Property tax tips for development assets

Let’s start with the bad news – commercial real estate development is getting squeezed in 2023.  Rising costs of material and labor, ballooning interest rates, and increasing operating costs have combined to take a bite out of returns. 

The good news is this – property tax is a cost that you can control. By making the right decisions at each stage in the development process, you can ensure you avoid paying more tax than necessary.

Due diligence process

In many cities, the days of simply acquiring a parking lot and starting construction of a new development are long gone. With new builds incorporating multiple parcels and existing uses, the property assessment and taxes upon acquisition rarely reflect the level of property tax that will be incurred through the development process.

Property taxes represent a significant portion of the costs incurred during development.  With this in mind, each site should be reviewed to ensure you anticipate future changes in assessment and taxation.

Issues to watch for include: 

• The assessment and property tax may not take into account the value of the redevelopment potential. The assessment could be increased retroactive to the date the development was approved, the date of acquisition, or even earlier

• The assessment may reflect an incorrect future buildable area, or a rate that is inequitable with similar properties

• In some regions, depending on legislation, certain actions may trigger a change in classification for tax purposes, resulting in a tax increase

• Demolition of existing structures, land severances and consolidations may have unanticipated property tax consequences

When evaluating options for your development, it is important that your tax estimate reflects all potential impacts to accurately forecast potential returns. It may also be beneficial to review the effective rate of taxation of similar properties to validate your projections.

Land acquisition

When lands are acquired, the property tax attributed to the land is determined either based on vacant land value, or the currently existing development.  The land assessment may be based on bulk values, and assessments of existing developments likely reflect underperforming assets.  Future assessments could be increased, and in some jurisdictions the municipality may have the right to appeal seeking an increase in assessment. Purchasers need to watch out for these appeals and take prompt action to defend their interests. Often the increase can be reduced or eliminated – but for optimal results, you need to understand the legislation for the region, including appeal rights and processes, as well as relevant case law.

Pre-construction

Local governments can offer a number of incentives to attract development, such as brownfield grants, heritage programs, and tax incentive funds.  Many of these programs provide a grant based on a percentage of the increase in taxes as a result of the redevelopment.  The available programs and terms of those programs are different in each municipality. Developers should review the terms of the incentive program to evaluate the requirements, as well as potential costs and benefits.

Construction

Each taxing authority and assessment jurisdiction may have a different approach to the assessment and taxation of new developments.  Some will issue a partial assessment at the end of each year, based on the stage of completion of the property. Others issue a partial assessment as of the date of first occupancy and may continue to provide an allowance against portions of the building that have not yet been occupied.  Developers should be prepared for the most probable and possible outcomes of each jurisdiction in which they operate.

Post-occupancy

No one likes a surprise property tax bill.  Unfortunately, you can never assume that all assessments and tax bills have been issued. Different jurisdictions complete assessments at different times, and some may send the bills to the purchaser instead of the developer.

In some cases, the new development may not be assessed for several months – or even years – after the property is occupied. In others, the municipality requires taxes to be paid in full prior to issuing an occupancy permit.  You may find you are liable for additional assessments and property tax bills after the development has been sold.  It is vital to have a plan in place and funds available to address these costs.