Pandemic Brings Unpredictability for Commercial Property Assessments

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County assessors in Colorado will send out notices of property valuation by May 1, and real estate attorneys say some commercial property owners might be in for an unpleasant surprise if they were expecting the pandemic to bring lower tax bills.

The new valuations will apply to taxes paid in 2022 and 2023. For this revaluation cycle, assessors will be looking at data from January 2019 through June 2020, to calculate a property’s value as of June 30, 2020. By law, assessors must consider sales, income and expenses, and construction cost data when assessing commercial properties.

“They are technically required to apply equal weight to the three approaches to valuation,” said Polsinelli shareholder Nick McGrath. “But practically, and from my experience, I see the sales approach and the income approach being focused on more … And I think those are probably impacted the most in terms of COVID.”

The base period assessors are using for reappraisals began with strong sales that lasted until early 2020, but the arrival of the pandemic caused sales to drop and vacancies to rise.

“We were living in the great days of 2019, with property values going up — both non-residential and residential values. And then COVID hit,” said Spencer Fane partner Robin Nolan. “It was a banner year, and then it wasn’t a banner year.”

IN FOR A SHOCK?

“I would expect that non-residential owners would probably be surprised when they receive their valuation because there’s been such an up and down for values,” Nolan said. “They would expect the pandemic to have shown up in a lower valuation.”

Residential property owners could see rising valuations, she added, but those are less likely to come as a shock because home prices have been “going through the roof” in the Denver metro area and other parts of the state.

Sarah Kellner, partner at Faegre Drinker Biddle & Reath, added that assessors initially value property based on a mass appraisal process that doesn’t look at specific properties. “I think, because of the unique nature of this year, that the mass appraisal of a lot of property is going to be misaligned with the actual value of the property on that date,” she said.

McGrath said the situation reminds him of earlier in his career, during the Great Recession, when the economy and real estate markets were strong through 2007 and the first half of 2008. “And then everything kind of fell off the cliff,” he said. “You had assessors coming out with revaluations in 2009 reflecting large increases in value, and it really caught property owners off guard.”

McGrath said he expects multifamily residential property valuations to continue their rising trend, even though owners have faced tenant delinquencies and higher vacancies in some cases. He also predicts higher valuations in industrial property. “Retail is really the wild card,” he said. “I just don’t know how the assessors aren’t going to acknowledge what happened in the retail setting in March through June of 2020, when tenants had to shut down entirely.”

“I think the county assessors understand the property owners in many of those property categories are struggling today, and they will be when they have to pay the taxes come 2022,” McGrath said. “How do you balance having all of this strong data to support increased valuations, which translates into increased property taxes, versus the reality of our last year of people struggling in a down economy?”

WHAT ARE ASSESSORS DOING?

Denver Assessor Keith Erffmeyer said people should remember that “what assessors do is property value and not business value.” He said that while there is “somewhat of a relationship” between how well businesses are doing and property values, the two are determined very differently.

“Assessors have considered the downturn due to COVID in terms of our property valuations,” Erffmeyer said, “because as of June 30 2020, COVID was still very significantly affecting commercial real estate around Denver.” By statute, valuations must reflect a property’s value as of that date, he said, so assessors will trend to the end of the base period.

Erffmeyer added that assessors from around the Denver metro area collaborated to study COVID’s impact on different property types, such as offices, warehouses and hotels. The study groups were formed to ensure consistency from county to county, he said, and to deal with a lack of data. “We didn’t want to be vastly different from one another in terms of what we were seeing,” Erffmeyer said.

While assessors are statutorily required to consider a base period of at least 18 months when determining values, El Paso County Assessor Steve Schleiker said in an email that he uses a 24-month “study period” in order to “capture any seasonality in the sales.”

The average number of commercial sales in El Paso County was 33 per month during the 24-month study period, according to Schleiker. The number of commercial sales in April and May 2020 dipped to 15 and 16, respectively, he said, but “nowhere near what we initially thought,” and the numbers are back above average today.

Additionally, Schleiker said his office mailed out more than 5,000 income surveys in July to commercial property owners that have been impacted by the pandemic, and they have received nearly a quarter of them back. “Many of these questionnaires did not show any reduction in income,” Schleiker wrote, “however, I am of the opinion that the loss in net operating income on many of these properties will most certainly be reflected in the 2023 reappraisal.”

PROBABLE PROTESTS

McGrath said that in 2009, he saw an increase in clients who wanted to challenge their assessments, and he expects 2021 to be another big year for property tax protests.

Erffmeyer said economic downturns generally do bring more property tax appeals, particularly from residential property owners. He added that his office tends to get a lot of appeals from commercial property owners no matter which way property values are trending.

“I’m certainly encouraging clients to take a long, hard look and to consider protests, even if they have not done so in the past,” Kellner said.

“If you’re in the hotel industry or you’re in the retail industry or the commercial office space industry — some of these industries that saw massive hits in 2020 — cash flow is not ideal,” Kellner said. ”So you want to try to find savings wherever you possibly can. You definitely want to be looking at appealing your taxes this year.”

Kellner said that at every level of the appeal process, there is a closer look taken at the actual value of a specific property. “I do think that people should start on that process. That doesn’t necessarily mean that you’re going to get the county to reduce your value at the early stages,” she said, “but you’re at least giving yourself the opportunity to argue and present your case to either the board of assessment appeals or even in district court.”

“I think one of the keys to success in a protest situation is to really look at the assessor’s data they’re using and to compare it to the property itself — all of those very site-specific items,” McGrath said, such as actual rents, vacancy and operating expenses.

“I have found that the assessors are reasonable with working through protests, if you can provide them with adequate data to justify your position,” he said.  “But simply saying, ‘I’m hurting today’ isn’t going to be enough because the assessors have a statutory obligation to look backwards into that data collection period.”

The attorneys warned property owners not to procrastinate if they want to protest their valuations. Property owners only have until June 1 to appeal. “The turnaround is very quick,” Kellner said, adding that most tax professionals have systems in place to quickly analyze a valuation to “determine whether or not there’s meat on the bone there to appeal.”

According to McGrath, one difference between the current situation and Great Recession is that property owners might not see lower valuations during the next assessment cycle. When assessors reappraise in 2023, he said, they’ll be looking at data from January 2021 through June 2022. Given how quickly the economy has recovered, he said, “they’re going to have strong data again, so property owners aren’t going to get the benefit of that counter cycle of a bad economy to balance out their higher values and higher taxes this time around.”

Nolan agreed that Denver’s commercial real estate market has been more resilient than expected. “Deals are still happening. Leasing is still happening. Buying and selling commercial property is still happening. Developing still happening,” she said. “I think all of us expected a major slowdown with commercial development, but I don’t see that it’s happened.”

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