Big rent hikes aren’t the only thing hitting office tenants these days.
Hefty property tax increases are being passed on to hundreds of Orange County tenants in buildings that recently have changed hands in a hot market for office deals.
In cases where a building sells for the first time in years, the assessed value,and corresponding tax bill,easily can double.
Tenants are hesitant to talk on the record about the increases,fearful of raising the ire of their new landlords. And, with space tight in much of the county, there’s little they can do about it.
Building owners can pass along property tax increases and other costs,known in the business as pass through,unless leases explicitly bar them from doing so. Few leases insulate tenants from tax bills, according to brokers.
Landlords say they’re aware of the impact of the higher taxes on tenants. But they’re quick to note that many renters have benefited from “artificially suppressed” taxes on buildings that haven’t change hands for years.
Under Proposition 13, the assessed value of a building, or home for that matter, can’t rise more than 2% a year. If a building doesn’t change hands for years, the assessed value is likely to be well below market value.
A building sale resets the meter. The building is reassessed at the sale price, with a tax rate of 1% and assessment increases of 2% a year.
The issue is hitting home for tenants in two of OC’s high-profile office complexes, Irvine Center Towers and Newport Gateway in Newport Beach.
The county’s largest landlord, The Irvine Company, bought both office complexes earlier this year, easily topping the previously assessed values.
Some tenants at these buildings say their annual expenses are going from about $11 per square foot to $12.50 per square foot because of property tax hikes.
That translates into a 13-cent per square foot monthly rise in expenses,before increases in rents, which also are rising.
The Irvine Co. acquired Newport Gateway for about $215 million. Irvine Center Towers went for about $325 million.
“I tell tenants in cases like this, that the bad news is that your effective rent has increased 10 to 15 cents,” said Barry Katz, managing director of CB Richard Ellis Group Inc.’s property management group in Newport Beach. “But if you’ve been in the building for four or five years, and got in while the market was down, the good news is that you’re still probably paying a good rental rate.”
Average Sale Price Up 30%
The average sale price of an office building is up 30% in the past year, to $312 per square foot, according to the Irvine office of Houston-based Transwestern Commercial Services, which owned part of Irvine Center Towers along with Philadelphia-based Healthcare insurer Cigna Corp.
Of course, rents are rising, too. They’re up about 15% from a year ago.
Office tenants near John Wayne Airport now pay monthly rents of about $2.50 per square foot. The added costs of higher property taxes can add another 25 cents to that in extreme cases, said Jeff Manley, chief executive for Newport Beach-based Cresa Partners LLC, a brokerage that represents tenants.
“In a volatile real estate market, where sales are up, this becomes a top 5 issue (for tenants),” Manley said.
In the first quarter, 19 buildings totaling 2.7 million square feet were sold in OC, according to Real Capital Analytics, a New York-based market researcher that tracks deals of $5 million and larger.
The buildings sold in the quarter represented about 3% of the county’s 93 million square feet of office space.
“Buildings are selling at record highs, they’re getting reassessed at a much higher rate, and those increases are being passed right on to the tenants,” said Royce Sharf, branch manager for the Irvine office of Studley Inc.
When the tax bill kicks in can vary. A smart landlord usually starts billing tenants right after a sale, using an estimated tax bill. That’s the case for many of the tenants at Newport Gateway and Irvine Center Towers.
Double Edge of Prop. 13
The tax issue shows the double edge of Proposition 13 for tenants. The 1978 ballot measure keeps tax costs low as long as a building doesn’t change hands.
It’s a different story after a sale.
“If you are a tenant in a building that just sold for $300 to $400 a foot, but was only on the tax roll for somewhere between $100 and $200 (a foot), you’re going to see a big jump,” Sharf said.
It can be a struggle for companies to plan for tax increases, said John Simonis, a partner and chair of the Costa Mesa office of Los Angeles-based Paul, Hastings, Janofsky & Walker LLP.
Tenants think they are protected by Proposition 13, “but then all of a sudden, (the building is sold) and the reality is that you’re getting hit with higher taxes,” Simonis said.
Big tenants with negotiating power, or those who signed leases during the office downturn, sometimes can talk their way around the added costs and have the landlord pick up the bill.
But that hasn’t been the case lately. And it isn’t likely landlords will agree to similar terms now, Cresa’s Manley said.
Tenants eyeing one of the new towers being built in the county might want to take note of who the developer is, Manley said.
The Irvine Co.’s recent buys have brought higher tax bills. But the company never has been a seller of office buildings it develops, like it’s doing in Irvine.
Other developers, including the Irvine office of Phoenix-based Opus West Corp., are known for putting up buildings and then selling them, Manley said.
