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Texas Legislature Close To Passing Highly Contested Property Tax Reform

Property tax reform has been a hot button issue at the Texas Capitol this legislative session. 

Republican lawmakers — Gov. Greg Abbott, Lt. Gov. Dan Patrick and Sen. Paul Bettencourt — are battling this session to require local municipalities to seek a public vote if property values rise above 3.5% year over year. The current threshold is 8%.

Property tax reform is necessary for the commercial real estate industry, Transwestern Managing Director Brett Williams said. Higher values mean dishing out more for property taxes, and those hikes are passed down to tenants.  

Transwestern Managing Director Brett Williams

In mid-April, the Texas Senate passed Senate Bill 2, dubbed the Property Tax Reform and Relief Act of 2019, authored by Bettencourt (R-Houston). The bill decreases the rollback tax rate, which is the threshold for which taxpayers can challenge an increase through a mandatory election. It also imposes a rollback rate of 2.5% for school districts. 

The good news is that property tax is a transparent tax, but the bad news is owners are complaining about how much it costs and how much it has increased, Locke Lord LLP partner Robert Miller said.  

"With all of the economic and population growth in Texas, valuations are going up higher and higher, continuously, which leads to higher property taxes," said Miller, who has been working on property tax reform for 12 years. "The challenge is that voters know exactly how much they are paying in property taxes. However, with sales tax, most people don't notice it since you pay it every day."  

The bill is in a conference committee, which works to merge the language in SB2 and House Bill 2, sponsored by Rep. Dustin Burrows (R-Lubbock), and then will prepare a conference committee report, which is essentially the combined bill.

This process could take about a week, Miller said. The House deadline to adopt resolutions is May 26. Both bodies would then have to vote and pass the bill as is, he said. The 86th Texas legislative session will end on May 27. 

"Take it or leave it," Miller said.

Many cities, counties and other tax agencies are against the proposed property tax reform, Miller said. They argue that the bill will cost local governments millions of dollars in revenue and limit their ability to provide adequate funding for public safety, schools and roads. 

But he believes politicians are pretty close to passing property tax reform.

"Yes, I think it is going to get done. [Lawmakers] came into the session saying that they wanted property tax and school finance reform. I think they both will be done."  

A graphic shows the percentage change by the year of market valuations in Houston

The lower rollback tax rate will help prevent the rapid increase of property taxes, which can put a financial strain on homeowners and business owners.

Commercial property values across all property types in Houston have risen by nearly 40% over a five-year period ending in 2017, according to the Houston Building Owners  and Managers Association. Property values increased from $24.4B in 2013 to $33.8B in 2017. 

Valuations trending up is an issue for property owners because the building's bottom line does not increase as fast as the property taxes do, Williams said. It isn't often that revenues increase 8% year over year to offset the tax increases.  

The burden to the building's operating cost is trickled down to the tenants, which are often required to pay a prorated share of property taxes, Williams said. When a company has a bigger tax bill, that can mean smaller bonuses for employees, hiring freezes and project delays or cancellations.  

Unlike in single-family residential — where homeowners can apply for a homestead exemption that provides a 10% year-over-year cap on property values increases — there is no valuation cap nor a requirement to disclose the sales price for a commercial property, Williams said. Therefore, values can rise as high as the taxing agencies determine and there is no official record of property sales that can be used to set or negotiate the actual property value.  

Commercial property owners can protest property values through the appraisal districts. Tax consultants who specialize in property valuation argue that the values are overstated on behalf of the property owners. Depressed property valuations are often justified by underperforming vacancy and income, a need for major capital improvements or architectural barriers, Williams said. 

If a property owner still isn't satisfied with the property valuation after the appeal process, the owner can sue the appraisal district. Some tax consultants are also attorneys.

The number of lawsuits against appraisers is on the rise in Houston. The average number of claims went from 2,600 filed annually from 2010 to 2012, to more than 4,100 claims a year from 2014 to 2016, according to the Houston Chronicle

More lawsuits equal more cost to local governments, Miller said. Between 2012 and 2016, the cost of litigation for the Harris County Appraisal District increased by 66%, from $9.4M to $15.6M, per the Houston Chronicle. In 2016, Harris County, Houston and Houston Independent School District lost about $60M in property tax collections due to successful lawsuits, which was expected to climb to $70M the following year. 

However, in the last few years, property values in Houston have decelerated, according to Houston BOMA. Between 2016 and 2017, values rose by only 3.84% to $33.8B, compared to a nearly 22% change between 2012 and 2013.     

Downtown Houston skyline

A slowdown in property valuation is often an indicator of the sluggish local economy, Williams said. In Houston, the main culprit was tanking oil prices, which sent the office market in disarray with record-breaking vacancy. 

According to CBRE market research, total office availability, which includes direct and sublease space, was 22.4% for the first quarter of 2019. That is nearly double the amount of available space in 2014, which was the lowest point in 10 years. Despite the rising population and job growth rate, there is not enough demand for office space to offset the glut of space on the market.  

While Houston has stagnant property values, other metros like Austin and Dallas have skyrocketing values.  

"It is a cyclical problem that comes and goes with the local economy," Williams said. 

Higher property taxes could mean fewer companies opening and relocating in Texas, Williams said. When he testified to the Texas Senate Ways and Means Committee in 2017, several companies said they were considering non-Texas locations due to the state's rising property taxes.

Texas does not have a state income tax, which is attractive to many companies, but that can be outweighed if property taxes increase. Many local taxing agencies offer tax abatement programs to stay competitive. 

"If taxes in Harris County significantly increase, companies may choose to open locations in surrounding counties, other parts of the state or other states instead," Williams said. "Property taxes are one of many areas companies have to consider when determining where they are going to do business.”