We have written a couple of posts about the Lancaster County-wide Property Tax Reassessment.  In this post, we want to focus specifically on commercial and industrial properties.  This includes any sort of income producing properties, including apartments and other rental properties.

As we explained before, the aim of the 2018 Reassessment is to make the assessed value of property equal to the actual fair market value of that property.  That is relatively easy to do with residential property – the County can see what properties of a similar size and location have sold for, and compare that to your residential property.  But for commercial property, that is much more difficult.  Your commercial property is different from most other properties. 

Because of this, the value of an income producing property is usually determined by the “income approach” to valuation.  Pennsylvania Courts have explained: “The income approach is the most appropriate method for appraising a property typically purchased as an investment,…because such a property is valued by a purchaser for its ability to produce income.” The income produced by a property is found by subtracting the property’s expenses from the net income. Unfortunately, this process is not as simple as it seems.  The County does not look at your actual expenses and income derived from the property (this is called a “value-in-use”).  The assessment is based on a “highest and best use” of the property.  This is where a conflict happens.

Sometimes an assessment will be based on projected income values, or expenses will be based on average expenses for a similar property.  For example, the County may use a rent figure of $4.75 per square foot for warehouses.  But your warehouse only generates $4.00 per square foot.  The Board of Assessment Appeals would look at why your lease rate is less than the projected.  Maybe your lease rate only reflects your actual use, but not the highest and best use.  On the other hand, maybe there are very good reasons that your rental rate is limited.  Often this includes having a location that is difficult to reach for large trucks, or having a building that is not served by utilities that some industries need.  In this case, your rental income is not just the value to you, but is the actual value that any owner would be faced with. The same kinds of differences happen with apartments, office buildings, industrial buildings, shopping centers and just about any kind of income producing property.

In addition to differences between income, sometimes a property has actual expenses that are higher than projected.  If your office building has high expenses just because you clean the windows once a week, that is probably a “value-in-use” number.  But if you have an old building with really high HVAC costs, this could be a reflection of the actual value.

Finally, sometimes the capitalization rate is different for different types of properties.  To greatly over-simplify commercial property transactions, the fair market value of an investment property to a buyer is the net income divided by an appropriate cap rate.  For example, the expected, average cap rate for a luxury hotel is much lower than for an economy hotel.  If the County mistakenly labels your hotel as a luxury hotel, then the assessed value will be much higher than the actual fair market value of an economy hotel.

Sometimes this difference between valuation can have a very large impact on the assessed value of an income producing property.  Because this can be a complicated measurement, a good commercial real estate appraiser is a must in these appeals.  Also, because the difference in assessed value – and therefore the property taxes collected – is so large, these appeals are very often opposed by the taxing bodies.  Consulting an attorney with experience in commercial property assessment appeals and preparing your best possible case is essential.

Aaron Marines is an attorney at Russell, Krafft & Gruber, LLP, in Lancaster, Pennsylvania. He received his law degree from Widener University and practices in a variety of areas including Commercial and Residential Real Estate, Land Use, Land Planning and Zoning matters.