Property Tax Reassessments | Impact on Real Estate Deals
The financial landscape can be intricate and multifaceted in and of itself, without the everchanging complexities of underwriting. One critical aspect that often flies under the radar but can significantly affect an investor's bottom line is property tax reassessments. These assessments have the potential to impact a deal's financials and carry implications that every savvy investor should understand.
Understanding Property Tax Reassessments
What is Property Tax Assessment? These are evaluations conducted by local tax authorities to determine the current market value of a property for tax purposes. These assessments are typically carried out periodically or triggered and result in changes to the property's assessed value, which directly affects the amount of property taxes an investor or property owner needs to pay.
Property taxes will change in one of three different ways.
Periodically according to local regulations. (For example: Every 5 years)
Effects on Financials
Property tax reassessments can have both immediate and long-term financial implications. When a property's assessed value increases, property taxes rise accordingly, potentially impacting the deal's financial feasibility and reducing the investor's overall returns. This is particularly relevant when the property was acquired with certain projected financials in mind. All too often operators underwrite with in-place taxes only to find the deal doesn't actually pencil out with the new assessment value.
Since property tax reassessments increase operating expenses, the investor needs to find ways to increase income or decrease expenses to maintain the desired cash flow. Furthermore, an unexpected increase in property taxes due to a reassessment will reduce the net operating income (NOI) substantially, which subsequently impacts property valuation and the resale value.
Implications and Strategies
Mitigating Impact: To mitigate the impact of reassessments, investors should conduct thorough due diligence before purchasing a property. Research the property's assessed value history and local reassessment policies. It's essential to understand the frequency and criteria that trigger reassessments in your area.
Budgeting: Investors should budget for increases. It's not an if but when. When evaluating a property's financial feasibility, consider potential reassessment scenarios and their corresponding effects on cash flow and ROI. This way, you're better prepared for any adjustments needed in the future.
Drop and Swap: The sale of a property is often the trigger for reassessment. A strategy to avoid triggering a reassessment is doing what is called a "drop and swap". This is a loophole designed to avoid the property "selling". Instead of purchasing the property itself, investors purchase the LLC that owns/ holds the property. Therefore, technically, the property did not change hands, but the LLC did. There are many intricacies with this and it is wise to consult a local lawyer if this is something you are considering.
Appealing Reassessments: If you believe a reassessment is unjustified or inaccurately calculated, you have the right to appeal it. Property tax appeal processes vary by jurisdiction but typically involve providing evidence that the property's assessed value is incorrect. This evidence can include recent comparable sales, property condition issues, or assessments that are inconsistent with neighboring properties. Although possible, this is very difficult, the process is lengthy, and it is costly.
Engage Professionals: Consult with professionals, such as appraisers or tax consultants, who are well-versed in property tax assessments and appeals. They can provide expert advice and help you build a strong case for reassessment reduction or general guidance.
Property tax reassessments are dangerous. Recognizing their impact on financials and using strategies to mitigate effects is key to success. Stay informed about local policies, and budget for tax changes, and seek expert help when needed. Mastering property tax management empowers you to optimize investments and secure your financial future.