How Do Appraisal Districts Estimate Value?
Most appraisal districts use an inappropriate method to value personal property that typically results in a value two to five times what is reasonable. Appraisal districts use a physical-life depreciation schedule for personal property. However, the tool is not suitable. The personal property values generated by appraisal districts using physical-life depreciation schedules are not reasonable or reliable. If you are using the wrong tool you can’t expect to generate an appropriate result.
The conclusion that appraisal district business personal property schedules typically grossly overstate the market value of property rendered was made after serious due diligence, including reviewing schedules from most states. The source of the appraisal district valuation schedules is unknown. However, there are striking similarities between the values in IRS and appraisal district schedules. These schedules appear somewhat related to physical-life schedules. Even the most cursory review of the appraisal district schedules display they are overstating the value. Consider, for example, a $300 chair. The appraisal district value is $252 after one year and $30 to $90 after fifteen-plus years.
Appraisal districts simply use a physical-life depreciation model based on cost, for the most part. However, the appraisal district model typically does not address the following:
- the variance between a value based on a physical-depreciation schedule and market value
- value of warranty
- value of intangible property imbedded in total cost such as software, data and research and development in the original cost
- external obsolescence such as caused by the glut of oilfield rigs and equipment
- functional obsolescence caused by technology and innovation
- freight (it is supposed to be included)
- special purpose buildings to house the equipment
Some appraisal districts will not adjust for any of the above factors. It is up to the owners of the property to correct the appraisal district’s errors. Once the appraisal district generates a value, the cruel reality is that the value is assumed accurate unless the owner can prove otherwise. The owner will pay the inflated amount unless he develops an alternate valuation.
It is reasonable to ask why we have a national system that grossly over-taxes owners of most types of business personal property (BPP). Following are a variety of factors:
- Rendition is a compliance task at most companies.
- Rendition of business personal property is often considered a regulatory compliance issue, since there is usually a penalty for not rendering.
- The staff who prepare renditions often do not have a tax reduction perspective.
- Personal property involves a number of complex and nuanced issues. Most everyone knows that accounts receivable, leasehold improvements and delivery costs should not be included. Few know that specialized buildings to house specialized equipment and set-up costs probably have no value in exchange.
- Unfortunately, few of those rendering have the appraisal expertise to separate tangible and intangible property, and to estimate a value for tangible property based on market.
- There has been no pressure from the legislature for the appraisal districts to correct their BPP valuation schedules.
- Inertia – the appraisal districts have used generally similar schedules for over forty years.
Texas taxpayers have several options with renditions: 1) file a rendition with their opinion of market value or 2) providing the cost of items by category by year. The schedule by category and by year has about 120 boxes to complete. However, a number of states require companies to render based on acquisition cost.
Taxpayers will fare better by providing an opinion of market value for each category as opposed to a summary of the property purchased by type and by year. Providing information in this format will lead to the appraisal district using a schedule that sharply over-values business personal property. The appraisal district’s initial estimate of value, which could be 200% to 500% of market value, would then have to be appealed.
Success will depend on having support for an opinion of market value. Consult with companies that can provide the following: 1) personal property appraisal services or 2) property tax appeal services. Depending on the county, you may need someone who can coordinate a judicial appeal if the appraisal district will not make reasonable adjustments in your appeal process. You can handle the appeal by getting an appraisal and then attempting to negotiate a settlement on your own informally or to obtain an acceptable result at the appraisal review board.
DIY (Do It Yourself) or Done for You?
Alternatively, you can engage a tax consultant and let them handle all aspects of the appeal. This includes the appraisal, informal hearing, formal hearing, and continued hearings such as binding arbitration and coordinating a judicial appeal if appropriate.
Do Appraisal Districts Attempt to Separate Intangible Personal Property?
Focusing only on business personal property for a moment, the first issue is whether a type of property owned by a business is taxable. Let’s start by dividing property into tangible and intangible personal property. Tangible personal property includes raw steel, office furniture and equipment, including computers and other types of equipment for a variety of purposes. Tangible property also includes inventory and work in progress (only of tangible product being manufactured; the work in progress of a service company is not considered).
Intangible property includes more than what might be intuitive. It includes patents, brand value, trademark value and business enterprise value in commercial real estate, such as hotels and certain other types of real estate. Accounts receivable, cash, stocks, bonds, work completed to date but not yet billed by a professional services firm, notes receivable, contracts, the credit rating of the counterparty on a contract are all intangible personal property. So are trade secrets and proprietary processes for operating a business, including proprietary software. There are many types of contracts, including leases, warranties and services agreements.
Intangible costs to be deducted from purchase price include: 1) specialized buildings, 2) warranty, 3) service contracts 4) software and 5) the benefit of purchasing from a company which is a going concern. In some cases, it is necessary to spend $1 million or more to build a specialized building for equipment. However, the building has no value in exchange and should not be taxed. It only has value-in-use. The warranty is a contract which is clearly intangible personal property and not subject to taxation. Software will be addressed in more detail separately. However, what is the value of a Boeing airplane, an Apple watch or a Tesla automobile without the software? When determining whether a cost is tangible property or intangible property, consider whether it can be 1) moved, 2) touched, 3) felt and 4) seen.