Paradigm Tax Group Industry News

Paradigm Tax Group Industry News

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    Mixed-Use Properties Create Valuation Challenges for Texas Appraisal Districts

    21 Feb, 2018

    By Alex Pace, Managing Consultant, Dallas

    Mixed-use properties continue to gain popularity in response to the growing desire for the convenience and walkability of urban living. Savvy real estate developers and owners understand that providing a vibrant mix of office and living space, restaurants and retail under one roof allows them to meet – and capitalize on – a variety of consumer needs. While implementing a “live-work-play” concept certainly adds value to a project, the relatively new and complex nature of a mixed-use property is creating valuation challenges for Appraisal Districts that could be costing you.

    The valuation approach Appraisal Districts have taken is to separate each component, value it, and then add them together. For example, the office portion is worth X, the apartments are worth Y, the retail is worth Z, and the value of the building is worth X+Y+Z. However, this method raises a number of questions. How does one break out the properties from one another? How can one separate the expenses for only the office, apartment, or retail on the profit and loss statements?

    The answer? One cannot. Unfortunately, however, Appraisal Districts continue to try. Part of the reason Appraisal Districts do this is because they do not know what cap rate to use on a mixed-use building. By separating the building by property type, they can then develop a pro forma that allows them to use their cap rate for each property type. This enables them to use all of their data on cap rates to reach a value they feel is justified. Often times, this will lead to a value higher than market value, thus causing the owner to pay more in property taxes.

    This practice raises additional questions about whether this method is even appropriate to begin with. What appraisal theory allows you to value parts of a building and add them together? If they separate the property into specific property types, does that mean you can you use equity for each property type, add them together, and derive a value? Or can you only use equity argument to compare the whole development with another mixed-use building? These are all important questions that must be asked.

    There are multiple ways to derive a cap rate that will allow the Appraisal District to value these complex properties more accurately. One way would be to look at recent sales and divide the net operating income by the sales price. This, of course, only works if you have both pieces, which can be difficult in a nondisclosure state such as Texas. Other ways to develop a cap rate include band of investments and summation technique incorporating expected inflation rate, real rate of return, risk, and recapture rate. These are all proven and acceptable approaches to determining a cap rate that can be utilized in valuing a mixed-use building.

    Once a cap rate is determined, you can simply look at the profit and loss statement to determine the revenue, expenses, and the net operating income for the property. Now an appropriate taxable value can be placed on the property for the tax roll.  It is imperative to have an experienced professional review your mixed-use property valuation, as it requires expertise to derive a truly fair market value and its associated property tax burden.

    Topics: Real Property, Multi Family, Retail, Office, Hospitality, Paradigm Info