Contract Rent v Market Rent—A Tool to Exclude Intangible Value from ad valorem tax assessments

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How do favorable rental rates in a lease agreement affect the value of real estate for tax purposes?  If I appeal my tax assessment, should I show my lease to the assessor?  What effect do rental rates in other lease agreements in the market place have on the value of my property?  Questions just asked of me by a new client.

In a jurisdiction where tax assessments for income producing properties are based on market value, true market value (via an income approach) should be based on market rents, not just rents from the subject property’s lease.  Extracting a market rent can make a world of difference in excluding intangible property value from ad valorem taxation.  The importance of this analysis cannot be understated for many owners of real property where the local assessors rely upon the income approach to value.  Assessors don’t often realize that the rental rate of a subject property’s lease can reflect something other than real property value.  Rental rates are often affected by such factors as tenant credit ratings, negotiating prowess, services provided by building owners, leverage and financing, tenant improvements, and a variety of other premiums that may be unrelated to real property value.  It is important, therefore, to accurately determine (as best as possible) the portion of rent that is attributable to the bricks and mortar.  In the valuation world, this almost always necessarily involves a comparative analysis and the consideration of market rental rates for similar properties to the subject.

Any scenario where the contract rent is higher than the market rent may be an indication that something other than real property value is affecting the contract rent.  If that “something” can be linked to an intangible, then the taxpayer may be able to make a credible argument for a lower assessment.

I would caution any taxpayer whose owns property in a jurisdiction where the income approach is relied upon to value real estate, to have some understanding of what the market place for similar properties will bear with regard to a rental rate and compare it to the contract rental rate.  This will arm the taxpayer with the information necessary to be an informed and effective negotiator.  In the game of real estate tax assessments, information is king.


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