firm Williams Mullen, the North Carolina member of American Property Tax Counsel (APTC), the national affiliation of property tax attorneys.
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