A Look at Rental Value Assessments

by Lindy Davies

There are perennial conversations about the pitfalls of LVT implementation, about assessment procedures and the chronic political problems associated with them, and about the sufficiency of land rent as a revenue source. These issues cause frustration, sometimes, because we lack the resources with which to properly address them; alas, the major research-grant money has not been flowing in. But, maybe there’s more than one way to skin a cat. On its website (www.commongroundnyc.org) New York’s merry band of muckraking autodidacts have decided that if they can’t achieve peer-reviewed statistical depth, well, at least they can point out obvious facts.

Here we are in Manhattan’s Turtle Bay, three blocks north of the United Nations complex. Walking up First Avenue, one sees eight street addresses, from 946 through 962, excluding 958. The assessment rolls, however, show only four. This illustrates the difference between “tax lots” (the unit as it appears on the tax rolls) and “building lots” (the actual structures enclosed within their walls). The aerial photo clearly shows eight buildings on the block (identical tenements, solidly walled apart, are a normal urban feature). It also shows something closer to the market-clearing level of development in this neighborhood. These buildings are along the avenue, where land is costlier than it is on the side streets. Since parcels 946-952 are owned by a single company, they should be considered economically as one parcel. We can see that their upper floors are almost, if not completely vacant.

Today’s municipalities publish assessment figures based (ostensibly, anyway) on the parcels’ market values. This has long been a theoretical bugaboo for Georgists, who correctly point out that the selling price of land is a capitalized annual rental value. If some of this rent is taken by taxation, the selling price will get lower and lower, and therefore the tax rate would have to get higher and higher, reaching the point of absurdity. However: since it is the rental value that interests us anyway, what if the assessor were to simply focus on that? In a place like New York City, where there is a lively rental market for all sorts of space, all conveniently gauged by the square foot, such data is by no means hard to find.

Let’s see how the process would work by running a few numbers on our Turtle Bay example. We will endeavor to estimate every figure on the low side, so as to account for land-bubble volatility, and avoid overly-rosy predictions.

Ground floor rents in Manhattan currently average $149 per square foot. This is a pricier-than-average area, but, some of the leases might not be new — so let’s assume a figure of $120 PSF for the approximately 4,500 square feet of usable ground floor space here. That would bring in a gross rent of $540,000, which more than covers the three parcels’ (2007) annual tax bill of $199,195. No need to bother even trying to rent out those residential upper floors!

Our land dimensions are 100 ft on 1st Ave. by 60 ft in depth (and an additional 20 ft in depth behind 952). We could compute the highest-and-best building size through a process of considering the cost of progressively-higher buildings until we reached a diminishing return from the marginal story. However, in this case even that small difficulty is removed, because zoning allows only ten stories in this area. (That, truth be told, has a lot to do with why these lots have been warehoused for so long, for ten stories is not the sexy choice around here. Chances are, a developer would seek to purchase air rights from 962 next door, and engage in other esoteric maneuvering to secure maximum buildable space.) But, for our present purpose of estimating land rent, let’s assume ten stories. This means that zoning allows them to build a rentable square footage of about 45K, of which ten per cent is at ground level. Residential rents here are high and rising; let’s estimate a conservative $40 PSF. So they could add a gross residential rent of $1,620,000 to their commercial rent of $540,000, for an annual rental income of $2,160,000.

Another thing worth pointing out is that further level of conservatism is built into our value estimates in this example — because as we speak, the Second Avenue Subway is being built, just one block away.

What about current assessments?
Well, they’re, essentially, a work of fiction. For this type of parcel (residential/mixed use) the city derives its estimate of market value from the income they provide the owner. One would think, then, that these underused buildings, in poor repair, would be listed with low values, but… in this case the (2007) assessment figures are typically bizarre: the three buildings on parcels 946-952, taken together, are purportedly worth $6.1 million, while the land beneath them is said to be worth a mere $2.4 million. The annual rental figure that we come up with below, capitalized at 7%, would yield a land-only price of $6.8 million — which, in itself, shows how restrained our land-rent estimate was. On today’s market, ten times $6.8 million would not be out of line for this site. For example: in May, 2006, a 150 x 102 foot lot at Third Avenue and 86th Street (a similarly pricey neighborhood) sold for $73.87 million.

For the privilege of holding on to this really rather astounding potential, the city is currently charging them about thirty bucks per square foot of land area, or $3.79 per square foot of rentable space under current zoning. Clearly, that’s not having the desired effect (except to the owner, who is pretty much loving it).

What should they be charged? Well, we don’t want to penalize anyone for building the ten-story mixed-use building that is so clearly in demand. That building would cost about $12 million, or $266 per square foot1.

If we took a 20-year mortgage at 6% interest2, we’d have to pay about $1,030,000 per year to service the mortgage. New York City has a high repair/maintenance cost, estimated at about $3.80 PSF3, which would cost this building about $172,000 per year. Perhaps the owner could yield 4% ($480,000) for her management of the building (and associated costs). After we’ve paid the mortgage, and the costs of maintenance and management, what’s left over is the rental income attributable to the land itself. Our rough calculation — deliberately underestimated — of this site’s annual land rent is $478,000.

We are suggesting that New York City collect the full rental value of its land and levy no other taxes. What would that mean on this site? That the owner would realize a 4% annual “wage of superintendence” on a $12 million dollar building, while contributing nearly half a million dollars per year toward public goods and services. And the city would levy no other taxes — on anything! Does this seem difficult?

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