The line item for property taxes is often the most costly item in a Low-Income Housing Tax Credit (LIHTC) project's operating budget.
First, it is important to understand that there is no consistency in the valuation of LIHTC projects for assessment purposes. There are differing state laws and conflicting court decisions. Many LIHTC practitioners believe that the federal government can intercede with regard to how LIHTC properties are valued. After all, the Low-Income Housing Tax Credit Program is a federal - not a state - program. However, reviewing courts have consistently found that including the credits in valuation neither violates the Constitution’s Supremacy clause nor federal case law. So, this issue of how to handle valuation for real estate tax purposes is completely a state issue. The primary case in this area is Parkside Townhomes Associates v. Board of Assessment Appeals of York County (1982).
From an assessor’s standpoint, the key is whether or not the state has any guidance in the form of statutes. If not, does the state allow assessors to apply case law when deciding how to handle assessments? If a state does not have a statutory requirement for the valuation of LIHTC projects, it is up to the assessor (within the confines of any state court decisions) regarding how to assess these properties.
As for my opinion on how these properties should be assessed, I believe that first, restricted rents should be used to establish value based on the income approach - not market rents. I also believe (and this is where I differ from many in our industry), that while tax credits are intangible property, they are still a value enhancer for the properties, especially in the early years of the credit period. Most case law says that an intangible asset can add value to a tangible asset. In Roehm v. County of Orange (1948), the court stated that intangible values "that cannot be separately taxed as property may be reflected in the valuation of taxable property." A more closely related case from 1991, Meadowlands, Ltd Dividend Housing Association v. City of Holland, held that in valuing a mortgage interest subsidy for low-income housing, an assessor should take into account the mortgage interest subsidy paid by the federal government to the mortgage lender. Per the court, " although the mortgage-interest subsidy is an intangible, and not taxable in and of itself, it is a value-influencing factor."
Tangible vs. Intangible Benefit
While most state statutes consider LIHTCs to be "intangible" property, the courts have not been as taxpayer friendly. Some courts have concluded that while the credit may not be tangible property, they may still be a "value enhancing" element. This is similar to the position taken in Meadowlands, noted above.
What is an "intangible" benefit? Black’s Law Dictionary defines intangible property as "any property that lacks a physical existence." The Supreme Court stated in Curry v. McCanless (1939), that intangibles are "rights which are not related to physical things…relationships between persons, natural or corporate, which the law recognizes by attaching to them certain sanctions enforceable in courts. The power of government over them and the protection which it gives them cannot be exerted through control over a physical thing. They can be made effective only through control over and protection afforded to those persons whose relationships are the origin of the rights."
A central question is whether an intangible asset can add value to a tangible asset. Case law says yes - and truthfully, so does common sense. In Roehm v. County Board or Orange (1948), the court stated "Intangible values that cannot be separately taxed as property may be reflected in the valuation of taxable property." The Meadowlands case cited above is closely related. It was the holding of the court that in valuing a mortgage-interest subsidy (this is similar to the HUD Section 236 and Rural Development Section 515 subsidies) for low-income housing, an assessor should take into account the mortgage interest subsidy paid by the federal government to the mortgage lender. As stated in the decision, "although the mortgage-interest subsidy is an intangible, and not taxable in and of itself, it is a value-influencing factor." Based on a consistent line of reasoning in court cases, at least some of the value associated with the LIHTC should be included in property valuation.
Market Rents vs. Restricted Rents
A clear majority of courts have ruled that restricted rents must be taken into account when assessing the value of an LIHTC property. But, what about other subsidies - such as rental assistance? The majority of court decisions addressing whether government subsidy impacts the value of low-income properties and should be included when determining value for property tax purposes have concluded that the subsidy may be considered. The general theory of the courts has been that a low-income housing contract in an investment tool for maximizing the value of the real estate. However, rents that are restricted to levels below the market do have a negative impact on value. In 1995, the Oregon Supreme Court in Bayridge Assoc. Ltd. Partnership v. Department of Revenue ruled that rent restrictions are "governmental restrictions" and require "a reduction in valuation." In the same case, the court found that the LIHTC was an "intangible" benefit.
Relevant State Court Decisions
The key issue in virtually all state court decisions has been "tangible" vs. "intangible."
Huron Ridge, LP v. Township of Ypsilanti (2005) - The Michigan Tax Tribunal determined that tax benefits were tangible since they would be part of a purchaser’s evaluation. But, what if the credits had all been used? The court ruled that if the tax benefits are transferable, they must be part of the valuation. This clearly inferred that if such benefits were not transferable (i.e., no longer existed), they would not be part of the valuation.
The most dramatic case with which I am familiar was the case of Meridian West, a LIHTC property in Miami, FL. It was originally assessed at over $15 million, but was reduced to $6.3 million after a formal appeal - a decrease of 58%.
Some state courts have ruled that credits should not be considered in valuation. These include:
Missouri - ruled that credits are not a characteristic of the property, but are assets with direct monetary value. However, the value is attributable to the owner -not the property; and
Arizona - here, the key element in value is the restricted income - not the credits.
Other states that do not include the value of the credits include Washington, Montana, and Oregon.
On the other side of the ledger, a South Dakota court ruled in Town Square LP v. Clay County Board of Equalization that "tax credits make ownership of the subject property more desirable…and enhance the value of the property in the marketplace."
In Epping Senior Housing Associates, LP v. Town of Epping, a New Hampshire court ruled that since credits are part of the bundle of rights enjoyed by the owner, they should be part of the valuation.
The Kentucky Board of Tax Appeals ruled in Brandywine Apartments, Ltd. V. Madison County Property Valuation Administrator that appraisers must consider rent and income restrictions when determining the value of a property. In this case, the Richmond, KY assessor had valued the property at $1.04 million for 2014 and 2015. The owner claimed the value was $580,000 due to income and rent restrictions, and the court agreed.
In 2013, the Supreme Court of Mississippi determined that the state law requiring ignoring the value of the credit in assessments is constitutional. Mississippi law requires that the value be determined based on net operating income.
State Statutes
To my knowledge, 22 states legislate the valuation of LIHTC projects, thus avoiding the constant court challenges. However, the law remains unclear in many of these states since few have addressed both whether the LIHTC can be valued and restricted rents should be used.
Several states require assessors to use the income approach to valuation and fully exclude the tax benefits. These include New York, California, Maryland, Nebraska, Illinois, Iowa, Georgia, Utah, Pennsylvania, Arkansas, Wisconsin, Colorado, Florida, and Indiana. All these states exclude valuation of the credit.
States that have determined the credits to have tangible value include North Carolina, Connecticut, Kansas, Tennessee, and Idaho.
Valuation Methodology
I strongly believe that if the value of the credit is considered in the valuation of a property, only the remaining value should be considered. For example, after all credit has been claimed, the price offered by a new purchaser will be substantially less. After all credit has been claimed, the value of the credit is zero and the valuation of the property should be based solely on the restricted rents based on the remainder of the extended use agreement.
After reviewing many state laws and court cases on the valuation issue, I have reached some personal conclusions:
Tax credits are intangible property;
Tax credits are so clearly integral to the economic viability of a project that they must be considered in the valuation; and
While part of the property value is related to the credits, as the property ages the value of the credits diminishes.
These are just my observations regarding valuation of LIHTC properties. Every owner should be familiar with the procedures in their own states and be prepared to consider those procedures during the planning and underwriting phases of a project.