Real (estate) values – Objectivity in the light of property taxation

There is much uncertainty around the planned property tax: when and how will it be put into practice? To whom will it apply? And what will it be based on? In the case of residential properties, there are numerous potential factors upon which to base the tax, such as zoning or square meterage. But if the new tax will also apply to commercial properties, there will be a great need for more efficient, uniform, and reliable valuation, conditions that are not at the moment ensured, according to Eva Martonosi, head of the Valuation Division at Eston International.

Today, most of the demand for valuation services comes from commercial banks and bank clients that are seeking credit. It is in the basic interest of both the bank and the client that the estimated value of the real estate reflects real market circumstances. To substantiate their estimates, commercial bank appraisals need an external expert’s unbiased opinion based on essentially the same information, since hard data are often not available.
However, if the aim of the valuation is setting a tax base, new interests enter the picture. Until now, clients preferred optimistic valuations to support their financing needs, but the implementation of the property tax should raise the “demandâ€? for more modest estimates.

Locked information
Thanks to the huge volume of property transactions and the easily available supply information provided by the Internet, the residential market is sufficiently transparent. However, only a small fraction of such information can be collected about non-residential, high-value commercial properties. It is only a slight exaggeration to say that the only thing known for certain about this segment is that transactions do occur.
Of course, real estate professionals involved in the mediation of these transactions hold reliable information about properties sold. Although they keep trade secrets, their market experience means they understand the key fixed points upon which valuations can be built. Thanks to the so called “glass pocketâ€? programme for transparent public administration, more and more municipalities are providing details regarding their real estate transactions in their annual reports. It requires a great deal of luck and even more patience to peruse the report appendices and dig up the relevant data for development sites, but there are precious few other fixed points to build on.

At first glance, using data from the Duty Office would appear to be a viable option. Unfortunately, this is not the case in Hungary, since this data is currently not publicly available, nor is it accessible for appraisals. One wonders exactly whose rights are being protected in this way.
Even if such data were available, it is by no means certain that it would be of great use. In our experience, when Eston was able to collect some data from this source thanks to our professional connections, the data analysis system used by the Office did not provide information relevant to appraisals. On occasion, it was not even clear if there was building on a given site or not. Even more troubling, the data received by the Office do not reflect actual market tendencies, since most commercial properties are sold as business entities in order to avoid the 10% duty on commercial property transactions.

Puzzling abundance
Interesting situations arise not only from the lack of information; further complications also occur when owners willingly provide draft or even signed contracts together with the required documentation. Appraisers must decide whether to take into account the price included in these.
The situation is less complicated on the easily-typified residential property market. The transparency of this segment makes judging the validity of a contract easier. If a contract appears to be actual, (i.e., the contracted price is line with the value suggested by comparison with a thoroughly selected peer group), the appraisal should regard it as valid. In such cases, a review isn’t really justified, neither professionally nor ethically. But if the indicated value is not in line with peer data, then the contract, which was welcome at first, becomes a source of confusion. However, it is possible that a reasonable explanation for the difference may emerge during further reconciliation.

In the case of appraisals submitted for the financing of development properties on the commercial property market, especially from developers and prepared for commercial banks, the appraiser may discover that, according to a given contract, a property was purchased at a price that is low in light of comparable data. Since appraisers act in good faith, they are willing to use the contracted price unless it contradicts the data of peer group valuation. If this is the case, appraisers can set an estimated value higher than the contracted amount, provided that they can prove that the deal did not satisfy the TEGoVA definition of a market transaction, meaning that the seller was not fully aware of the potential development options, or that the buyer had already taken steps for more effective usage of the property before signing the contract.

A feasible path
Appraisals in this data-poor market tend to use methods based on yield. This uses the more readily-available data of the rental market, and gives a more reliable value. Rental rates are more transparent than the purchase price in sales transactions. More data is available for the rental market compared to the sales market, both in itself and in a market context. Unfortunately, this growing market is also beginning to see an increase in surprising rental contracts for the overly “cleverâ€? appraisals, which are hard to fit with actual market evidence and can’t easily form the basis of a correct analysis.
Eston’s Valuation Division believes that in order to achieve the government’s goals and in the interest of all affected parties, the current uncertainties, stemming mostly from unreliable or unavailable data sources, should be diminished. “Give me a place to stand on”, said Archimedes, “and I will move the earth.” Appraisals may need more than one point to stand on, or at the very least, clear and available data, to increase the consistency of valuations.
As opposed to the sale of properties themselves, the sale of business shares became common due to the relatively high, 10% duty. Lowering this duty will hopefully be part of the agenda soon. If not, and if the current, none-too-favourable regulations are maintained, the central budget will lose substantial income, and the entire economy will suffer from a lack of transparent transactions. We would also like to see more open access to Duty Office data, undistorted by duty-avoiding contracts and structured in a way that takes the information requirements of appraisals into account. This would trigger a clarifying process that could ripple throughout the economy, and result in a substantial increase in the credibility of real estate valuation.

ESTON International, was honoured the title „Best Real Estate Valuator of the Year 2006â€? with which ESTON gave evidence for its professional competence for the second time on the field of real estate valuation.

The analysis has been published in the freshest issue of Property Watch.