Limitations Of Assessed Value For Commercial Real Estate
HARRISONBURG — It’s easy to base offers and pricing decisions on the assessed value of commercial real estate. After all, the public records are out there for the world to see: Why not click on the assessment tab to get an idea of what a property is worth?
There are a few reasons to shy away from assessed values. It is important to understand how assessments are conducted and why checking an assessment first could trigger a basic human bias that may cause you to pay more, or sell for less, than the market value.
How Are Assessments Completed?
The assessor estimates the value of your property by first examining and collecting information on its physical characteristics. These include the square footage of land and improvements, physical features and the nature of amenities.
For income-generating properties, the assessor requests income and expense information from owners and estimates the amount of income the property can generate if no information is returned.
Assessors visit the physical property to conduct their review with supplemental information taken from historical records and building permits. This data collection takes place during the course of the year prior to the reassessed rates taking effect. For example, the reassessment for 2013 was conducted throughout 2012.
Finally, the collected data is entered into a mass appraisal formula, which values a group of properties as of a given date using common data, standardized methods and statistical testing. To determine a parcel’s value, assessing officers must rely on valuation equations, tables and schedules developed through mathematical analysis of market data.
Attempting to create a correlation between a commercial property’s assessed value and its current fair market value isn’t just comparing apples to oranges.
Let’s break down the shortcomings of using assessed value to determine the current market value of a commercial property:
Assessments are generated based on a general review of interior and exterior features, but often do not take into account items such as deferred maintenance; accurate income and expense statements, and specialized features, such as vital components that substantially alter the value of commercial real estate.
Assessments Not Property Specific
Generally, mass valuation is an automated process that’s based on public information found in tax records, estimated net operating income and building costs. The mass appraisal process determines property values by evaluating a group of properties on a given date using common data. In other words — your property is averaged with other similar properties.
Properties, commercial and otherwise, are reviewed once per year during the course of the year prior to the assessment taking effect. This means, if you are considering using an assessed value to price commercial real estate in August 2013, it is possible the review was completed in February 2012, 18 months earlier. As we have witnessed recently, value can move quickly in both directions, so using a valuation technique that is dated is not a wise idea.
By far, the biggest drawback associated with using an assessed value to set pricing or make an offer on commercial real estate is that the value may not be accurate for your purposes.
This doesn’t mean the assessment model is broken. Keep in mind: all an assessment is designed to achieve is a valuation model that produces equitable distribution of tax liability. On average, the sales price to assessed value for commercial properties in Harrisonburg has been right on the money during the last year.
However, a review of individual property records in Harrisonburg will illustrate some sales over the last year that are 41 to 280 percent of the assessed value. The circumstances of these transactions vary, but the takeaway is pretty clear: Assessments are great for tax purposes, but may not be so hot for individual pricing.
Hidden Danger Within Assessed Values
Anchoring is a cognitive bias in which we use an initial piece of information (accurate or not) to make subsequent decisions. Once the anchor is established, in this case an assessed value, it becomes increasingly difficult to adjust away from that anchor.
Countless studies have demonstrated the power of this bias and we all fall victim. Retail sales offering 50 percent off, the sticker price on cars and assessments are all forms of anchoring that guide us in our daily decision-making process.
Sellers often shout and point to assessed values when asked to price below the magical number. It is a powerful and potentially dangerous anchor.
Don’t fall victim: If you want to know the market value, get an appraisal or broker’s opinion of value.
They’re not perfect, but if you’re going to be anchored to a price, at least make it one that is timely, contains full information and was developed specifically for your property of interest.
Tim Reamer specializes in investment real estate and general ecommercial prepresentation for Cottonwood Commercial. Contact him at him online at www.timreamer.com.