Printer Friendly

Individualized approach is key in easement valuation.

Facade preservation easements permanently prevent demolition, neglect and insensitive alterations to the exterior facade of a certified historic structure. By donating a facade preservation easement in perpetuity to a qualified 501(c)(3) nonprofit charitable organization, such as Preservation Easement Trust, the property owner promises to maintain the easement-protected property while adhering to the easement restrictions. Once donated, a facade preservation easement becomes part of the property's chain of title and remains binding on both the present and future owners.

In order to obtain a federal income tax deduction for the donation of a facade preservation easement, the property owner engages a qualified real estate appraiser to determine the easement value through an appraisal which must be prepared no earlier than 60 days prior to the donation date, but no later than the due date (including extensions) of the income tax return in which the charitable deduction is first claimed.

The value of the facade preservation easement donation is usually determined by applying the "before and after" valuation approach. The amount of the charitable deduction is computed by determining the difference between the fair market value of the property before the granting of the preservation easement and the fair market value of the property after the granting of the easement. However, because each valuation depends upon a number of variables that are unique to each property, there is no one-size-fits-all approach to valuing facade preservation easements.

Based upon generally accepted appraisal practices, real property appraisals should be supported by adequate market data analysis using one or more of the three traditional appraisal approaches: sales comparison, income capitalization and cost. The two-step "before and after" approach for a facade preservation easement involves estimating the fair market value of the property and then using this valuation as a basis for valuing the facade preservation easement.

The first step is estimating the fair market value of the property at its highest and best use under current conditions. In arriving at an opinion of market value, one or more of the three traditional appraisal approaches are considered. The sales comparison approach estimates market value by analyzing sales of similar properties and making logical adjustments for dissimilar characteristics. Comparing factors such as location, time of sale, physical characteristics, conditions of sale and terms of financing, adjustments are made to the sale price of each selected comparable property. Then, these adjusted sale prices are correlated into an opinion of market value for the historic property.

Since this approach utilizes the sales of reasonably similar properties, it is most effective when relevant and reliable comparable sales market data is available. Also, the sales comparison approach is most applicable in understanding the fee simple interest of owner-occupied properties whereas, for leased buildings, it tends to be considered a secondary methodology for estimating market value.

The income capitalization approach estimates market value based upon the future cash flows expected to be generated from the property. Using property specific information, as well as available market data, net operating income is calculated by deducting anticipated expenses from projected gross income. These annual cash flows, plus the reversionary property value, are discounted at an appropriate rate that is commensurate with the investment's expected return and risk level.

Under this approach, there are two different techniques for converting net operating income into a value indication: 1) direct capitalization, which employs an overall capitalization rate on the net operating income from a stabilized 12-month period and 2) yield capitalization, which employs an internal rate of return on a stream of annual cash flows and a residual capitalization rate on the reversionary property value at the end of the projected investor holding period.

For income-producing properties, the income capitalization approach is considered to be the most reliable and relevant appraisal method. In addition, when addressing complex multi-tenant properties with variable lease terms, the yield capitalization is typically utilized for converting net operating income into a value indication.

The cost approach estimates the cost of acquiring a site and constructing a substitute property with the same utility by generating a reproduction cost analysis based upon original building materials and the historic structure's unique characteristics. Under this approach, an estimate is made of the current cost of reproducing the historic structure on the site, deducting for any lost value through diminished utility or depreciation. The underlying land value, derived from recent sales comparisons, is then added to the depreciated value of reproducing the historic structure.

Since preservation easement donors must reduce their building basis in the property in proportion to the reduction caused by the preservation easement, the cost approach is helpful because it separates the land and building components. However, in the context of a historic structure, an opinion of market value using the cost approach is sometimes difficult to determine because of the inherent ambiguity associated with reproducing a substitute property of a historic structure. As a result, some real estate appraisers may choose to omit this approach from the valuation process.

The second step, which is significantly more challenging, is to derive a value associated with the loss in property rights resulting from the facade preservation easement donation. To arrive at an "after" easement valuation, any appraisal approach used in the "before" easement valuation should also be used in the "after" easement valuation; however, due to the lack of relevant market data and the subjective nature of the adjustments, the opinions of "after" easement value tend to be somewhat tenuous.

If sales of comparable easement-encumbered properties are available, the sales comparison approach usually provides the most convincing measure of the "after" value. However, from a practical perspective, market data concerning whether a property has been encumbered by a facade preservation easement is not readily available. As a result, the empirical data for measuring this loss in property rights doesn't really exist. So, in order to derive an opinion of "after" easement value using the sales comparison approach, some appraisals rely on properties that are quite dissimilar, but possess the necessary market data to perform the analysis.

For income-producing properties, the income capitalization approach tends to be a more thorough and accurate determination of market value and, in fact, well-suited for capturing changes in revenues and expenses resulting from a facade preservation easement donation. However, measuring the "after" value is a far more complicated task than the initial property valuation because the facade preservation easement restrictions may adversely affect future property use, diminish future income and increase operating expenses. Thus, in order to derive an opinion of "after" easement value using the income capitalization approach, subjective adjustments must be made for these factors.

Because of these inherent shortfalls associated with estimating the "after" easement value, in the past, some appraisals tended to rely on the concept of a 10% to 15% safe harbor for facade preservation easement valuations which originated from a series of court cases dating back to the 1980's. In fact, for many years, the Internal Revenue Service seemed to endorse this notion of a safe harbor by stating that "Internal Revenue Service engineers have concluded that the proper valuation of a facade easement should range from approximately 10% to 15% of the value of the property." However, in 2003, the Internal Revenue Service dropped the safe harbor concept, while continuing to require meaningful market analysis to support the opinion of the "after" easement value.

One-size-fits-all approaches are simply inadequate for estimating the value of a facade preservation easement. This highly complex appraisal problem requires the services of impartial appraisers, with professional accreditations, such as the MAI and SRA designations, and experience in facade preservation easement valuations.

Since there are currently no specific certifications for appraising facade preservation easements, property owners are encouraged to do their own careful research before engaging an appraiser. Here are some questions that might be of assistance:

How many facade preservation easements have you appraised?

Have you appraised historic property in this county recently?

Have you appraised historic property similar to mine recently?

Are facade preservation easement valuations a primary segment of your appraisal business?

What are your certifications? Are you state-certified?

Are you a member of any national appraisal associations?

What are the best techniques for appraising a perpetual preservation easement?

What are the fees and timeline to complete the appraisal?

Please provide a sample copy of an appraisal summary and three references of past facade preservation easement clients.

Due to the dramatic growth in the number of facade preservation easements over the last few years and the recent media reports of abuses involving the federal preservation easement program, the Oversight Subcommittee of the Committee on Ways and Means held a hearing on June 23, 2005 to review the tax deduction for the donation of facade preservation easements, including the valuation process for facade preservation easements. Hopefully, as an offshoot to these Congressional hearings, specific facade preservation easement appraisal standards will be established requiring qualified real estate appraisers to meet specialized professional educational guidelines that have been specifically developed for facade preservation easement valuations.

ROBERT PLOTKA

PRESIDENT AND CO-FOUNDER

PRESERVATION EASEMENT TRUST, INC.
COPYRIGHT 2006 Hagedorn Publication
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 2006, Gale Group. All rights reserved. Gale Group is a Thomson Corporation Company.

Article Details
Printer friendly Cite/link Email Feedback
Title Annotation:INSIDERS OUTLOOK in CONSTRUCTION & DESIGN
Author:Plotka, Robert
Publication:Real Estate Weekly
Date:Mar 1, 2006
Words:1506
Previous Article:Cranford's mixed-use village is right on schedule.
Next Article:MBA Institute joins fight against mold damage.
Topics:


Related Articles
FINAL LINK OF ALBERSON TRAIL OK'D; NATIONAL PARKLAND WAS CLOSED PRIOR TO EASEMENT GRANT.
MOORPARK SEEKS BIDS ON BRIDGE PLAN.
HOME DEPOT NEXT STEP IN FALLBROOK RENEWAL.
Letters in the Editor's Mailbag.
Conservation easements: now more than ever - overcoming obstacles to protect private lands.
Donate a historic facade to reap tax benefit.
IRS scrutiny of charitable conservation easements.
Conservation easement made easy, with five steps.
Conservation easements.

Terms of use | Privacy policy | Copyright © 2019 Farlex, Inc. | Feedback | For webmasters