Operating Expense Pass Throughs

In the commercial real estate (CRE) industry, it is well understood by owners and tenants alike that common lease contract arrangements include specifying operating expenses pass through from the landlord to the tenant. These additional expenses commonly include any combination of property (i.e., real estate) taxes, insurance, maintenance, repairs and utilities.

The tax appeal opportunity

CRE owners and asset managers of all property types typically review annually and appeal, when warranted, real estate taxes by challenging the value assessed by local governments – so CRE owners (and tenants alike) are well versed with this opportunity of lowering real estate taxes.

Historical fee arrangements

The typical fee charged by attorneys and consultants for a tax appeal is 20-25% of the tax savings in low tax (e.g., 1% tax rate) jurisdictions and 10-15% in high tax (e.g., 2%+ tax rate) jurisdictions. Fee percentages have remained at these levels for decades. A 20% value reduction on a $100 million value with a 2% tax rate would result in a $60,000 appeal fee using a fee equal to 15% of the tax savings.

The problem for tenants

Sometimes the lease arrangement means the tenant pays either a portion of the tax appeal fee or 100% of the tax appeal fee. For example, if a tenant pays the expenses above the expenses established in a base year, then often the tenant pays 100% of the tax appeal fee. This can create a conflict of interest between the landlord and tenant.

What if an alternative tax appeal consultant had the means to charge only $6,000 versus the $60,000 fee in the above example but the landlord refused to hire that consultant? Since the landlord is not paying the tax appeal fee, it costs nothing to the landlord to frivolously spend the tenant’s money on higher paid tax appeal attorneys and consultants.

Embracing technology means bring down tax appeal fees

Typical attorneys and tax appeal consultants do not innovate with technology. This is another reason CRE owners and asset managers should reconsider working with those tax appeal attorneys and consultants who can’t demonstrate the ability to reduce fees and increase productivity via the application of innovative technology. Please see our article Using Technology to Reduce Tax Appeal Fees.

How tenants can influence lower tax pass throughs

Tenants need to be judicious to a) become informed on the alternative tax appeal providers and b) ensure the selection of a tax appeal provider that has a trustworthy strategy to deliver quality results at the lowest possible fee.

Tenants should ask the landlord annually to see written bids from consultants and attorneys who are willing to do the work. Tenants should demand that their landlord produces a compelling business reason to hire a provider at a significantly higher fee. Here’s the intelligence from industry insiders: there is no compelling reason. Please see our article Why Tax Appeal Fees Should be 5% or Less.