Property Tax Valuations in an Uncertain Market

by Aug 11, 2016

The drying up of credit has slowed the world markets and generated worldwide caution over the uncertainties ahead. The apprehension and chariness that pervade the economy today act as a further brake in the financial markets, the equity markets, and the credit markets as well. The stagnation and value loss are deeply ingrained in the real estate markets. Without a clear picture of where these markets will go, willing sellers, willing buyers, and their lenders are cautiously sitting on the sidelines.

While market uncertainties obviously impact buyers and sellers and potential buyers and sellers, they also impact the local assessor. Minnesota law requires assessors to value property at its market value. The question is: What is “market value” right now? In January 2009, all Minnesota assessor’s offices will begin the process of setting tax valuations on all Minnesota properties for the levy that becomes payable in 2010. These determinations must reflect the market’s activity over these past months.

In reality, what has occurred in the markets has been a continuing drop in value and volume from the already vulnerable levels of a year ago. For the January 2008 assessment completed earlier this year (payable 2009 taxes), estimated market values for single-family residential property fell from prior-year levels by approximately 6.1 percent in Minneapolis and 6.8 percent in St. Paul. These decreases were based on the market activity in 2007. For commercial/industrial properties during that same time period, both cities settled on single-digit value increases from 2007 to 2008.

Residential Impacts Commercial

Unfortunately, over the 2008 market year, the deepening unsteadiness of the economy has not only brought about further plummeting real estate prices, more loan foreclosure sales, and fewer traditional buy/sell transactions in the housing markets, but the distress has now spread into the commercial property markets. Vacancy rates for office, retail, and industrial properties in the Twin Cities are climbing as business tenants seek to manage operating costs by vacating space. Operating costs, driven up by increasing energy costs over the past year or two, have eaten into property revenue streams, increasing tenant operating costs on occupied space and owner operating costs on unoccupied space. Vacant space, diminishing income, and doubtful prospects for filling empty space may force more owners into foreclosure.

In Minnesota’s property tax system, commercial property and residential property share a tug-of-war relationship as their respective tax burdens fluctuate with shifts in the market. Of these two primary categories of taxable property, residential makes up nearly 60 percent of total property value and commercial makes up approximately 13 percent. The budgeted costs of government are spread among property classes based upon value and statutory tax capacity rates. For any given level of government costs spread among the district’s taxable property, if the market drives one category of property to fall in value, the other category assumes a greater proportion of the tax levy. It would seem that if values in both property classes decrease at the same rate, the respective burdens would not change. However, because commercial property has a higher statutory tax capacity than residential property and because there is more aggregate property value in residential, it takes a smaller decline in the value of residential property to effect a significant change in the commercial tax. In today’s market, dropping residential values upset the previous balance in the burden of tax shared between the two categories and shifts more of the burden to commercial property

Foreclosure Sales as Market Representative

Sales drive the assessment process. Assessment jurisdictions rely heavily on a statistically reliable quantity of sales to gauge the direction and velocity of the market. When markets are steady, there will be plenty of sales and the sales will be of an arms-length nature, which yields dependable and consistent valuation determinations for properties. In formulating those determinations, the assessor collects sales data, verifies the data, analyzes the information, and compares the data to prior assessments in order to determine how the market is moving.

The current chaotic markets provide much less of the reliable feedback that assessors need to estimate property values. Up until the past several years, foreclosure sales made up a small portion of all property transactions. That relative insignificance made it simple to regard foreclosure sales as “non-open-market” or “non-arm’s-length” transactions. In addition, the often very distressed physical condition of the foreclosed properties renders them non-comparable. Those in the appraisal profession typically treat such sales as non-representative of the market, in much the same way as they treat sales between related parties and sales involving a party under undue duress. In many areas of the country, state law limits assessors from considering foreclosures in the value determination process.

If, as many predict, lender-mediated sales remain a dominant segment of the real estate market, assessing authorities may no longer ignore such transactions as non-reflective of the current market. Nationally, foreclosure and distressed property sales made up approximately 40 percent of all residential transactions in the quarter ending September 30.

In Minneapolis, where residential foreclosure sales totaled more than 2,800 in 2007 and 2,500 through October 2008, foreclosure sales are never completely discounted for their impact on property valuation. The city assessor evaluates each sale for its arm’s-length quality and market applicability. A foreclosure price likely represents the floor of a property’s range of value.

Current Outlook and Conclusion

For the 2008 property assessment (payable 2009 taxes), the Twin Cities’ property valuations generally declined for residential property and slightly increased for commercial property. Current data suggest that, for the 2009 assessment (payable 2010 taxes), residential property will continue to decrease in value, as will commercial property, though possibly at a less sharp rate than residential. The fallout of such a scenario would be a shift in the property tax burden to commercial property, reflected in a higher effective tax rate on commercial property. Current commercial/industrial property tax rates hover in the range of 2.9 percent to 3.2 percent of estimated market value.

The task of the assessor is difficult and unenviable, even in a stable market. Nevertheless, the assessor’s charge is to value real property at its fair market value, even with the very real uncertainties and incongruities in the markets today. More so now than in prior years, property owners and managers should monitor the tax valuations of their properties to ensure that their valuations reasonably represent their properties’ true market value. If there are any questions raised, the taxpayer should seek the advice of a specialist. For the 2009 valuation (taxes payable in 2010), consultation with the local assessor is still available and advisable. For the 2008 valuation (taxes payable in 2009), taxpayers may appeal their property valuations by initiating an appropriate court action before the April 30, 2009 deadline.

The property tax is among the highest of all property expenses for a commercial property owner. In these uncertain times, it is more important and prudent than ever for property owners to pay close attention to their tax values and to obtain competent advice.

Editor of The Property Tax Deskbook

Jeffery McNaught serves as national Editor-in-Chief of the American Bar Association’s Property Tax Deskbook and is the primary author of the book’s Minnesota chapter. His relationships with the authors of the book’s other 50 chapters give him a nationwide network of real estate attorneys he can tap immediately when it’s beneficial for clients. The Property Tax Deskbook provides property tax managers, attorneys, accountants, and other professionals the information they are most likely to need to address state property tax issues, planning and procedures.

Contact Jeff 612.578.8455 

To reach Jeff, complete the form below or call the number above if you’d like to address your property tax assessments, or need help with any aspects of property taxation.

The Law Offices of Jeffery J. McNaught
201 Ridgewood Avenue, Minneapolis MN 55403
Office: 612.578.8455
Cell: 612.964.2758

Conveniently located near downtown Minneapolis.

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