Rising Taxes Hit Commercial Properties

Landlords adjust to annexation-driven tax increases

LANCE ALLAN

The Daily News

When an unincorporated area of Shelby County is annexed by the city of Memphis, its not just homeowners who find themselves paying more in property taxes. Commercial property owners and tenants, as well as multifamily landlords, also face a higher monthly bill.

Many areas of Shelby County that have experienced commercial growth in recent years face future annexation, a prospect that gives rise to financial questions for everyone involved.

In the Cordova area, when Memphis came in and annexed that area, property taxes went up maybe $1.50 per square foot for many of the tenants, and thats substantial, said Scott Barton, vice president of retail services for CB Richard Ellis. That can be close to 10 percent of your lease costs. For areas that have previously only been encumbered by a county tax to all of a sudden be encumbered by a city tax and a county tax, that can be substantial.

Hitting small businesses. The increase can hurt the bottom line of any business, but small retailers are typically hit the worst.

Common area maintenance charges, which cover costs such as parking and landscaping, combine with property taxes and insurance in a triple net lease, which is a common lease agreement between tenant and landlord. The amount of these charges in Cordova rents is about one-third of a total lease right now.

The taxes and insurance constitute about 65 percent of the CAM charges, said Marvin Palmer, owner of Palmer Brothers Inc., which recently opened a new phase of Cordova Collection on annexed property near Germantown Parkway. I think more landlords probably need to be paying attention to their tax appraisals and tax rates because when CAM gets to be a third of your rent, thats what the tenant is paying, and sometimes they cant pay that. You either end up subsidizing some of the CAM or you end up lowering the rent so that the combined CAM and net rents are low enough that they can afford them.

Controlling expenses. When signing a triple net lease, there is one word to remember net.

The retail (business) signs the triple net lease, and the net means the landlord nets a guaranteed rent, said Danny Buring of The Shopping Center Group Inc. Any expenses which are real estate taxes, property insurance and CAM are passed on to the tenant. The landlord does their best to control these expenses and keep them at a minimum.

Landlords can and usually do add additional property taxes into tenant leases. But those extra costs can be tough on tenants, especially smaller, mom-and-pop establishments.

If the taxes keep going up, they cant raise their rates because the tenants say, Hey, all these other expenses have gone up 10 percent over the five years Ive been here. I cant afford for you to raise the rent also, Buring said.

Multifamily rates. Another type of commercial property is being hit hard in annexed areas, as multifamily residential properties are taxed under commercial guidelines.

Typically in an apartment I rent to a guy, if his rent is $750 a month, he pays his own utilities, but I pay the taxes, said Michael Greenberg, chief executive officer of Makowsky Ringel Greenberg, which has several multifamily and commercial projects in the Memphis area. I pay the taxes on the property, so the tenant doesnt necessarily realize it. The implication for the owner is huge.

Multifamily property owners are taxed at a higher rate than single-family home owners. When an annexation occurs, homeowners see the increase on their monthly mortgage payments. But its not necessarily that simple for apartment landlords.

The landlord is always going to push the rents to maximize them, but now hes got an added incentive to try to get enough of a rental increase to cover the increase in tax, Greenberg said. Theyre going to fight and work like dogs to try to recover that, and they may not be successful. Were still today trying to recover from the annexation in Hickory Hill. We have property there and its taken us a long time to get back to the net income where we were before those properties were annexed.

Development incentive. It has become nearly impossible to develop multifamily units in Memphis without some sort of incentive, such as payment-in-lieu-of-taxes, Greenberg said.

Weve worked the numbers, and if I have two pieces of property with one on one side of the street in the city and one on the other side of the street not in the city, Im not going to get any more rent on the one thats in the city, he said. But my operating expenses are dramatically higher.

There are a few spots in the Memphis city limits that have seen apartment growth, but overall, Downtown remains the lone hotspot in the city because rates are higher due to high demand, Greenberg said.

He said rates in other markets cant recover the taxes as well.

Keeping aware. Although its important for businesses to locate where the customers are, owners also keep their eyes on areas that could see property tax changes.

I can tell you that tenants have a watchful eye on the charges for taxes, insurance and CAM, and they obviously budget those in for their occupancy costs, Barton said. As someone who represents tenants, in many cases, if there is potential for annexation, I make my client aware that its a possibility and what the likely result will be in terms of increased rent.