During a recession, transaction volumes typically decline. Owners of real estate tend not to sell in down markets unless they are forced to. They are typically holding on to the assets until NOI’s increase and values recover. Due to COVID, transaction volume in Q2-2020 and through the rest of the year has seen a dramatic decline. Owners are choosing to refinance and extend hold periods rather than sell unless they are in a distressed situation.
Tax assessments typically increases step by step with market values during an upmarket. However, they do not decrease in the same manner during a down market. The reason is due to the difference in valuation methodology between assessors and investors.
Expected Value Theory states that the value of an asset is based on its future cash flows. This, by definition, is speculative and unknown. Effectively, valuations are an educated guess based on some set of information. Real Estate investors tend to follow that theory.
However, assessors are constantly defending their values. When taxpayers and assessors cannot come to an agreement, then they end up in litigation. In court, as you can imagine, both parties have to present concrete facts – or to use another term, evidence. For this reason, they are using information that has already occurred, whether it be financial performance of an asset or general market metrics such as occupancy, rents, cap rates, etc. Said another way, the only way for an assessor to back up their valuations is with historical information, not speculative information.
With that said, during an upmarket when transaction volume is high, it gives assessors more ammunition and support to increase values. On the flip side, during a down market when transaction volume is low, assessors have little information or support to decrease values (even if the desire is there).
It is likely that assessors may not increase values much in 2021, but they will not decrease values arbitrarily. Even if some assessors have a soft heart and would be willing to decrease values, they may not have the “evidence” to do so. Taxpayers will have to fight and appeal to achieve the results they believe is appropriate.
To be fair, transaction volume is not the only reason why assessments do not decrease during a down market. However, it is one of the most significant reasons.
To learn more about how property tax issues can affect your investing strategies, please reach out to Tim Feagans directly at firstname.lastname@example.org.