United States

Property tax planning in an era of unpredictability

Improve business results with proactive property tax management

MANUFACTURING INSIGHTS  | 

Opening any newspaper, turning on a television, or driving through the neighborhood–one quickly observes the market impacts of current financial uncertainty. To quote Bob Dylan, “The times they are a changing.” With the economy in question, many investors hesitate. Even the oldest investments in real estate have proven not to always be a safe investment. Investment property has recently experienced increased vacancy rates, reduced values and an unpredictable future. As a manufacturer, the risks and rewards of real estate ownership can be challenging, making strong property tax planning an important part of any investment decision.

The market for manufacturing facilities is constantly in flux, and tax rules surrounding manufacturing applications are specific. As a result, companies can find themselves needing to understand the property tax implications of common business decisions. For example, to meet current and prospective needs, should one buy an existing facility and modify it, or construct a new one? 

From a property tax planning perspective, it is important to realize that adjustments are required to determine market value based on current economic conditions and other property characteristics. Unique properties do not possess the same potential for modification as more standard facilities. For example, ethanol plants are not as easily converted to alternate use as, say, a bank building, which could be transitioned into a mainstream office building.  As a result, one would need to consider the potential future use of the ethanol plant when determining the overall value for property tax purposes. Additional factors would also need to be considered, such as governmental regulation and subsidies that influence the unit price per gallon. For example:

  • Almost  two dozen ethanol plants are currently idle (12 percent of 211 nationwide), with half of those (six percent) in bankruptcy [1]
  • The U.S. Environmental Protection Agency's proposed renewable fuels standards call for an increase in ethanol production from nine billion gallons in 2008 to 36 billion gallons by 2022[2]
  • Under those standards, 15 billion gallons must be corn-based, and the other 21 billion gallons would come from other biofuel sources such as willows or sugarcane. Such a provision will effectively freeze the number of corn-ethanol plants that can be built[3]

Without taking these details into consideration, an ethanol manufacturer could not effectively predict the full financial impact of a proposed real estate investment.

Property taxes are the largest controllable component of many companies’ state and local taxes. Keeping property tax liability from getting out of line can require additional focused support. When determining present and future facility needs, manufacturers and their development teams should be having discussions with property tax professionals to understand the tax implications, in addition to the functional value, of options under consideration.

In another example of how this information can impact business decisions, assume a specialty manufacturer seeking a new production facility is focused on new construction.  An existing facility, previously used for small engine manufacturing, is available for $65 per square foot less than new construction, but would require an additional upfront investment in electrical power.  An analysis of the taxable values of both facilities demonstrates that the projected property tax savings of the existing facility (approximately $150,000 annually) far outweighs the upfront cost of adding power.  Without the property tax analysis, the company may make a business decision that has short-term benefits but long-term costs that eventually erode that initial benefit.

Making property tax planning a habit

It is extremely easy for manufacturers to overpay real estate and personal property taxes.  Assessors may overvalue properties. Companies can miss exemptions. Many companies pay both real estate and personal property taxes on the same assets. There is a steady stream of decisions that can affect property taxes, and these decisions are easy for most people to overlook.

Regularly and proactively reviewing property tax values can result in more accurate property tax assessments. An appropriate valuation entails examining numerous variables specific to each property, many of which may result in a lower valuation and associated property tax. Bankruptcies, capacity, margin declines, debt, and other risk factors haunt the bottom line. A comprehensive property tax review will include both real and personal property tax considerations, providing manufacturers with the insight needed to best manage property tax values and liabilities. In many cases, the estimated market value may not reasonably take into consideration location, age, type of property, functional obsolescence, economic obsolescence, and other factors. 

Consider the case of a large lighting manufacturer that built a plant for a cost of $8.0 million. At the time of the construction, management anticipated future growth of 20 percent and constructed the facility to accommodate expansion. Unforeseen to the company, several key clients decided to outsource internationally, resulting in a 52 percent reduced production capacity over the next six years.  Based on available market data from recent sales information and quantified economic obsolescence, the company was able to argue for a reduced fair market value of just over $6 million, creating an annual tax savings of more than $75,000.  Again, combining property tax considerations with business decisions can yield savings that may have been overlooked.

In summary, there are valid and accurate assessments, and there are invalid and inaccurate assessments. Therefore, property taxes should not be considered a fixed cost of business. The validity of an assessment can be measured against the supporting evidence from which it was derived, and its accuracy against the very thing it is supposed to predict - the actual behavior of the market. Manufacturers that engage in property tax planning to actively manage their property tax liabilities will be better prepared to challenge over assessments, make informed investment decisions and better control the bottom line.

For further information, please contact Bob Weigel, director, McGladrey LLP.

 

[1] Associated Press. (2013, Feb. 10). Corn shortage idles plants nationwide. USA Today. Retrieved from http://www.usatoday.com/story/news/nation/2013/02/10/corn-shortage-idles-plants-nationwide/1906831/ [2] Energy Independence and Security Act of 2007, RFS program guidelines, 40 CFR 80 subpart M.[3] Ibid.

This document contains general information, may be based on authorities that are subject to change, and is not a substitute for professional advice or services.  This document does not constitute assurance, tax, consulting, business, financial, investment, legal or other professional advice, and you should consult a qualified professional advisor before taking any action based on the information herein.McGladrey LLP, its affiliates and related entities are not responsible for any loss resulting from or relating to reliance on this document by any person.

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