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Sep
18

Reduce Property Taxes Through Acquisition and Capital Project Planning

By.Michelle DeLappe, Esq. and Norman J. Bruns, Esq.

Savvy commercial real estate professionals keep property-tax planning on their checklists for acquisitions and capital projects.

Why? Because they know that considering property taxes early can save money and reduce hassle later, whether the project is acquiring a business that owns real estate, developing real estate, remodeling a property or adding to existing improvements. And given that businesses overall spend more on property tax than any other state and local tax, considering property tax while planning these projects is a valuable opportunity to improve the bottom line.

The first step is to identify how the acquisition or other proposed actions might affect the property's taxable value. This depends on the local jurisdiction's assessing practices and on how an assessor will relate the sale price or project cost to taxable market value.

States treat sales information in varying ways. Ohio, for example, presumes a property's sale price to be its market value for calculating property taxes. Other states include the sale price in the overall algorithm for all properties but do not use it to determine the value of the specific property that sold. Still others ignore the price altogether.

There are several ways that price may differ from value. For one, the transaction may include non-taxable elements, such as a business, in addition to real property. Or the sale price of an office building may reflect added value for a lease at an above-market rental rate.

In a common scenario, the price paid for a portfolio of senior-living facilities will include the value of each facility's real property, the value of each facility's tangible personal property, and the value of each facility's resident lists, service arrangements, goodwill and other intangible (and therefore untaxable) personal property. The allocation of the purchase price among the various components may not reflect the market value of each component, even when the overall transaction price reflects market value. And sometimes a buyer pays more for a property than it is worth generally on the market. This is often due to the buyer's own investment strategies and thus requires an assessor to distinguish between investment value and market value.

A buyer should ideally evaluate how the price relates to the property's market value in the lead-up to the transaction. This is key to projecting property taxes going forward, in light of the transaction and the way the particular jurisdiction reacts to (or ignores) different types of transactions. It is also important to ensuring that the assessor receives accurate information in states where assessors learn of and react to sales prices.

This early planning can influence the portion of the price allocated to taxable value and help limit it to market value. Part of this is specifically identifying nontaxable, intangible components in the transaction documents in a way that conforms to the jurisdiction's property tax laws.

Another key step is to make sure any documents filed for real estate transfer taxes reflect the value of the taxable component instead of an overall value, thereby managing both the real estate transfer tax and future property taxes. Opportunities may exist to avoid or minimize the transfer tax, depending on the specific laws in each jurisdiction.

Many a buyer has reported the full sale price (or allowed the seller to do so, in jurisdictions where the seller reports the transaction), realizing too late that the reported sum included components that should have been reported differently. The buyer should also consider property taxes when reviewing any press release about the transaction. The new owner may find itself bound to what was reported, whether to government or the media, in later property tax appeals.

Also, preserving certain transaction details, such as the valuation analysis and rationale, may help later as support material or to dispute errors in discussions with the assessor.

Lastly, if information about the transaction goes public in a way that may lead to a misunderstanding by the assessor, reacting promptly can be crucial. This often involves discussing the information with the assessor to provide additional context, such as explaining when a buyer paid a premium above the property's market value.

Similar considerations apply to other types of project strategies, such as plans to develop real estate, renovate or remodel a property, or add to existing improvements. In each instance, early consideration of property taxes often proves useful. Doing so not only aids in projecting future property taxes, but can also guide the owner in reducing those taxes through choices made while carrying out the project.

Norman J. Bruns and Michelle DeLappe are attorneys in the Seattle office of Garvey Schubert Barer, where they specialize in state and local tax. Norman Bruns is the Idaho and Washington representative of American Property Tax Counsel, the national affiliation of property tax attorneys. Norman Bruns can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it.. Michelle DeLappe can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it..

Jan
05

Struggling with Vacancy? You May Get a Break on Property Taxes

To determine whether your property may qualify for relief, identify the market occupancy rate for that property type and submarket.

In many states, abnormally high vacancy at commercial properties should mean a lower tax bill. Market transaction evidence essentially dictates this result: States that assess taxable value on commercial properties based on market value, as though leased at market rents, should allow a deduction from that value when the property incurs above-market vacancy and collection losses.

Would buyers pay as much for a vacant income-producing property as they would for an identical property that is fully leased at market rates? Of course not. For the same reason, in states that value the property as though leased at market rents, below-market occupancy should result in a lower property tax assessment.

To determine whether your property may qualify for relief, identify the market occupancy rate for that property type and submarket. Loan underwriting is a good source of this information because lenders underwrite property loans based on the normal, stabilized occupancy rate.

For example, in many areas lenders assume 95 percent stabilized occupancy for shopping centers. In those areas, a shopping center that is only 80 percent occupied has below-market occupancy and, therefore, is worth less than otherwise similar properties with the higher market occupancy rates.

Similarly, the prospect of the imminent departure of a major tenant reduces the price a buyer would pay, even if the property currently enjoys market occupancy. And a vacant anchor space diminishes value even when the owner continues to receive rent on the dark space. All these circumstances signal an opportunity for property tax relief.

Start the process

If any of these circumstances apply, the best first step is usually to contact the tax assessor's office and inform the appraiser responsible for valuing the subject property. Providing data about the vacancy problem may be all it takes to reduce taxable value in the next assessment.

If this fails to achieve a reduced value, consider a property tax appeal. Engaging counsel experienced with property tax matters will help the owner evaluate the merits of appeal opportunities. Counsel may also be able to give the conversation with the assessor's office a fresh try.

An appraisal may be necessary to support a property tax appeal. The property owner's counsel should help select a good appraiser who can testify, if necessary. Counsel will also instruct the appraiser on what will be needed for property tax purposes.

Deduct a vacancy shortfall

In states where below-market occupancy affects property tax valuation, the appraiser should engage in a two-step analysis. First, determine the property's stabilized value. Then estimate the amount of vacancy shortfall to deduct from the stabilized value to account for the costs, risk, effort and skill that a buyer of the property would require to bring it to stabilized occupancy.

The three components of a vacancy shortfall deduction are direct costs, indirect or opportunity costs and entrepreneurial incentive. Direct costs include tenant improvements and leasing commissions that would be required to lease up the vacant space. Indirect costs include lost rent until the space is leased, lost expense recoveries and any free rent or other concessions the new tenants would require, based on market lease terms.

Finally, the entrepreneurial incentive profit margin represents the additional deduction from the stabilized value that value-add investors require for the extra risk, skill and effort required to bring the property to stabilized occupancy. The entrepreneurial incentive profit margin can range from as little as 20 percent to over 100 percent of the vacancy shortfall costs.

Another approach to account for entrepreneurial incentive is to increase the capitalization rate used in the income approach to calculating stabilized value during the first step. That does not show the effect of the abnormal vacancy as clearly. Ideally, step one includes several valuation approaches rather than relying on the income approach alone and concludes a reconciled value as if stabilized. Then the full effect of the abnormal vacancy can be isolated in the second step of the appraisal (i.e., in the vacancy shortfall analysis).

To value property with below-market occupancy, the appraiser must understand how buyers and sellers treat such properties in actual transactions. The appraiser will need to verify comparable sales prices directly with buyers and sellers or their brokers to determine how they determined the selling price for properties that sold subject to below-market occupancy. Though each party to the transaction may differ in its analysis, both will likely have performed this two-part examination to determine the as-is selling price of the struggling property. This market evidence will bolster the subject property's tax appraisal.

Just as a buyer typically would negotiate a lower price for deferred maintenance such as a leaky roof, buyers pay less for properties struggling with vacancy issues. Typically value-add investors expect a significantly higher return to compensate them for the elevated risks of trying to create additional value. Many states appropriately recognize this in lower property tax assessments.

Michelle DeLappe and Norman J. Bruns are attorneys in the Seattle office of Garvey Schubert Barer, where they specialize in state and local taxes. Bruns is the Idaho and Washington representative of American Property Tax Counsel, the national affiliation of property tax attorneys. He can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it.  DeLappe can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it..​
Sep
26

Washington's Carbon Experiment

California has a carbon cap-and-trade program.  British Columbia, Canada, has a carbon tax.  Washington is ready to join those West Coast efforts to reduce carbon emissions, but no one knows what mechanism the state will choose.  Washington is now considering a clean air rule that would cap greenhouse gas (GHG) emissions.  In November, Washington voters may establish a carbon tax.  However, the Association of Washington Business (AWB) argues that Washington businesses already lead the nation in protecting the environment and that a carbon cap or tax would negatively affect the state’s small businesses and consumers.

Possibility #1: A Regulatory Cap on GHG Emissions

In 2009 former Gov. Christine Gregoire tried to persuade the Legislature to pass a cap-and-trade program.[1]  In 2015 Gov. Jay Inslee (D) tried again, to no avail.[2] Inslee’s plan labeled the state’s oil refineries and other major industrial plants “major polluters” and would have required them to buy emission allowances in an auction for the region, in conjunction with British Columbia, Oregon, and California.[3] He expected the auction to raise nearly $1 billion in revenue annually.

Because those efforts failed, Inslee has moved at a breakneck pace on an alternative plan to cap and reduce GHG emissions.  In mid-2015 Inslee tasked the state’s Department of Ecology (DOE) with proposing a clean air rule by January 2016 and adopting a final one by summer 2016 after input from stakeholders.  After meeting its deadline for issuing a proposed rule, stakeholders representing both industry and environmental concerns made it clear that the rule needed significant work.  The DOE withdrew the rule in February and issued a revised proposal May 31.  The public comment period on the new draft rule closed July 22.

The clean air rule, unlike the cap-and-trade proposal, would not have any centralized marketplace for trading emission allowances and therefore would not raise revenue for the state.[4] The updated rule “would require businesses and organizations that are responsible for large amounts of greenhouse gases like natural gas distributors, petroleum product producers and importers, power plants, metal manufacturers, waste facilities, and others to show once every three years that they’re reducing their emissions an average of 1.7 percent annually.”[5] Sarah Rees, special assistant on climate policy for the DOE, described the rule’s strategic priority as slowing climate change by capping and reducing statewide GHG emissions under the state’s existing Clean Air Act.  The goal is to have reduced emissions to 1990 levels by 2010, to 25 percent below 1990 levels by 2035, and to 50 percent below 1990 levels by 2050.  Businesses that do not sufficiently reduce emissions could comply by buying emission reduction units that businesses with extra reductions could sell.[6] The rule would use a special formula to try to address the needs of energy-intensive, trade-exposed industries in order to both target emission reductions based on comparisons with national emissions for the particular industry and encourage the business to remain, and even expand, in Washington.[7]

Scott DuBoff, who practices law in environmental and energy matters at Garvey Schubert Barer, questioned how effective the rule would be: “Despite the commendable objectives of the Washington Department of Ecology’s proposed Clean Air Rule, the state’s proposal is in tension with, among other things, the fundamental reality that the problem to which it is addressed – global climate change – requires broad national and multinational solutions.” Last week, DOE adopted the rule and declared that it will take effect October 17.

Possibility #2: A Carbon Tax

A similar goal drives Initiative 732, a citizen initiative backed by Carbon Washington, which describes itself as “a non-partisan grassroots group of individuals who are keen on bringing a BC-style carbon tax to Washington State.”[8] I-732 would establish a carbon tax starting in 2017 at $15 per ton, with gradual increases to $100 per ton by 2059 (plus adjustments for inflation).  I-732 would also reduce the state sales tax from 6.5 percent to 5.5 percent and reduce the business and occupation (B&O) tax on manufacturing from 0.44 percent of gross receipts to 0.001 percent.  To help further offset the regressive effect of the carbon tax on low-income households,[9] I-732 would fund a working family tax rebate, which would provide a 25 percent match to the federal earned income tax credit.

The goal is a revenue-neutral measure.  Greg Rock, an executive committee member at Carbon Washington, explained that its predictable pricing schedule over the next 40 years and offsets on other taxes reflect a “centrist policy” with the hope of attracting bipartisan support.  By increasing the price of carbon emissions, Carbon Washington hopes to change behaviors at all levels of the economy – industries, investors, and consumers.

Whether I-732 would achieve revenue neutrality has sparked much debate.  The Department of Revenue concluded in April that the measure would result in $800 million of lost revenue during its first five years in effect (revised from the $900 million loss the DOR projected in January).[10] The Sightline Institute, an environmental think tank, analyzed the DOR fiscal note and concluded, ‘‘I-732 is revenue neutral, to the best of anyone’s ability to forecast it.”[11] Sightline pointed to numerous difficulties in predicting the revenue effects of the various aspects of I-732 as well as several errors in the DOR’s analysis.[12] Rock enthusiastically reported that Carbon Washington has experienced a “whirlwind of activity” since Sightline issued its analysis.  He said he anticipates that the DOR fiscal note would be I-732’s major hurdle at the polls.  Most environmental groups oppose the measure largely because of its projected revenue loss.  For example, the Sierra Club said it worries that losing revenue would put “already underfunded budgets for education, social services, and the environment at greater risk” and sees even Sightline’s analysis as indicating a significant revenue loss.[13]

But another aspect of I-732 worries Drew Shirk, the DOR’s senior assistant director of tax policy: how to implement the working family tax rebate.  Washington does not have an individual income tax.  Implementing the working family tax rebate would mean creating a computer database that the DOR does not have.  The DOR fiscal note assumes that the state would need 60 or more full-time employees to administer I-732, a number Rock sees as exaggerated.  Sight-line did not examine that aspect of the DOR projection; the cost is small ($20 million) compared with other costs projected in the fiscal note.

Even if the measure achieves system wide revenue neutrality, it would not be revenue neutral regarding many individual taxpayers.  “Boeing will probably come out ahead,” Rock said, whereas Ash Grove Cement Co., which burns coal to produce cement in downtown Seattle, has told Carbon Washington that it would come out behind.  Rock admitted that Carbon Washington struggled to determine how to offset the carbon tax most effectively for manufacturers because it developed I-732 without access to companies’ financial information.  Also, some businesses previously eliminated their manufacturing B&O tax through legislative incentives for specific industries, such as food processing.[14] For those taxpayers, I-732 mostly represents an added cost.  Still, Rock said that for the manufacturing sector as a whole, the tax reductions would fully offset the cost of the carbon tax.

Some manufacturers that perform in-state extracting activities, such as logging, may experience little or no relief from I-732’s virtual elimination of the B&O tax on manufacturing.  That is because of the multiple activities tax credit, which is designed to minimize repetitive B&O tax on the same taxpayer for the same finished product.[15] Currently, a manufacturer can take a credit against the B&O tax on manufacturing for any B&O tax paid on extracting the products in the state.  If the manufacturing B&O tax is practically eliminated, the business would still have to pay full B&O tax on its extracting activities, resulting in little to no change to offset that manufacturer’s carbon tax burden.

Overall, Carbon Washington said it thinks that the off-setting reductions would encourage industries to remain in the state.  And given Washington’s abundance of hydroelectricity, which would remain untouched by any carbon pricing policy, Rock said that “businesses may flock to Washington because of its low-carbon energy” as carbon pricing efforts spread to other states.  AWB’s campaign against I-732 says the opposite, based on California’s modest rate of growth in manufacturing since it established its carbon pricing policy through the cap-and-trade program: “If the carbon tax passes, companies looking to expand or move into a new market will simply decide to go elsewhere.”[16]

Possibility #3: Both the Cap and the Tax

Though both Inslee and Carbon Washington want to reduce emissions, they strongly disagree about what mechanism would more effectively achieve that goal.  Inslee said that a cap is the most powerful mechanism for reducing emissions.  “If you go just the taxation route, the numbers you have to get to really change behavior and investment are not politically tenable,” Inslee said.[17] But Rock argued that an early indication of the effects of a carbon tax show otherwise, because British Columbia’s petroleum consumption per capita dropped 16 percent since the tax while the rest of Canada’s petroleum consumption per capita increased 3 percent.

Neither the cap nor the tax would fund mitigation, adaptation, or preventive efforts regarding reducing pollution.  I-732’s carbon tax revenue would go to the state’s general fund.  According to Rock, that is based on the belief of most economists that carbon pricing is more effective than incentives for reducing emissions.  Citing a lesson learned during his studies in sustainable energy engineering, he said, “It is always more effective to tax what you don’t want than to subsidize what you do want.”  Carbon Washington does not oppose subsidies and targeted investments, but it sees carbon pricing as the more important step.

Inslee’s emphasis on a cap suggests that, should he win a second term in November, he would implement the cap regardless of I-732’s fate.  But Rees, in discussing the clean air rule in May, said that would not be the case.  She said that businesses would not have to contend with both the clean air rule and the carbon tax if I-732 passes.  On the other hand, Rock said he sees no reason why a cap and a tax could not coexist.  He explained that the tax is simply a mechanism to put a price on carbon emissions, similar to a trading mechanism through a marketplace like California’s, and that a cap and a tax, even if operating separately, could be effective.  Some have even contemplated the possibility of a cap-and-trade system combined with a carbon tax or with other tax elements, such as tax credits.[18] Still others have argued that a cap-and-trade program is the equivalent of a tax.[19] At this point, all options seem possible in Washington.

Possibility #4: Other Options

Through all this, AWB, while supporting the overarching goal of reducing carbon emissions, has argued that Washington businesses have already worked hard to make Washington one of the greenest states in the country.  AWB is sponsoring a “No on 732”campaign based on the premise that “we should lead the world by continuing to reduce emissions through collaboration and innovation.”[20] AWB has highlighted business efforts on that front for years, such as in its annual Green Manufacturing Award, which recognizes businesses that have “maximized energy efficiency levels, gone above and beyond regulatory requirements, minimized waste from the production process and reduced its carbon footprint.”[21] Similarly, the Washington Business for Climate Action, a group of businesses, many of which are well-known leaders in the state, joined together in recent years around a declaration that supports businesses’ voluntary efforts, such as investments in renewable energy, clean technologies, and energy efficiency.[22] That group has apparently taken no official position with regard to either the clean air rule or I-732.

A major concern with any environmental regulation is that the added costs could burden local businesses to the point that they cannot compete against businesses in locations where environmental laws are more lax, or that local businesses themselves move to those locations.  Having a clean domestic plant that provides the local community with jobs and tax revenue is far preferable overall to importing products from a dirty or dangerous plant.  Any measure to reduce emissions must ensure that it will not impair the competitiveness of the states’ businesses.  Both the proposed clean air rule and I-732 say they would avoid harm to Washington businesses.  Regardless, though, some businesses would inevitably suffer under either regime.

Property taxes could also change as an unintended consequence of either regime.  Companies that face increased burdens under the clean air rule or I-732 may, as a result, experience a change in the market value of their property.  According to Chris Davis, Inslee’s adviser on carbon markets, discussions of climate policy disregard that as a factor.  But for companies whose products are inextricably tied to emitting carbon dioxide, the ultimate goal of those policies is an effect similar to that of Prohibition on a brewery or a distillery.  Property specific to brewing beer or distilling alcohol would have naturally suffered extraordinary obsolescence when those products became illegal.  That type of external force can produce a drastic decline in a property’s market value and its assessed value for property taxes.  Though often overlooked, that is one of the likely impacts under either the cap or tax scenario.  Their effect on both carbon-intensive businesses and the communities that depend on the businesses’ value for property tax revenue should be considered.

Conclusion

The carbon controversy in Washington is part of a much older debate: Should we use taxes to influence behavior or should we strive for tax neutrality in which only direct regulation and government subsidies regulate behaviors?[23] Tax systems routinely feature attempts to regulate behaviors: Sin taxes seek to reduce tobacco and alcohol use and Pigouvian taxes seek to charge those who engage in undesirable activities for the social costs they cause.  Some argue that tax laws should serve as a mechanism for addressing “the externalities of the harmful effects of carbon, which the market does not take into account”;[24] others contend that taxes should serve strictly “for raising revenue, not engineering whatever it is we’re trying to engineer this week.”[25] The bottom line, however, is that taxes and regulations can be effective in changing behaviors but can also impose costs on businesses and consumers.

Whether consciously or not, Washington voters will weigh in on this perennial debate in November.  The state may tax carbon emissions or cap emissions by means of a new clean air rule – with the possibility of both at some point.  Neither of those two mechanisms is intended to raise revenue for the state.  But either way, some will face significant costs with the changes.


[1] Warren Cornwall, “Lawmakers Thwart Gregoire’s Cap-and-Trade Plan on Climate,” The Seattle Times, Mar. 16, 2009.

[2] HB 1315/SB 5283 (Carbon Pollution Accountability Act).

[3] 3Office of the Governor, “2015 Carbon Pollution Reduction Legislative Proposals,” available at http://bit.ly/2bTrwt6.

[4] Office of the Governor, “Inslee Directing Ecology to Develop Regulatory Cap on Carbon Emissions”(July 28, 2015), available at http://bit.ly/2cpjzyn.

[5] Department of Ecology news release (June 1, 2016), available at http://bit.ly/2cpjKJT.

[6] Department of Ecology, “Frequently Asked Questions About the Washington Clean Air Rule,” available at http://bit.ly/1RzQSxS.

[7] Department of Ecology, “Energy-Intensive, Trade-Exposed Industries and the Clean Air Rule,” available at http://bit.ly/2c5ksM7.

[8] Carbon Washington website, “Our Team,” http://yeson732.org/ our-team/.

[9] Natalie Chalifour, ‘‘A Feminist Perspective on Carbon Taxes,”22 Can. J. Women & L. 169, 194 (2010) (“While a carbon tax policy can be designed to mitigate regressivity, the whole raison d’être of carbon taxes is to raise the costs of goods and services based on their carbon content. The price increases that inevitably result from the tax will be harder on people with lower incomes than on those with higher incomes”).

[10] Paul Jones, “Carbon Tax Initiative Revenue Neutral, Think Tank Says,” State Tax Notes, Aug. 15, 2016, p. 528.

[11] Sightline Institute, “Does I-732 Really Have a ‘Budget Hole’?”(Aug. 2, 2016), available at http://bit.ly/2aJTNFt.

[12] Id.

[13] Sierra Club Seattle, Aug. 23, 2016, available at http://bit.ly/2ckkXoi.

[14] Laws of 2015, ch. 6, 3d Spec. Sess. (among other things, extending a B&O tax exemption for food processors).

[15] RCW 82.04.440.

[16] AWB, “Campaign Launches to Defeat Proposed Carbon Tax”(July 21, 2016), available at http://www.noon732.com/news/.

[17] David Roberts, “The Greenest Governor in the Country Tells Grist About His Big Climate Plan,” Grist (Jan. 13, 2015), available at http://bit.ly/1syriig.

[18] See, e.g., David Gamage and Darien Shanske, “Using Taxes to Improve Cap and Trade, Part II: Efficient Pricing,” State Tax Notes, Sept. 5, 2016, p. 807; Chalifour, supra 9, at 179; and David Suzuki Foundation, “Carbon Tax or Cap-and-Trade?” available at http:// bit.ly/1Ny3cOu.

[19] See, e.g., Jennifer Carr, “California Businesses Call Cap-and-Trade Auction an Illegal Tax,” State Tax Notes, Apr. 22, 2013, p. 246.

[20] No on 732 website, “Why No on 732,”available at http:// www.noon732.com/what-we-do.

[21] AWB website, ‘‘Awards,” available at https://www.awb.org/ awards/.

[22] Washington Business for Climate Action website, available at http://bit.ly/2cdLy5f; and Ceres, “Washington Business Climate Declaration FAQs,” available at http://bit.ly/2ckTwtU.

[23] See, e.g., Carlo Garbarino and Giulio Allevato, “The Global Architecture of Financial Regulatory Taxes,”36 Mich. J. Int’l L. 603, 610 (2014-2015).

[24] Patrick Dowdall, “Should a State Adopt a Carbon Tax?” State Tax Notes, May 30, 2015, p. 695.

[25] David Brunori, “Judge Not, That Ye Be Not Judged,” State Tax Notes, Aug. 22, 2016, p. 639.

 

MDeLappe Michelle DeLappe is an owner in the Seattle office of Garvey Schubert Barer, where she specializes in state and local tax. Garvey Schubert Barer are the Idaho and Washington representatives of American Property Tax Counsel, the national affiliation of property tax attorneys. Michelle can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it..
Jan
29

Seize Tax Opportunities When The Price Is Right

Reporting the sales price on a transaction for a real estate excise tax affidavit or refund petition can be tricky in the State of Washington, depending which side of the coin you’re on.

Seattle's hot real estate market presents two special tax-saving opportunities – or, for the unwary, two tax traps – involving Washington State's real estate excise tax.

The first arises when above-market rents in place at a property contribute to its selling price. The second occurs when the sale of a property experiences high vacancy. In both scenarios, some buyers and sellers report prices that are higher than they should be for the real estate excise tax. At nearly 1.8 percent of the property's sale price, real estate excise tax is a sizable trans-action cost that deserves attention.

Skewed By High Rents
With above-market rents, a portion of the sale price may reflect the value of contracts and business efforts. The tax only applies to the consideration paid for real estate, so the consideration paid for above-market contracts should be separated out as nontax-able.

Although we believe Washington law is clear on this, the Department of Revenue has been struggling to determine its position. The department recently agreed taxable value excludes the portion of the purchase price attributable to above-market rents, but then it changed its position.

Since these vacillations occur in the context of individual taxpayer cases, other taxpayers do not necessarily know what the department's position is at any given time. The department has not published any rules or guidance specific to this scenario.

Impaired By Vacancy
In the scenario involving the sale of a property with high vacancy, the buyer and seller frequently agree on a price as though occupancy were full and then deduct an amount for the vacancy shortfall. The deduction reflects the costs to lease the remaining space, and also the entrepreneurial profit the buyer requires for undertaking the risk and work required to achieve full occupancy.

Some parties to a transaction mistakenly report the stabilized value instead of the amount actually paid for the property. The only price they should report for tax purposes is the sum after deducting for vacancy, as that represents the actual amount paid.

Both parties have an incentive to ascertain and report the correct price on the real estate excise tax affidavit. Though the parties can negotiate who pays the tax, the seller is responsible for its payment by law. And yet, the Department of Revenue can enforce payment by placing a lien against the property, making the buyer indirectly liable.

Both buyer and seller sign the affidavit reporting the sales price, under penalty of perjury. Buyers may feel the ongoing effect of the reported price in the form of property taxes, since county assessors pay attention to the affidavits in determining property tax values. With this in mind, both parties should care about correctly reporting the transaction.

Buyers and sellers in either scenario can put themselves in a favorable tax position by presenting the information about the transaction carefully, whether in the affidavit or in a refund petition to the Department of Revenue. Note that a refund petition, if applicable, must be filed within four years of the transaction date.

Information about the transaction should be presented to the taxing authorities in a clear manner to establish the correct facts and legal analysis. In the first scenario, a detailed explanation of the facts ideally includes an appraisal that excludes the price paid for the value of the above- market leases in place, as opposed to the real property.

In reviewing the transaction, the Department of Revenue should presume the price paid is taxable, but the taxpayer can rebut that position. When the transaction price reflects more than the price for real estate alone, the department often next turns to the property's assessed value instead.

The taxpayer can argue that, by law, an appraisal as of the sale date trumps the assessed value as evidence of the taxable amount. For this reason, an appraisal is important for the above-market rent scenario.

In the high-vacancy scenario, however, the presumption applies that the price paid is taxable, and no appraisal should be needed. Therefore, the parties should report the actual price paid after accounting for the vacancy shortfall.

Recent experience indicates the Department of Revenue may choose to challenge an affidavit or deny a refund claim if it takes the position that the portion of the price attributable to above-market rent is untaxable. That does not mean the department is right, however, and its vacillations suggest its directors feel uncertain about their position. Taxpayers with strong facts should pursue the issue and work diligently to make a strong case that will help the department get to the right result.

Whether a sale involves the added value of contracts or a deduction for high vacancy, seeking professional advice about how to best report the transaction on the real estate excise tax affidavit, or in a refund petition, can turn the sale into a significant tax opportunity.

MDeLappeBrunsNorman J. Bruns and Michelle DeLappe are attorneys in the Seattle office of Garvey Schubert Barer, where they specialize in state and local tax. Bruns is the Idaho and Washington representative of American Property Tax Counsel, the national affiliation of property tax attorneys. Bruns can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it.. DeLappe can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it..
Aug
04

Recovering Seattle Market Generates Property Tax Fallout

"Multifamily housing in King County may be particularly susceptible to inflated assessments in the upcoming years."

Each week seems to bring news of yet another record-selling price for a commercial property in Seattle, including assets ranging from office and retail to apartments and even development sites. Increasing occupancy rates for industrial and retail properties also suggest that property values are headed up.

The King County assessor has undoubtedly tracked these price trends, too. In 2012, the assessor's office reported overall increases in taxable values for major office buildings, major retail properties, hotels and apartments. As a result, many commercial property owners in the Puget Sound region saw increases on their 2012 assessed value notices. In March, King County's chief economist projected that total assessed values in the county would reach nearly $327 billion in 2013 (for taxes payable in 2014), up nearly 4 percent from $315 billion in 2012.

For many taxpayers, notices in 2013 will reflect assessment increases even greater than 4 percent. The general recovery in the Seattle market should not trigger increased assessments for all properties. For example, some suburban areas have missed out on the trend toward increasing property values. And there are always individual properties that do not experience the same increases as their neighbors. Accordingly, owners should be attentive to potentially overstated assessed values.

Multifamily housing in King County may be particularly susceptible to inflated assessments in the upcoming years. One reason is the high prices paid in recent transactions. Another is the ongoing development of many new apartment projects. Even as that construction fervor gives assessors the idea that apartments are hot commodities, these new projects increase the risk of value-sapping oversupply in some submarkets.

Assessed values for Single-family residences make up roughly two thirds of the tax base in Seattle. With that said, home prices have risen 10.6 percent in the past 12 months, according to the Standard & Poor's/Case-Shiller Home-Price Index that was released in late May. As many homeowners receive higher assessments in 2013, that should provide at least some measure of relief for commercial taxpayers.

Prepare For Tax Increases

Budgeting for an upcoming year's property tax bill is always a challenge, in part because tax rates can vary significantly by year and location. Seattle's tax rates decreased each year from 2004 through 2008, then rose a whopping 13 percent in 2009. They have continued to climb each year since. A further, small increase in 2014 tax rates is likely. Within King County, tax rates can vary widely even within a single year. While Bellevue has a tax rate of less than 1 percent for 2013, suburbs in South King County employ tax rates that are half-again higher: Kent, Des Moines and Federal Way rates range from 1.45 percent to 1.6 percent. In order to guard against an in- Dated tax bill professionals must ensure that assessed value notices get routed to a responsible person. If an assessment seems too high, then the appeal petition must be filed within 60 days of the notice's mailing date to preserve the owner's appeal rights.

Most commercial property owners should budget for increased tax liability for 2014 taxes, given the prospect of generally rising assessed values in 2013 and the likelihood of higher tax rates in 2014. Property owners should receive notification of new assessed values by this fall. Then in late January, when counties publish final tax rates, property owners can calculate their tax burden and revise budgets accordingly.

MDeLappe Bruns Michelle DeLappe and Norman J. Bruns are attorneys at Garvey Schubert Barer, Washington and Idaho member of American Property Tax Counsel, the national affiliation of property tax attorneys. Michelle DeLappe can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it. and Norman Bruns can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it..

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