Property Tax Assessment Methods

January 30, 2012

State and local property tax statutes have a common goal, which is to ensure that owners bear an equal proportion of the tax burden in relation to other owners based on the relative value of their properties. The valuation of real property is at best an inexact science; thus, a state can choose its own method of assessing property so long as it is fair. An assessment made in substantial compliance with the legislative directive will most likely be upheld upon review.

In valuing real property for taxation, the assessor/appraiser uses his or her judgment in considering and weighing all factors that can affect valuation. These factors include the property's location, actual earnings, earning capacity, current use, potential use, cost, current zoning, and comparison with other similar properties. The price paid for property in a recent sale between a willing buyer and seller is considered evidence of its value but may not be conclusive as to the proper valuation. The assessor must also take into consideration other factors such as the method of payment and any abnormal changes in economic conditions.

Most often, the taxation of real property is done on an "ad valorem" basis in an attempt to measure or assess the market or true value of a piece of property. The definitions for "true" or "market" value vary from state to state based on statutory language and judicial interpretation of that language. However, these definitions tend to refer to the price that a willing buyer would pay a willing seller in an arm's length transaction.

There are three basic methods for determining the fair market value of real property. States may use any or all of the three, including combinations or variations, depending on the nature of the property to be assessed. Once a valuation is made using a statutorily approved method applied in a fair manner, the established tax rate is applied to the valuation, yielding the assessment.

One approach for determining valuation is the comparable sales or market method. This method estimates a property's fair market value by analyzing recent arms length transactions for similar properties adjusting those sales prices for any differences between the property sold and the property to be valued. The weighted result is a prediction of what the "market" would yield for the property on a given date. However, if there is no reliable market data, the appraiser will have to turn to another method of valuation.

A second valuation method is based on the cost of the property. Using the cost method, the appraiser will begin with the property's reconstruction or replacement value, deducting estimated depreciation. This valuation is not considered ideal unless any improvements on the land have been recently developed or sold.

Finally, real property can be valued using an income approach, which is most frequently used when assessing income-producing property such as apartments and leased commercial property. The appraiser estimates the annual net income expected to be generated by similar property and capitalizes that income stream into a measure of fair market value.

Copyright 2011 LexisNexis, a division of Reed Elsevier Inc.