Time for a reset on the property tax in NYC
As many of us can appreciate, the topic of taxes, and especially the property tax, has been polemical for centuries. The topic of taxes is a frequent theme in the Bible. Once again, it is front and center in New York City. We have to go back to the early 1990s for the last time the topic was taken up in a serious way. We have been living with the existing arrangements since that time with only some minor tweaks along the way.
It has become clear that there is a widely held conviction that the property tax is not as fair and equitable as it could be. It probably comes as no surprise that some of the strongest reactions to the present system are emanating from the outer boroughs. We have all heard the stories about the two neighbors with nearly identical properties who are paying different amounts of property taxes. There are always many reasons for the latter, but, the consensus is that it is time to address some of the disparities.
In its preliminary report, the New York City Advisory Commission has released its findings and recommendations. We appreciate the executive summary parts of the report. But, for those who want to drill down on the details, there is a lot of excellent content in it.
As most are familiar with there are four classes of property in the city. The treatment of Class 3 Utilities, and Class 4 Commercial will be untouched by the recommendations in the report. Commercial properties are evaluated using longstanding practices of cap rates and discounted cash flows. There really is no need to change these practices except one may always debate the fine points. In regard to the Utilities, the state also has considerable power in how the process is conducted and these practices are longstanding.
What remains is Class 1 that includes 1-3-family homes and Class 2, which includes rental buildings, co-ops and condos. Class 1 has 1,095,061 residential units and Class 2 has 1,921,292 residential units. These are very large numbers even for a very experienced assessment organization.
The Commission recommends moving away from the Billable AV concept with all of the adjustments and strongly recommends moving to a system of assessing every property in the residential class at full market value. In addition, the new Residential Class would include 1-3-family homes, co-ops, condominiums, and rental buildings with up to 10 units. This combination represents more of a melding between existing Class 1 and 2 designations. However, there would still be a Class 2 designation under the recommended proposal for rental properties with greater than 10 units.
The change is recommended because the existing Class 2 designation properties (rental buildings, co-ops, and condos) are assessed as if they were rental properties. Given the great appreciation in values in this class over time, the finding is that using the rental property assessment approach is not reflecting the large gains in valuation over time in the class. Over longer periods these differences become heightened in the current real estate environment. Of course, we have been on a steady upward trajectory since the 2008 crisis.
Valuing all of the properties in the proposed Class 1 residential designation would be very difficult indeed. In my estimation, without knowing all of the variables, it is not hard to see how the task could require multiple years. Given this reality, the Commission recommends employing a sales-based methodology for the residential class. Clearly, the emphasis is to move to a real market-based assessment method. Given the reality of the jump in assessments that is likely to take place in individual properties, the Commission proposes phases in market value changes over five years at 20% per year. A major departure from the present system would be to remove AV caps entirely. Once again, the idea is to firmly adhere to real current market values.
To reflect many of the realities of life in the city, there is an acknowledgement that those on limited incomes who have had great appreciation on their properties should not be displaced by the new basis for the property tax. The Commission recommends that a partial homestead exemption for a primary residence for owners with a specified level of income be granted. The level is not specified and would be the subject of considerable debate in the City Council and with other interested parties. Nor is it clear that the specified income level would be indexed over time. Other abatements would be curtailed.
Another consideration of the property tax burden on low-income owners would be to create a “circuit breaker” that would presumably limit the level of property tax paid to income. Once again, there is no mention of indexing such a level over time but this possibility could be considered in the final iteration of any proposal to be adopted.
The existing tax rate has not been changed for about 10 years. There is this concept of recalibrating the burden among the different classes of properties and then setting the tax rate for each class. Apparently, this practice has caused some confusion due to the complexity. We cannot go into all of the niceties herein, but, suffice it to say, the system could be more transparent. The Commission recommends that any new system would freeze the relative shares of the classes of properties for five years. Presumably, the freeze would be imposed to provide breathing room to implement the new system. After the five-year period, an evaluation would be done to determine if the different classes continue to accurately reflect their relative market shares and the consequent relative tax rates and burdens.
Whenever a property turns over, said property would come on the rolls at the new market value. This is the practice in California and many other states where property appreciation over time has been relatively strong. This proposal enhances fairness. For other properties, there would be some kind of transition to the new system.
The final recommendation is that there should be a comprehensive review of the system every 10 years. One could envision that there would be more to address if valuation increases are ongoing. It is not quite clear what would transpire if we hit a recession and properties were either experiencing declines or a slowing in the rate of market increases. We know that there will always be a need to have a sound yield from the property tax given the spending pressures are many. Many of the city’s fiscal practices are such that the differing rates of growth in revenues versus expenditures should not put the fiscal integrity at risk.
Given all of the changes that have been proposed, we believe it will be difficult to make the update completely revenue neutral. After all, the update is proposed precisely because the current system is not capturing the large appreciation that owners have experienced, especially over the last decade. Income limits and circuit breakers will serve to limit some of the effects. But no caps on appreciation over time will probably greatly affect the ultimate outcomes. We look forward to the ensuing debates.