The best methods and tools for commercial property valuation appeals

Would you know what to do if you received an assessment notice for one of your commercial properties? If the amount seemed too high, hopefully you or another member of your property tax team would check the accuracy of the valuation then appeal the property tax assessment if need be. 

The appeals process was put in place for your benefit. For the most part, assessors are doing bulk appraisals — and in some cases, they’re looking at entire towns or cities and using averages for metrics. You’re the only advocate for your particular property. You know which properties are most comparable to yours, and you may also have access to detailed information an assessor wouldn’t. So it’s up to you to make a course correction if needed — and that means gathering the right evidence to prove your case.

Ensuring your property receives accurate valuation — and appealing an assessment — are all part of being a commercial property owner. These methods can help you assess your appeal opportunities and support your commercial property tax appeal with factual evidence, making the process a smooth one.

There are two types of appeals you can pursue to challenge your assessment: the market value approach or the uniformity approach.

Challenging the market value focuses on determining the actual market value of the assets using traditional approaches to value.

The uniformity method allows you to challenge the assessment if the market value is not “equal and uniform” or “fair and equitable” with comparable properties. For example, if an office building is valued at a market value of $100 per square foot, but comparable properties are valued at $95 per square foot, the uniformity approach requires the assessment be adjusted to $95 per square foot.

It’s advisable to file an appeal based on both types of challenges as they’ll likely yield different valuation amounts. If the fair and equitable method produces an amount lower than the fair market value, the equitable method trumps — you should be assessed fairly alongside everyone else. If, on the other hand, the market approach amount is below the fair and equitable amount, then the market amount trumps — your property can’t be assessed any higher than the market value of that asset.

The traditional fair market value approaches to value fall into three categories: the cost, market or sales, and income approaches. The most reliable approach varies based on the type of property being valued. 

The basis of the cost approach is to ask: What would it cost to replace this asset? This approach assumes you’d have to first buy a piece of land of similar quality and in (nearly) the same location; on top of that, you’d have to factor in the cost of constructing a new asset. In most cases, your building is not brand new, so you need to make allowances and adjustments for its age, current condition, depreciation, etc.

The cost approach works on the principle of substitution. Investors looking at your property wouldn’t buy it if they could build a similar property next door that would generate the same economic value; they would pay more for a new building. So the cost approach puts a ceiling on the market value of a particular piece of property.

The market approach compares your asset to other similar properties and ensures it’s priced accordingly. No one would buy your building if it was priced much higher than the other buildings around it. Alternatively, someone would quickly pick it up if everything else around it was selling for more. So if a similar building across the street from yours sold last month, we can assume you would obtain the same price in the marketplace. 

Not everything is directly comparable, though — you may need to make adjustments to equalize the assets, accounting for things like age, size, or functionality.

The sales comparison approach is the most common type of market approach for commercial real estate. It looks at comparable transactions in a given area. For example, if your property is a two-story office building located in downtown Los Angeles, you’d want to see how much other two-story office buildings in downtown Los Angeles sold for. The answer indicates the value of your asset.

Of course, your asset may not have a carbon copy in the same area. If it isn’t exactly comparable, you’ll have to make some value adjustments based on key differences. For example, if your building is larger, it might sell for fewer dollars per square foot. Adjustments for scale, location, condition (good, poor, etc.), construction type (tilt-wall construction, brick, etc.), and more should be made based on market responses to those characteristics. You need to answer the question, How much more or less will the market recognize the asset’s value if X characteristic changes?

Some commercial buildings generate income through lease payments. The income approach determines value by asking what present value would reasonably support that future cash flow.

To answer this, gauge your future expected revenue minus estimated expenses (like property taxes, upkeep and maintenance, management fees, etc.) and discount that amount into the current value to determine the present value. The discount rate you use should be comparable to the risk associated with the expected income. 

You’ll require a higher rate of return if values are uncertain. So if the income is highly volatile (maybe you’re unsure about certain tenants, for example), you can try to account for that with a higher discount rate. On the flip side, if you’re confident you can make a fairly accurate estimate of future income (the building has secure tenants with long-term agreements in place), you wouldn’t require as high a discount rate.

There are two income and market models commonly used by assessors:

• Value per gross rent multiplier
• Value per door

With the value per gross rent multiplier model, value is tied to gross rent — which encompasses rent and all costs associated with ownership. For example, if your building rents for $30 per square foot, you’d multiply that amount by how much usable area is available in the building. The result is the maximum annual rent, or gross rent.

You could then compare the gross rent to market transactions in a similar manner to the sales comparison approach. Say a similar building with a $1 million gross rent sold for $10 million, or 10x the gross rent. If your building has the same gross rent, you have a basis for valuation. However, like the sales comparison approach, you also need to know other key characteristics of the similar building to make an accurate comparison.

Value per door (VPD) is another multiplicative comparison for arriving at a commercial property valuation. With VPD, you compare the number of “doors,” which is most applicable in a multi-unit scenario. For example, consider an apartment complex with 500 units. Assume the transaction value is $100,000 times the number of doors, or $50 million.

Notably, this property valuation method may only give you an average to go by, as not every unit is created equal. Layouts may vary, with some units set up as studio apartments and others as three-bedroom apartments. This affects the comparison between multi-unit buildings that may look similar on the outside.

When using the market and income approaches, it’s important to realize that the ultimate value of your asset may not be fully taxable by your jurisdiction, which may only tax tangibles. You may be including intangible elements in your valuation, for example, the value of a brand (like a Marriott hotel building vs. a generic hotel building). 

Even though investors would pay more for a Marriott building because it will generate higher income, you shouldn’t attribute the value of that brand to the tangible building, which is ultimately the taxable asset. As a result, you’ll need to extract the value of intangible elements to take this into account.

Another approach you could take is to determine if your assessment is uniform with other, similar neighboring buildings. Simply look at the assessments of other properties and adjust the values enough to be comparable to your specific asset. If those assessments are lower than yours, you can present them as part of your case for being overassessed.

Avalara Property Tax is designed to simplify the property tax management process in one secure hub. That includes helping you navigate the property value assessments you receive. 

Ready to learn more? Contact Avalara to speak to one of our tax specialists today. 

This post originally appeared on the CrowdReason blog.