​What You Need to Know to Successfully Appeal Your Inordinate Property Taxes

For some time, owners and operators of seniors housing properties have been aware of the staggering demographic statistics, such as the Census Bureau's projection that the baby boomer population will exceed 61 million when the youngest boomers reach 65 in 2029. This is truly the Silver Tsunami. Yet, even seniors housing professionals may be surprised by excessive property tax assessments that break otherwise carefully constructed budgets.

Before discussing what seniors housing owners can do to combat an excessive property tax assessment, it will help to review why some taxpayers will receive such unwelcome notifications. Factors include the large and increasing number and variety of seniors housing projects, coupled with the mass-appraisal methods that assessors typically employ.

With tens of thousands of units constructed each year, the country now has over 3 million seniors housing units ranging from independent living to assisted living, memory care and/or nursing care. Appropriate assessment methods depend on whether a property is an all-encompassing, continuing care retirement community; freestanding with only one component (such as independent living only); or comprising several (but not all) of these subtypes.

Unfortunately, assessors with limited resources usually use a cost-based methodology that is cost-effective for valuing a large number of properties. That may work for residential assessments in areas with similar homes, but given the significant differences between seniors housing properties, this approach can create an enormous tax problem for taxpayers who own seniors housing.

An outrageous assessment

In one recent case, the owner of a newly constructed property was shocked to receive an assessment valuing the property about 30 percent above its actual cost.The resulting taxes would have exceeded the owner's budget by over $250,000, not only ruining cash flow, but also destroying more than $2 million of market value.

Fortunately, there are measures taxpayers can take to counter excessive assessments. A critical initial step is to confirm any appeal deadline. Not only do rules differ across the country, but in many states the appeal deadline depends on when the notice is sent.

Further complicating this point is that more than one formal appeal may need to be filed, and taxpayers often have a narrow window within which to file. Generally, if a taxpayer receives a notice and misses a required appeal deadline, there are no second chances for that tax year.

Other important steps are to determine the applicable value standard and the assessment's basis. Usually (but not always) the standard will be market value, or the probable cash-equivalent price the property would fetch if buyer and seller are knowledgeable and acting freely. To determine that value, the assessor usually will have used an incomplete and improper cost approach that only adjusted for physical depreciation.

For these typical cases where the assessor has estimated market value using a flawed cost approach, drilling down deep into the assessor's cost methodology may produce a gusher of tax savings. In the aforementioned case, the assessor had used the costs for constructing a very expensive skilled nursing facility. Correctly using the assessor's cost estimator service for the subject property, which was mostly comprised of independent living units, reduced the cost by about $10 million.

Additionally, an assessor's cost-based valuation often will only account for depreciation from the property's physical condition. A proper cost approach must also account for any functional or external obsolescence.

Functional obsolescence can be substantial, especially for older properties, because consumer preferences change over time. What consumers may have desired years ago may now constitute a poor offering.

External obsolescence, which is often due to adverse economic conditions, can impact a property regardless of its age. For example, there will be external obsolescence if new properties overwhelm market demand in an area, or if the inevitable next economic downturn lowers market values.

Other scenarios

While atypical, sometimes assessors will use an income approach or sales comparison approach to value seniors housing properties. As with the cost approach, those approaches introduce many ways for assessors to reach erroneous and excessive value conclusions. One potentially large error is valuing the entire business and failing to remove the value attributable to services, intangibles or personal property.

In the previously mentioned case, the taxpayer's appraiser used the income approach and concluded that the seniors housing property had a total business value of approximately $22 million. The appraiser then determined that about $1 million of that value was attributable to services and intangibles and about $800,000 was attributable to tangible personal property as shown in the table below.

In a similar vein, the Ohio Supreme Court recently reversed the Ohio Board of Tax Appeals in the case of a nursing home property where a taxpayer's appraiser had determined that only about sixty-two percent of the total paid for all assets was for the real property. The Board of Tax Appeals had summarily rejected the appraiser's analysis as a matter of principle. The Ohio Supreme Court reversed and ordered the Board to reconsider the appraiser's analysis, and determine what amount, if any, should be allocated to items other than real estate.

These cases underscore that an assessor who uses the income or sales comparison approach and mistakenly values the entire business, rather than the real property alone, can improperly inflate a real property assessment by a material amount.

Another step taxpayers can take to achieve tax justice is to involve experienced tax professionals and appraisers. As the above analysis shows, property tax valuation appeals have many procedural nuances as well as legal and factual issues that must be addressed. In addition, in some jurisdictions there may be a basis to obtain relief based on the assessments of comparable properties.

As the inevitable Silver Tsunami inundates markets, there will be more seniors housing properties and more instances of excessive tax assessments. To the extent that the surge in the elderly population depletes local government finances, whether due to government pension plan shortfalls or otherwise, there should be no surprise if property tax bills increase.

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Knowing what to look for in monitoring your assessments can help avoid over taxation.

As robust occupancies and escalating investor demand in many markets drive up property tax bills for multifamily housing, apartment owners must continue to monitor their assessments to avoid overtaxation. Knowing what to look for can ease this task, and the place to start is with a firm grasp of the assessor's methodology.

Many taxpayers are unaware that assessors typically use a mass appraisal technique to derive assessments without referencing or even collecting details about a property's unique characteristics or performance. Property owners who understand the mass appraisal procedure have a distinct advantage in identifying assessment errors, and this knowledge can inform the apartment owner's arguments when they choose to fight excessive valuations.

Rooted in Generalities
The burden on appraisers to generate thousands of property values, often annually, is colossal. For this reason, assessors determine most market values for assessment purposes through mass appraisal, which is the process of valuing a group of properties as of a given date using common data, standardized methods, and statistical testing. Assessors using mass appraisal rely upon valuation equations, tables, and schedules developed through mathematical analysis of market data.

Mass appraisal analysis begins with assigning properties to classes or strata based on highest and best use. Valuation models are created for defined property groups, such as industrial or office, and are then calibrated to reflect the market factors for that specific market or submarket.

The International Association of Assessing Officers (IAAO) sets mass appraisal standards for assessors, by which an assessor can appraise the fee simple interest in property at market value. These standards set the preferred methods for mass application of the three traditional approaches to value (cost, sales comparison, and income). Armed with this information, apartment owners can attack mass appraisal procedures that result in values that don't reflect a property's true market value.

Property Data Errors
IAAO standards dictate that valuation models should be consistently applied to property data that are correct, complete, and up-to-date. However, assessor records commonly contain errors relating to a property's age, total square footage, net leasable area, number of apartments, unit mix, and facility amenities. An error in one of these fundamental property characteristics can significantly increase a property's overall assessment.

When arguing errors in specific property data, apartment owners should be prepared to share a current rent roll with their assessor in order to document the property's square footage, net leasable area, number of units, and unit mix. It may also be helpful to provide the assessor with copies of the property's most recent marketing materials, which show the project's various floor plans and amenities. Finally, pointing out land-size discrepancies or external nuisances such as traffic or airport noise can be helpful in arguing for lower values.

Income Approach
Assessors typically use the income approach in valuing apartments. Mass appraisal application of the income approach begins with collecting and processing income and expense data gathered from the marketplace. Appraisers then compute normal or typical gross incomes, vacancy rates, and expense ratios to arrive at a net income that is capitalized using a market-driven cap rate. This approach is often problematic because it fails to take into account a property's unique economic performance in a dynamic market.

Perhaps the best defense against excessive appraisals is to attack an assessor's mass appraisal income pro forma. Apartment owners should distinguish their property's rental rates and expense ratios from market data by providing current and prior-year operating statements if the numbers support a value reduction. Assessors often overestimate rent and underestimate expenses.

Owners should also provide occupancy reports to portray the property's occupancy trends, compare the property's occupancy level with market comparables, and outline any concessions and allowances the owner provides renters to maintain occupancy. The standardized vacancy and collection loss factor used in a mass appraisal income approach rarely captures the true physical and economic occupancy of a project.

Finally, owners should refute cap rates derived from sales of properties that aren't comparable to the subject.

Mass appraisal is a necessary evil that apartment owners should guard against. Knowing how assessors apply the procedure will help taxpayers in their continued fight to reduce property taxes.

Careful preparation is the key to contesting these unfair property taxes.

It may be paradoxical that big-box retail has lost property value in real estate markets where commercial property values in general are climbing, but that is the message many owners must convey to achieve a lower property tax bill.

For decades, big-box properties generated significant tax revenue for schools and local governments, but that story is changing. Annual valuation gains of 2 percent to 10 percent annual increases may have become a simple rule of thumb at one time for assessed values, but are no longer expected or acceptable to most big-box owners. Instead, there is now a major struggle between the big-box owners and the local property tax assessor.

Many companies have changed their real estate and marketing strategy to adapt to declining big-box property values. Toys R Us, Kmart, Sears and other stores have either closed stores or no longer exist. Others, including Walmart and Target, have adapted to suit customers who are no longer happy shopping in a mega store, or having to walk to a distant corner of a mega store to pick up a toothbrush, a bottle of milk or a pair of shoes.

Many retailers have achieved positive results by reducing store sizes. Target moved away from the superstore format to stores of 25,000-45,000 square feet, emphasizing the "grab and go" concept rather than the full grocery store.

Some experiments have not worked so well. Walmart opened a number of smaller, "neighborhood" Walmarts, only to close many a few years later. Mega stores still exist, but while commercial real estate values in general may be soaring, the value of these mega stores generally is not.

Yet, the local assessors do not see it that way, applying either a simple, across-the-board increase based on the general market, or using the standard cost, income capitalization and market/sales approaches to perpetuate valuation increases that ignore changing retail dynamics.

Points of contention

The cost approach often results in an inflated and unrealistic value that no one would pay in an open-market transaction. The cost approach should only be used on a relatively new building with little depreciation or obsolescence to take into account. The original cost may also include single-purpose features which have little or no value to a second-generation user.

Finally, if the building is to be repurposed, there is enormous added cost to convert a mega store to multi-tenant occupancy or to a different use with a shallower usable depth; it may not be economically feasible.

The income approach is often unavailable since these stores are most often owner-occupied, and this approach should only be applied for a rental property. An owner-occupied property should never be required to produce income and expenses in the context of a valuation of the property for property tax purposes. Such information values the business that is being operated from the property, and not the bricks, mortar and land.

This leaves the third option, the market or sales approach, as the primary appraisal method. Here starts the war.

First, many assessors see a Walmart, Kohl's, Target or a Lowe's store differently than they do a local mom-and-pop store operated from a similar property. Yet this is wrong, because it violates basic principles of property tax valuations.

A taxing entity cannot collect property taxes on the value to the name as an ongoing business, but only on the bricks, mortar and land. Buildings with comparable size, location, age, quality and other real estate characteristics should have the same value, regardless of whether there is a national name on the building.

Second, most big boxes are owner-occupied. If sold, there would be no lease to transfer to the buyer; the building would be vacant and available to the buyer for its own use or subsequent leasing to a user-tenant. The way to apply this sales approach in such cases is to compare the big box to comparable sales of non-leased property that are, or soon will be, vacant and available.

Such sales in the relevant period are often hard to find. Many of these properties linger on the market for years before they are sold or repurposed. As a result of such few sales for comparison, the assessor will gravitate to using sales of leased properties.

A leased property is a totally different animal from an owner-occupied, big box store. The sale is based on the lease itself – the remaining term on the lease, the net income generated, the tenant's credit and the like. Often, the lease predates the sale by years and does not reflect current market rent. Sometimes the property was a build-to-suit project with rent based on the cost resulting from the user's specific requirements, which resulted in an initial inflated cost to build.

Case in point

This played out in one of my recent cases. The assessor valued a big box at $105 per square foot, based on recent sales of leased properties, with the rent in most of them being established 10-20 years earlier. Some were build-to-suit leases.

There was, however, a recent sale at $75 per square foot of a vacant big box store in a neighboring county. The Colorado Board rejected the assessor's valuation, finding that a vacant store represented the true market value, and reduced the taxable value to $10 million from the assessor's $15 million. This $5 million reduction resulted from digging into the assessor's analysis, pointing out the flaw in the cost and income approaches, and eliminating sales of leased properties.

The battle will soon start anew, and it is never too early to start accumulating the necessary data that will determine the victor.

Lack of data makes for more important conversations between advisors and property owners.

Corporate headquarters present unique challenges and opportunities in property valuation discussions with tax assessors. Managing taxes on any real estate property requires an understanding of all three traditional approaches to value, but headquarters are unusual in that good data are hard to find.

This article highlights common sticking points in value discussions for this unique property set. A collaborative discussion between an advisor and property owner on these few areas can lead to a successful tax reduction.

Cost considerations

A headquarters defines an enterprise, but many of its defining improvements lack value to potential buyers.

Especially with newly constructed or renovated projects, or when lacking comparable data, the assessor will often rely heavily on the cost approach to estimate market value. This can result in a high valuation with room for fruitful discussion about ways to support a value decrease.

Under the cost approach, an assessor using reproduction cost will frequently understate depreciation and obsolescence. It is important to also review treatment of the economic age-life method, which is often misapplied. The effective age, rather than the actual age, must be measured against the life expectancy of improvements.

Deferred maintenance also requires deductions. Good appraisal practice mandates that short-lived items should first be costed out by category — items such as windows, HVAC systems, carpet, roofs and restrooms — before determining their remaining useful life and cost of replacement based on capital plans.

If the appraiser resorted to a cost approach due to a lack of data for other approaches, in the case of an older headquarters with functional issues not designed to current standards, a replacement cost approach is preferred.

The replacement method projects the cost to reconstruct the buildings using modern materials, design and layout standards. This eliminates the need to estimate depreciation for superadequacies and poor design. It provides a better indication of the existing improvements' contribution to market value.

With preparation, the taxpayer can tell a powerful story of how to build the functional equivalent of the headquarters.

Income and sales

The income approach to value is seldom helpful, in part because of the difficulty in finding market rents for a single-user property of considerable size. The assessing authority may want to use multi-tenant rent comparables, but an explanation of the costs of the conversion from single- to multi-tenant use will reveal a significantly lower value conclusion.

The sales comparison will be the most relevant approach to value in most cases. Appraisers often use gross building area as a measurement unit of comparison for single users, but comparing by net rentable area (NRA) will go far to account for the reduction in value a building experiences when needs and usage change.

The appraiser must also use NRA for comparable sales. Factors such as remote working, benching and collaborative space needs will make more traditional and formal spaces within the building less valuable. Changes in how the corporate workforce uses office space can render many areas obsolete and deductible from NRA, such as auditoriums or an oversupply of formal conference rooms.

Another argument that helps to manage value in the sales comparison approach is to point out that parcels surrounding improvements should not be valued as fully functional and available building sites. Separating land from a corporate campus can diminish the campus' value.

Determining the economic impact to the comparables' sale prices when excess land might be at issue requires a more thorough analysis than simply looking at a land-to-building ratio and using the ratio as an adjustment criterion. The land-to-building-ratio adjustment alone does not measure the economic productivity of any excess land on the comparables in relation to the economic productivity of the headquarters land. There may be difficulty in developing the site due to terrain, or a corporate user might lose the right to add square footage elsewhere on campus if land is partitioned and sold.

There are good arguments to be made surrounding value adjustments for any renovations in a corporate campus. Often a corporate headquarters is physically complicated and evolving. If renovations add space, there is often an imperfect fit to the existing space. The taxpayer may argue that the new space suffers a discount because of the imperfect efficiency inherent in the blending of new and old.

Discussing conditions of sales comparables with the assessor is useful for appropriate adjustments. Often, the assessor lacks access to detailed offering memoranda or insights into the motivations of the buyer or seller, such as instances where a developer would pay more to acquire an assemblage, or if there is a need for cash, or unusual tax considerations.

Set the stage for a productive discussion with the assessor by first initiating an informative dialogue with the building engineers and manager. Ask them about the changing nature of the campus and their predictions about future changes.

On meeting with the assessor, share capital replacement plans and how the building must be changed due to internal industry needs and external trends. A meeting of the minds with the taxing authority on the cost and market approaches discussed above can lead to a successful value reduction.

​Proper functional obsolescence may not be factored into the estimates provided by the cost estimating services.

Appraisal districts across Texas often use the cost approach to determine market value for property tax purposes, and when valuing certain commercial properties via the cost approach, county appraisers frequently use cost-estimating services. These services enable appraisers to estimate the cost of the subject property's improvements as if they were new, as well as determine the depreciation to apply to the subject.

Cost estimators can be a great resource and valuation tool, but the appraiser is likely to reach an incorrect value conclusion using estimates from one of these services without also incorporating proper analysis of functional obsolescence.

Functional obsolescence is one of the three types of depreciation that measures a building's function and utility against current market standards. Given this, placing all weight on a service's depreciation estimates could lead to incorrect assessments that ignore functional obsolescence within the property's total depreciation.

The Trouble With Tables

Cost-estimating services typically provide depreciation tables that contain depreciation data for multiple commercial property types. County appraisers often cite these tables as their main source of depreciation support when using the cost approach.

It is important to know that these tables typically assume that all components of the improvements for the various property types depreciate equally across time. So for example, a brick used in a multifamily or office development will depreciate at the same rate as a brick used in a fast-food restaurant or movie theater.

Often-overlooked warnings from these services point out that certain real estate product types are subject to functional obsolescence that occurs rapidly and can significantly reduce the economic lifespan conclusion for the applicable property type. Given this information, a determination of total depreciation for the subject property must include an appropriate functional obsolescence analysis.

Evaluating functional obsolescence involves an analysis of the utility of the improvements, and how that degree of usefulness affects total depreciation. As an example, consider the fast food industry, which has evolved drastically over the past few decades.

As fast-food real estate models from the 80's and 90's continue to become obsolete, new models have appeared to attract and retain the millennial and Generation Z customer base. Because of this, it is common practice for fast-food companies to refresh their store models every five to 10 years, with a complete rebuild taking place every 20 to 25 years.

This refresh-and-rebuilding cycle is necessary to fit ever-changing consumer tastes and demands for this real estate product type. While the store refresh may include new flooring, additional exterior decoration and color schemes, a complete rebuild is necessary when the utility of the building no longer fits the current design standards demanded by the market. An economic life of 20 to 25 years may be appropriate to capture the potential functional obsolescence associated with this industry.

Picture A Theater

Movie theaters are another competitive product type that may be subject to functional obsolescence outside standard physical depreciation. Theaters built in the 1990s and 2000s may struggle to compete with the eat-drink-and-play models that continue to increase in popularity. Across Texas, select stand-alone theaters that lack dining, bar, and event options continue to see revenues decline.

Theaters without these features often lack the capacity to add a commercial kitchen, bar service, or bowling alley into their existing structure, which limits the utility of the property based on market tastes and preferences. These older theaters may also contain large projection rooms that were previously used to house large equipment and film reels. Given the arrival of digital cinema, most projection rooms now require less space to house and project content into the auditorium.

Auditorium spaces are also evolving, based on the capacity to house premium luxury sections or reclining seats with independent power modules. These popular seating features have resulted in auditoriums having less seating capacity, given the additional space required for each seat. Clearly, it is important to analyze and recognize any applicable functional obsolescence that could affect this property type.

Real estate product types continue to evolve along with consumer standards and tastes; it will be important to consider the impact these requirements have on a building's utility over time.

A step-by-step guide from a veteran attorney to navigating the process of disputing real estate valuations by local government.

In most jurisdictions, taxpayers may meet with the assessor or assessor's representative to deliberate and possibly resolve issues concerning taxable real estate valuation.

First, contact the assessor's office to request a meeting. Getting past recorded messages may be a challenge in some instances, but talking to a human being is necessary.

During that initial phone call, be prepared to describe the problem and point of the discussion, then ask for a date and time to meet. Be sure to request the meeting in sufficient advance of filing deadlines for any appeal process.

Before the meeting, identify an objective (typically a lower assessment) and a plan to achieve that outcome. Be optimistic, but recognize that the assessor's office may reject the taxpayer's position. During the discussion, be reasonably flexible; passion and anger are seldom persuasive and will detract from an otherwise sound argument.

Fix the facts

There are a number of valid concerns other than overvaluation which, if properly addressed and corrected, can result in significant savings.

The most obvious reason to discuss the property with the assessor is the need to correct a simple mistake on the part of the assessor's office. Computer-generated assessed values are now widely used and accepted. The resulting values are no better than the data fed into the database, so review assessments with an eye on the broad picture.

Pay particular attention to the address and all measurements, which are common sources of error. Be sure the property hasn't been confused with some other property of greater value. If the property is improved, review the records available on the assessor's website to see if the improvements are accurately described and that the land is properly measured. Call any mistake of fact to the assessor's attention.

Most jurisdictions recognize varying degrees of assessment value depending on property classification. Typical classifications are commercial, residential and agricultural. Each class is assessed at a different percentage of its market value.

Usage is the primary classification determinant. For instance, undeveloped property zoned commercial may be a productive farm, in which case its classification would be agricultural. Point out to the assessor that the property is being farmed and was so used on the tax valuation day. Bring photos and records to establish that farming was the use on value day, and continues to be so.

Make a similar argument in any situation where the assessor classified the property higher than its actual use. Along the lines of classification, some properties are exempt from taxation if used regularly for charitable, religious and educational purposes.

Unless the use is easily recognized and accepted, it is unlikely the assessor's office will alter its opinion in an informal meeting. The meeting is an effort to convince the assessor that the property is overvalued for tax purposes.

Study the concepts

Unless the taxpayer is a valuation expert, it's probable he or she is meeting with someone who knows more about property values than the owner does, or at least believes that to be the case. A fundamental understanding of valuation methods is critical to a meaningful dialogue.

Volumes are written on the subject and the law books are full of cases dealing with value concepts. The following provides a thumbnail sketch of these concepts.

The three approaches accepted by all valuation experts are cost, income, and market or sales comparison. Assessors use these approaches daily, and look at property through these lenses.

Cost. If the property was purchased and improved with a new structure or structures within the last five years, the total cost of acquisition and improvement is a good indicator of what the property is worth and how it should be valued for tax purposes.

In the absence of a recent transaction, a credible opinion of the cost to replace the improvements on the property may be useful. There are manuals recognized by value experts that may assist in obtaining and presenting such an opinion as evidence.

Market. If the house next door, built just like the subject home, sold yesterday, then that sale price is a good indicator of the value of the subject house. On its face, the method of seeing what similar properties sell for seems the simplest and most direct way to determine a property's value.

If only it were so. The more variances there are between the properties, the greater the comparison challenge. Differences can include location, date of sale, condition of the property—the list goes on.

In dealing with the assessor, present listings and recent sales of properties similar to the subject property, if possible.

Income. In short, this is the present value of future benefits, and is the price a knowledgeable person would pay to acquire the future income stream of a given property.

Under this approach, value is typically determined by dividing the net income by the capitalization rate, or the buyer's initial annual rate of return. The capitalization rate, or cap rate, provides a formula for value calculation, and the higher the cap rate, the lower the value conclusion. The assessor will have a firm opinion of the cap rate and is unlikely to be swayed, but it's worth a try.

In many instances, arguing the general market cap rate with the assessor is futile. A better approach may be to show why the assessor's cap rate should be adjusted because of conditions unique to the property. Look for conditions that are beyond the owner's control and constitute risk to future income.

Arguments challenging the assessor's cap rate could include the greater risk of lost income due to external factors, such as a highway change or a major demographic shift.

Assessors and their staff consider themselves professionals meriting respect as public servants. To achieve any result from conversing with them, they should be dealt with accordingly.

At the conclusion of the meeting, be sure to document any agreement reached.

 According to Gilbert Davila, principal at Popp Hutcheson PLLC, an Austin-based law firm specializing in property taxes, the hikes are primarily attributable to basic increases in construction and investment in self-storage properties across Texas. Based on how pricing for commercial real estate in Texas has generally skyrocketed in recent years, appraisal districts are now able to derive very low cap rates for many of the properties they assess. In addition, Davila says appraisal districts are only just beginning to have access to comprehensive data to use in valuing properties in this sector. "Prior to the last couple years, appraisal districts weren't very aggressive on self-storage owners, and now they're playing a  game of catch-up" he says. "However, we should be past the worst of the exponential increases and should see more stagnant property tax valuations for the year 2018."

Davila also points out that many self-storage owners are now protesting their assessments in court. Because Texas law requires all properties within a certain jurisdiction to be assessed equally and uniformly with facilities of similar sizes, this litigation should help lower the median level of valuation for self-storage assets.

A proposed law to close the "LLC Loophole" from real estate transfer taxes is a solution in search of a problem.

Ohio legislators are drafting a measure to apply the state's real estate transfer tax to the transfer of any ownership interest in a pass-through entity that owns real property. This proposal will cause more problems than it solves.

Ohio assesses its transfer tax, called a conveyance fee, on each real estate transaction based on the purchase amount reported on a conveyance fee statement and filed with the deed. If a pass-through entity owns the property, a sale of interest in that entity is exempt from transfer tax. The proposed changes would apply the conveyance fee to those transfers, however.

Also, if the property purchase price exceeds currently assessed value, recording the conveyance fee statement and deed with the county will usually trigger a lawsuit by the school district to increase the assessment and tax bill.

Transfers exempt from transfer tax include gifts between spouses or to children; sales to or from the U.S. government, the State of Ohio or any of its political subdivisions; transfers to provide or release security for a debt or obligation; and sales to or from a non-profit agency that is exempt from federal income tax, when the transfer is without consideration and furthers the agency's charitable or public purpose. Generally, the policy is to impose the transfer tax only after a market transaction with market consideration.

What's the problem?

Lawmakers consider the proposal on transfer tax and pass-through entities a tool to fix the problem of real estate value escaping taxation, both at the time of transfer and, more importantly, as part of the assessment. The two supposed loopholes that the proposal aims to close are:

1. The transfer tax loophole argument assumes that some buyers may structure their purchase as an entity transfer, in part, to avoid the transfer tax, which can be significant for a highly valuable property.

1. The property tax loophole describes the more likely "problem" the proposed law purports to address. This argument suggests that some buyers attempt to avoid real estate tax increases when the purchase price is higher than the current tax assessment by structuring the deal as an entity transfer

Ohio assumes that a recent, arm's length sale price is the best evidence of property value for real estate taxation. Filing the deed and conveyance fee statement prompts the school district to file a lawsuit to increase the taxes. The conveyance fee statement indicates the purchase price, carries evidentiary weight and is presumed to be completed under oath, even though as a practical matter it is more like a clerical function and seldom completed by any party to the sale.

When interest in the ownership entity transfers without direct conveyance of the real estate, the transfer tax is inapplicable under current law and no purchase price is recorded. Some sales may be structured this way, trying to avoid exposure to an increase in property taxes by filing a conveyance fee statement.

Everyone should bear their share of the tax burden based on fair property valuation, but this proposed bill does not solve the problem of people skirting their responsibility. It also can lead to unintended consequences including the loss of privacy, increased transaction costs, implementation and enforcement costs, and less real estate investment.

A multilayered dilemma

There is no indication that using a pass-through entity is even an effective way for investors to avoid triggering an increased assessment. Ohio school districts file increase complaints not only when deeds and conveyance fee statements are recorded, but also in response to mortgages, LLC transfers, SEC filings, and sometimes the opinion of outside consultants. There is little evidence that significant numbers of sales are missed because they are the transfer of ownership interests. Thus, there is no loophole that needs to be closed.

The proposal disrupts uniformity, because using a recent purchase to set the assessment midway through Ohio's three-year valuation cycle treats taxpayers who've recently bought their properties differently than others. This is non-uniform treatment, which the Ohio Constitution prohibits.

The conveyance fee statement is often completed and filed by someone not a party to the sale. Common errors occur, usually in allocating the total asset purchase price. Historically, these incorrectly reported purchase prices were being applied to set real estate tax values with increasing rigidity, leading to assessments that did not accurately reflect the value of the real estate.

Assessments should only value real estate, but assessments based on these total asset prices would include the value of non-real estate items as well. To the extent that the value of these other items -- for example, an ongoing, successful business operation -- were also being taxed through sales taxes or a commercial activity tax, these taxpayers were subjected to double taxation.

The solution exists

A recent amendment to the tax law mandates that a real estate assessment reflect the unencumbered fee simple interest. The Ohio Supreme Court recently confirmed in its Terraza 8 LLC vs. Franklin City Board of Revision decision that the amendment requires assessors and tribunals to evaluate all circumstances of a sale, and not blindly apply the number reported on the conveyance fee statement.

The appraisal of the unencumbered fee simple interest provides uniform assessment for all taxpayers, while acknowledging the circumstances of real world transactions. It limits double taxation by making sure real estate tax is based on real estate value only, and yields consistent results whether a sale price is higher or lower than the current assessment.

It ensures uniform measurement and taxation for everyone; just as you would not impose taxes based on gross profits for one taxpayer and net profits for another. It also ensures that the tax is applied consistently, whether the owner just bought the property, has owned it for decades, leases it, occupies it, owns it individually or owns it through interests in a pass-through entity. Valuing the unencumbered interest also results in predictability, aids budgeting, and alleviates deal-killing uncertainty.

There are legitimate reasons to convey property through the transfer of ownership interests in an LLC or other pass-through entity, including privacy or other tax planning. The proposed bill undercuts those legitimate concerns without addressing the perceived problem of real estate value escaping taxation. Consistently valuing the unencumbered fee simple interest of real property through uniform assessment and uniform application ensures that no real estate value escapes taxation, and that no taxpayer bears more than their fair share of the burden.

​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..

The federal government has long encouraged owning a home over renting. Housing subsidies in the tax code effectively lower the after-tax cost of homeownership, which has helped taxpayers move out of residential rentals and into their own homes. The Jeffersons might not have credited tax policy for it in their 1970's sitcom, but it has assisted taxpayers in "moving up" to bigger and better homes. The Tax Cuts and Jobs Act of 2017 (TCJA) makes sweeping changes to the tax code for individual taxpayers that directly impact their ability to transition from renting to owning their home.

About 34 million households, or 44 percent of U.S. homes, carry a mortgage with annual interest charges that exceeded the prior standard deduction. With the new standard deduction, that group shrinks to around 14 million, or 15 percent of U.S. households, according to the National Association of Realtors (NAR).

And while the TCJA nearly doubles the standard deduction, it caps the deduction for state and local taxes -- including income, sales, and property taxes -- at $10,000 for both single and married taxpayers. This one-two punch could significantly impair some taxpayers' appetite for homeownership.

Two household examples

NAR prepared an analysis that illustrates this potential impact. In the first of two examples, a single taxpayer earns $58,000 per year, rents an apartment, and claims the standard deduction. Her tax liability for 2018 under the prior law would have been $7,491 but, under the TCJA, she pays just $6,060 and enjoys a tax cut in the amount of $1,431.

Now assume she purchases a home for $205,000, putting down 3.5 percent with a 30-year mortgage fixed at 4 percent interest. Further assume her first-year mortgage interest would total $7,856 and she would pay property taxes of $2,050.

As a first-time homeowner, her tax liability under the prior law would be $5,393. The tax benefits under the prior law save $2,098, which effectively lowers her monthly mortgage payment by $175 per month. Under the TCJA, her tax would be $5,423 (a $30 increase!) and the differential between renting and owning a home, which was $2,098 under the prior law, has shrunk to just $637 or $53 per month.

In the second NAR example, a married couple with three children and an annual household income of $120,000 leases a home and takes the standard deduction. Their tax liability for 2018 under the prior law would have been $11,370 but, under the TCJA, they pay $8,999 and enjoy a tax cut in the amount of $2,371.

Now assume they purchase a home for $425,000, putting down 10 percent with a 30-year, fixed rate mortgage at 4 percent interest. Further assume their first-year mortgage interest would total $15,189 and they would pay property taxes of $4,250.

Under the prior law, the couple would lower their tax liability for 2018 by $3,219 by purchasing a home instead of renting. This amount effectively lowers their monthly mortgage payment by over $268 per month. Under the TCJA, their tax would be $8,051 (a $100 decrease) and the differential between renting and owning a home, which was $3,219 under the prior law, has shrunk to just $948 or $79 per month. (For NAR's analysis and further discussion of Apartment Lists' examples, visit https://www.nar.realtor/tax-reform/the-tax-cuts-and-jobs-act-what-it-means-for-homeowners-and-real-estate-professionals.)

As these examples illustrate, the TCJA offers an incentive to homeownership, but it is considerably less valuable than the previous incentive. Thiseffectively levels the playing field between renting and owning a residence. In fact, after accounting for additional costs associated with homeownership such as maintenance, neighborhood association dues and local district fees, the scales may now tip in favor of renting.

Thus, taxpayers may forego the traditional path, and choose not to move up from renting to purchasing a home. Instead, they may choose to climb within the rental market. That is, they may move to bigger and better residences and may spend more on their residences , but they are likely to rent rather than buy.

At the same time, the TCJA is fueling investors' interest in the rental market so that more options will likely be available for taxpayers who forego owning a home in favor of renting. To that end, the TCJA offers more favorable treatment of pass-through income. And, income property owners are still able to deduct interest payments on mortgages, with no cap.

These factors make it more profitable for investors to own income-generating property such as multifamily apartments or single family rentals. So, while the TCJA may increase taxpayer demand for renting homes, it also encourages investors to invest in residential properties and make bigger and better rental units available to renters. Whether by accident or design, the TCJA is likely to result in significant benefits to the rental market.