Office owners across the country, coping with more vacancies and lower demand that reduce building values, now face another issue: higher property tax bills.
Property tax appeals are hitting local assessment officials as the chasm widens between what an office building is now worth based on its potential rental income versus the value determined by an assessor. That divide is expected to not only compound challenges for landlords looking to refinance their loans, but it signals trouble ahead for governments relying on revenue generated by property taxes, industry analysts say.
"Assessments are far exceeding what we're seeing on transactions," Shane Moncrief, a principal with global tax services provider Ryan, told CoStar News. "Tax assessors are always looking in the rear-view mirror because that's the data they have, but as the office market continued to deteriorate throughout last year, most assessors had already set their values based on looking back at 2022."
That's a growing problem for investors, Moncrief added, who watch what's ahead.
"They're always looking in the future and, by definition, at the fair market value of an investment today," he said. Those differing viewpoints "become most acute in the office market we're in for office taxpayers. In an upmarket, many won't experience the tax increase right away, but in a down market people are more cognizant of down income."
To be clear, office owners have long benefited from local assessors' backward-glance approach to valuing properties. Throughout the years leading up to the pandemic, some owners experienced record spikes in their portfolio values that far outpaced any tax bill increase.
However, the higher bills these days are an additional pressure point for owners already struggling in the face of myriad factors pushing the value of their properties lower and lower.
Needed Revenue
Property tax revenue has long been a cornerstone for most municipalities' annual budgets, paying for services and operations that keep cities running. With the threat of widespread appeals among landlords looking to lower their assessed valuations, government officials are facing gloomy scenarios in which the income stream they had long relied upon could be just a fraction of what it used to be.
The collective value of office properties in New York City, for example, has dropped about 40% below pre-pandemic peaks, according to the local comptroller's office. That could result in a budget shortfall of more than $320 million next year and up to $1.1 billion by 2027.
Office values across the United States have decayed by as much as 15% since 2021, according to CoStar analysis, with larger, trophy properties and larger, institutional-worthy properties falling at a rate nearly twice that as the buyer pool for those types of buildings has all but evaporated. The downward spiral is forecast to continue through at least mid-2025 as rising vacancy rates and sinking rents pressure a burdened market.
That decline has translated into more than $664 billion in lost value for the national office market between 2019 and 2022, according to recently revised figures detailed in a report published by the New York University Stern School of Business.
"Appeals will be more or less universal," said Phil Mobley, CoStar's national director of office analytics. Many will be concentrated in large cities that have reported the biggest declines in rent and values, he added, and even when hints of recovery begin to emerge, it will be uneven across different types of office properties. "The long-term demand environment is still far from certain."
Already, cities that have faced some of the steepest drops in office valuations have reported record spikes in appeal requests from commercial property owners hoping to bring an assessor’s estimate of a building's market value more in line with what they feel it's now worth.
Taking the Hit
Officials in cities such as San Francisco, Chicago and Boston have projected the total assessed value of office buildings in their jurisdictions will fall by hundreds of millions, if not billions of dollars, according to multiple warnings issued by local comptroller and budget officials' offices.
Lost commercial real estate tax revenue in San Francisco, for example, is projected to contribute to a shortfall of as much as $1 billion over the next few years as office buildings in the city sell for just a fraction of their previous price tags. The number of commercial and residential property tax appeals in San Francisco multiplied by more than three times in 2023, according to the San Francisco Assessment Appeals Board, soaring from the roughly 1,260 filed in 2020 to upward of 6,835 last year.
Some of San Francisco’s highest-profile office landlords submitted appeals last year, among them Boston Properties for Salesforce Tower and Hines for its 43-story Park Tower.
Officials in Philadelphia — a city that has posted some of the lowest office usage rates among the country's largest markets — expect the total assessed value of office properties to drop by roughly $1 billion, something local leaders are taking into account in drafting its fiscal year 2025 budget proposal.
"It's a big concern and something that we’re building into our plan," Finance Director Rob Dubow said in a statement. "It will be a hit to revenue.”
The projected deficit is largely due to a spike in appeals, Dubow said, with landlords fighting back against rising property tax bills as depressed leasing activity and record occupancy losses push the values of their properties lower.
Nightingale Properties and Wafra Capital Partners, the joint venture owners behind Philadelphia's two-building Centre Square, negotiated a $113 million decrease in the assessments for the complex at 1500 Market St. The assessed value for the property, which had fallen into receivership for nearly a year, is now set at $275 million for 2023 and $250 million for 2024. That's down from the previously assessed value of $362.6 million, a drop that has resulted in a combined savings of nearly $3 million for Centre Square's owners across both years.
'Value Destruction'
Not every landlord is as fortunate, however, and many have to juggle various properties that adhere to different assessment schedules.
While some cities operate on an annual basis, others may have assessment cycles of up to five years, meaning some owners are paying taxes on values determined before the pandemic's 2020 outbreak. What's more, Ryan's Moncrief said, some assessors aren't inclined to reduce property tax bills, given their role in local economies.
"The assessors in some jurisdictions are hesitant to reduce values because those reductions could get very political," he said. "When that value drops, those jurisdictions feel it."
Even so, "the big divide is growing," Moncrief said of assessed versus perceived values. In Boston, for example, Ryan collected data on recently sold properties and found that the collective sales price compared to other recent purchase prices was more than 160% of their assessed value, a trend that could fuel appeals in the foreseeable future.
"Our clients saw a lot of value destruction throughout 2023, but then they get their tax bill late in the year and it's based on a value that was based on data reported in 2022," he said.
And if a property faces steep occupancy losses or declining rents, those property tax bills are even more out of step with what landlords will likely face throughout the next few years, he added: "Those values and tax assessments and cash flows are not matching up."