By Carlos Villatoro, Senior Managing Consultant, Dallas
A prominent national industrial REIT client recently asked for a historical summary of property taxes for a distribution warehouse they were considering purchasing. We were alarmed to see the property had experienced seven consecutive years of significant increases and had already budgeted for another increase in the upcoming year. Unfortunately, this trend is not specific to that one property alone. By 2020, I will not be surprised if we will have seen a decade of continual property tax increases for nearly all industrial properties across the Dallas-Fort Worth (DFW) area. In order to minimize and manage these increases as much as possible, it’s crucial to understand why and how they are happening in the first place.
The industrial warehouse boom
The notion of a decade of continued increases will probably not be taken lightly by industrial property owners and tenants alike, and many are probably wondering how this came to fruition. The answer is twofold. In 2010, industrial assessments had fallen to a low base following the 2008/2009 market crash. Since then, the industrial market in DFW slowly and quietly became a safe commodity to invest in as the U.S. economy naturally began to rebound. The steady labor growth due to population and businesses moving to DFW, the rapid emergence of e-commerce, and our centralized location with no immediate competing metros has all contributed the robust industrial market that it is today. Secondly, the County Appraisal District community that is responsible for assessing properties according to market has wisely followed and fairly applied these market growth trends to their valuation models.
The industrial warehouse boom is no longer quiet and money continues to be poured into this safe commodity by investors and developers from all over the country. All signs point to more growth for at least two more years. A panel of industry leaders at this year’s Bisnow Industrial Logistics Summit all agreed that DFW is now considered one of the nation’s top tier industrial markets. Jones Lang LaSalle’s 2017 4th Quarter Insight reports 19 million square feet of distribution space is currently under construction, and based on current demand, the vacancy rate is not expected to increase. Duke Realty reports that over half of their projects under development in DFW are not speculative and are already preleased. DFW closed out the year with a record absorption of 25.9 million square feet and close to a 5% increase in asking rental rates compared to last year, according to Cushman & Wakefield.
The problem with mass appraisal models
Like I said, county appraisal districts utilize market data and growth trends for their valuation models. Appraisal officials across DFW are well-aware of current market reports and their offices become a hub for actual data when they collect the financial information during the annual appeal process, which makes them difficult to argue against. The appraisal officials then process this data into their system and apply them to their mass appraisal income models to spit out a value assessment every year. As a former Dallas County commercial assessor, I understand that the counties generally pick market components that are the most advantageous to them, such as the higher range of rental rates, lower end of vacancies, and lower end of capitalization rates.
How to minimize property value increases
The appraisal districts mentality of “throw mud at the wall and see what sticks” must be fought against through the annual appeal process. The key is understanding the assessor’s mindset that, as long as the market is healthy, they will be content achieving fair incremental year-over-year increases that can easily be explained to tenants with anticipation. What I’ve seen work is anywhere between 4-10% increases each year after all appeal recourses have been exhausted. This translates to around a 55% increase in market value of the asset over the seven-year time frame of historical assessments, which is commensurate with real market conditions.
A prudent owner should have quality tax appeal representation with local expertise that understand each county’s appraisal office and that will communicate an aggressive appeal strategy and expectation that all parties involved can agree on. It is equally important to have annual tax budgets completed by your tax consultant at least a year in advance to prepare tenants for these increases. While a rising market is always good for the investment, the rising taxes that come along with it can keep owners on edge when it comes to prospective tenants filling vacancies and tenant retention that have expiring leases. Our mission is to keep bottom lines healthy by appealing these proposed tax increases and keeping them as low as reasonably possible.
Don't forget, the Texas Real Estate Appeal Deadline is May 15th. Click here for a comprehensive list of all the new, earlier property tax deadlines for Texas in 2018.