Instead of merely redevelop existing buildings to match their needs, the build-to-suit design calls for the development and building and construction of new structures that match the trade gown of other stores in a national chain. Think CVS pharmacy, Walgreens and so on ...

By Michael P. Guerriero, Esq., as published by Rebusinessonline.com, March 2012

The build-to-suit transaction is a modern-day phenomenon, birthed by national merchants unconcerned with the resale value of their residential or commercial properties. Rather than simply redevelop existing buildings to suit their needs, the build-to-suit model calls for the development and building and construction of new buildings that match the trade dress of other shops in a nationwide chain. Think CVS pharmacy, Walgreens and the like. National retailers are willing to pay a premium above market price to develop stores at the precise areas they target.

In a typical build-to-suit, a developer assembles land to get the desired website, demolishes existing structures and constructs a structure that adheres to the nationwide prototype store style of the ultimate lessee, such as a CVS. In exchange, the lessee indications a long-term lease with a rental rate structured to repay the developer for his land and construction costs, plus an earnings.

In these cases, the long-term lease resembles a mortgage. The developer is like a lending institution whose risk is based upon the retailer's ability to satisfy its lease responsibilities. Such cookie-cutter deals are the preferred financing arrangement in the nationwide retail market.

So, how precisely does an assessor worth a national build-to-suit residential or commercial property for tax functions? Is a specific lease deal based upon a specific niche of nationwide merchants' similar proof of worth? Should such nationwide information be disregarded in favor of equivalent evidence drawn from local retail residential or commercial properties in closer proximity?

How should a sale be dealt with? The long-term leases in place heavily affect build-to-suit sales. Investors essentially purchase the lease for the expected future capital, purchasing a premium in exchange for ensured lease. Are these sales signs of residential or commercial property value, or should the assessor neglect the rented cost for tax purposes, instead focusing on the fee simple?

The simple response is that the goal of all parties involved ought to constantly be to figure out fair market price.

Establishing Market Value

Assessors' eyes illuminate when they see a sale rate of a build-to-suit residential or commercial property. What better evidence of worth than a sale, right?

Wrong. The premium paid in lots of circumstances can be anywhere from 25 percent to half more than the free market would typically bear.

Real estate is to be taxed at its market worth - no more, no less. That refers to the price a ready purchaser and seller under no obsession to offer would agree to on the open market. It is a basic definition, but for functions of taxation, market price is a fluid idea and tough to select.

The most trustworthy approach of determining value is comparing the residential or commercial property to current arm's length sales, or to a sale of the residential or commercial property itself. It is required to pop the hood on each deal, however, to see exactly what is driving the price and what can be discussed away if a sale is irregular.

Alternatively, the earnings approach can be used to capitalize a projected income stream. That income stream is constructed upon leas and data from equivalent residential or commercial properties that exist outdoors market.

For residential or commercial property tax functions, only the property, the cost basic interest, is to be valued and all other intangible personal residential or commercial property overlooked. A leasehold interest in the realty is considered "belongings genuine," or personal residential or commercial property, and is not subject to taxation. Existing mortgage funding or partnership contracts are also ignored because the reasons behind the terms and amount of the loan might doubt or unassociated to the residential or commercial property's value.

Build-to-suit deals are basically building financing transactions. As such, the private plan amongst the celebrations involved must not be seized upon as a charge versus the residential or commercial property's tax direct exposure.

Don't Trust Transaction Data

In a recent build-to-suit evaluation appeal, the information on sales of nationwide chain shops was turned down for the functions of a sales contrast approach. The leases in place at the time of sale at the various residential or commercial properties were the driving consider determining the rate paid.

The leases were all well above market rates, with lease that was pre-determined based upon a formula that amortizes building costs, including land acquisition, demolition and designer profit.

For comparable reasons, the earnings data of the majority of build-to-suit residential or commercial properties is skewed by the rented cost interest, which is linked with the charge interest. Costs of purchases, assemblage, demolition, building and construction and revenue to the designer are loaded into, and financed by, the long-term lease to the national retailer.

By repercussion, rents are pumped up to show healing of these expenses. Rents are not originated from open market conditions, however typically are calculated on a portion basis of project costs.

In other words, investors are ready to accept a lower return at a higher buy-in rate in exchange for the security of a long-term lease with a quality national renter like CVS.

This is highlighted by the noticeably decreased sales and rents for second-generation owners and tenants of nationwide chains' retail buildings. Generally, national retail stores are subleased at a fraction of their initial agreement rent, showing rates that falls in line with open market standards.

A residential or commercial property that is net leased to a national merchant on a long-lasting basis is a valuable security for which investors want to pay a premium. However, for tax functions the evaluation should distinguish in between the real residential or commercial property and the non-taxable leasehold interest that affects the nationwide market.

The proper method to worth these residential or commercial properties is by turning to the sales and leases of comparable retail residential or commercial properties in the local market. Using that method will enable the assessor to identify fair market value.

Michael Guerriero is an associate at law firm Koeppel Martone & Leistman LLP in Mineola, N.Y., the New York state member of the American Residential Or Commercial Property Tax Counsel. Contact him at mguerriero@taxcert.com.