What is assessment? Why is a 75k assessment house worth 500k and how does that influence the amount of tax you pay on the property
What is assessment? Why is a 75k assessment house worth 500k and how does that influence the amount of tax you pay on the property
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Usually property tax is the house plus land and you get 2 different assessments, in this case 75k is for all the materials and the structure itself and 100k is the raw land. In most cases in HCOL areas, the land would be worth $1M plus while the structure is like $300k.
“Assessment” is a best guess at value, that’s all.
Your example seems to be fundamentally wrong. A house assessed at $75k sitting on land assessed at $100k wouldn’t go on the market for $500k. It would most likely go on the market at somewhere around…yup, you guessed it…$175k.
It’s an educated estimate of the value of the home, and the land. If the home was not there the land is assessed at X, the home is Y, together it is Z: the full value of the property assessed with the home and land together.
Land doesn’t depreciate under GAAP (the commonly used accounting system in the US), but buildings do.
Assessors separate the value of the land from the value of “improvements”.
The reason for this is that over time, the structures that you build on the land tend to depreciate over time while the land itself becomes more valuable. Separating these components of your property value provides transparency for how it is distributed. Bear in mind, if the building is condemned, it may have negative value, and you could increase your property value by tearing it down.
It means you need to read your insurance contracts very carefully. Insurance salespeople will happily sell you a policy for the full amount you paid for the property. But if you don’t have the right type of contract, your house could burn to the ground and you’d only get the assessment for the house itself. It’s not necessarily enough to rebuild.
So check carefully and make sure a) you’re not paying for more than you will ever actually get, and b) you’ll be able to rebuild if you need to.
Oh that’s easy. Location! Location! Location!
For a stupid example, think about owning the Grand Canyon.
When you try to buy it, it’s worth 1 trillion dollars (for example). But! The park ranger has a trailer on the each of the Grand Canyon worth $50,000.
So what do they put in the real estate listing? In this case, the Grand Canyon would have a land value of 1 trillion dollars and a home assessed at $50,000.
The state collects property taxes to support services like schools, police, and fire department.
They want to have people with more or higher value properties pay a higher tax than people with smaller and lower value properties.
They “assess” the value of the different properties. To determine who should pay higher or lower taxes. They assess both the land as if it has nothing on it, and the house.
This means that people with more expensive houses also pay more than people with lower value houses even if the value of the land is the same.
The truth is, it depends where you live. (“All politics is local. Especially property taxes.”)
Where I live, the assessor (elected, to “ensure fairness”) starts by appraising your house. They’re just estimating the market value. They also split it into land and improvements.
The second step is to calculate the assessed value. My house is a homestead, so the assessment rate is 25%. (Here. Not everywhere.) The property is assessed at 25% of the market value. There are different assessment rates for different categories of property, and I only know the rate for homesteads.
The assessed value is the amount you pay taxes on. So if your house is worth $600,000 and the land is worth $400,000, then where I live your assessed values would be $150,000 and $100,000. (When I lived in Indiana, the rate was 50%. It doesn’t matter because 1% of $1,000,000 is the same as 2% of $500,000 is the same as 4% of $250,000. It’s the assessment rate times the property tax rate [fun fact: that’s called the millage] that determines how much you are paying in taxes.)
Why it matters is that the assessment rate helps determine who’s paying the taxes. If homesteads are assessed at 25% of value and businesses at 100% of value, then a business that owns a house would pay substantially more tax than a homeowner. The assessment rate is a way to encourage some uses and discourage others, and also to tax properties on the public resources they use.
In short, the assessed value of a property can be thought of like the taxable value of a property. The specific method that is used to determine assessable value is going to differ from state to state and county to county as a matter of political choice.
When you buy a house, if you are getting a mortgage or borrowing money for the purchase, then the lender is going to require an appraisal. This means a licensed property appraiser will look at the market, and make a best guess at how much the property would be worth on the open market (say, if you default on the loan, since then the bank is stuck owning a house they don’t particularly want).
An appraiser does this by calculating three different methods: 1) the comparable purchase approach, where the appraiser looks at recent sales in the area in the last 3 to 6 months, then chooses which ones are most similar to the appraised property, and uses those to figure out what the target property is worth, 2) the stream of rents approach where the appraiser looks at the rental market doing the same thing, and figuring out a best guess at the net present value of renting the appraised property, and 3) the replacement approach, where they make a best guess building a new copy of the property, by valuing the land and construction costs of making a new one (using the same software that general contracts use to figure out what it would cost to build a new house).
In an ideal world, all three of these approaches come to roughly the same ballpark of a number, which gives really strong evidence that is the arms length fair market value of the property. Now, not all appraisals require all three approaches: FHA loans only require the comparable purchase approach, while commercial transactions require all three.
Now, the appraisal doesn’t go to the county tax assessor, just to the purchaser, lender, and maybe the seller. Now, if you’re buying with cash, you don’t need to get an appraisal, but if you’re buying a house with someone else’s money (i.e., a bank) they’re going to require one.
In my state, the process for the county tax assessors office in my state is to go out and get 200-300 appraisals of random properties each year, which are then combined into a single model called a hedonic regression, where statistical methods are used to figure out an equation thats basically:
(value_per_unit_characteristic_1) (num_of_units_characteristic_1) + (value_per_unit_characteristic_2) (num_of_units_characteristic_2) + … + (value_per_unit_characteristic_n) * (num_of_units_characteristic_n) = (assessed_value_of_the_property)
Characteristics are going to be things like: square feet of land, square feet of livable space in the house, distance from the city center, number of linear feet of waterfront, approx rating for condition on a scale from 1 to 10, etc.
Then, that equation can be calculated on every property in the county. That gives an initial assessed value.
Then, modifiers are going to go into effect, based on state and local laws. Examples include: if you live in the property perhaps there is a 50% discount, or if the owner of record is over 65 years of age or a military veteran then $50,000 is subtracted from the initial assessed value, is it a working agricultural property, etc. These are political choices. Other modifiers might be on the change in value from one year to another, like if you live in the property, maybe then the assessed value is only allowed to increase a maximum of 2% per year. Sometimes, modifiers are only applicable to the improvement and the land might have a different set of modifiers, so these parts are listed separately.
Now you have a taxable value, so the tax rate needs to get figured out. Property taxes in the US are generally priced in units called mills, meaning 1/1000th (think the fractions of cents in gas prices). 1 mill means 1$ per 1000$ of taxable value. All the different governments that govern your area (e.g., county, water management district, fire district, etc.) are going to figure out their budget needs for the next year and divide that among the taxable value of all the properties in the county. So, if your tax rate is 11.5 mills, then that means you owe $11.50 for each $1000 of taxable value. So if your home is assessed at $200,000, that means your annual tax bill will be 11.5 * $200 = $2300.
And again, modifiers can go into effect based on political chocies: maybe if you are a continuous resident of the property, the total taxes can only raise a maximum of 3% per year, or something like that.
A tax assessment is proportional to, but not equal to the value of a property. Anappraisal estimates market value directly, but an assessment is a measure of value used by the tax assessor.
In my area, tax assessments are about 1/4 of the market value, but the property tax rate is about 4 times higher than other places, yielding a fairly typical effective tax rate. The tax appraisal number itself is not necessarily an estimate of market value.