New York Law Review

Tag: Capitalization of Income

  • Farash v. Smith, 59 N.Y.2d 952 (1983): Weight of Loan and Partnership Agreements in Property Tax Assessment

    Farash v. Smith, 59 N.Y.2d 952 (1983)

    Evidence of loans and partnership agreements, while relevant, is not determinative of fair market value in property tax assessment cases, particularly when appraisers do not rely on them and other factors influence their terms.

    Summary

    Farash v. Smith concerns a dispute over real estate tax assessments for two apartment complexes. The petitioner challenged the town’s assessments, arguing they were too high. Both parties presented appraisal evidence valuing the properties lower than the town’s assessment. The trial court reduced the assessments, but the Appellate Division reinstated the town’s figures, placing significant weight on partnership agreements and construction loans. The Court of Appeals reversed, holding that while such evidence is admissible, it’s not entitled to “greatest weight” in determining fair market value, especially when appraisers primarily rely on the capitalization of income method and other factors influenced the loan and partnership terms. The court reinstated the trial court’s reduced assessments.

    Facts

    Max Farash, acting as an agent for real estate partnerships, challenged the real estate tax assessments on two apartment complexes, Highview Manor I and Highview Manor II, in Perinton, NY. Farash contributed land for the complexes, receiving a 50% partnership interest. Other partners contributed cash, receiving the remaining 50% interest. Construction was financed through loans. The town assessed Highview Manor I for $2,197,250 and Highview Manor II for $1,835,800 for the tax years in question.

    Procedural History

    The petitioner initiated proceedings under Article 7 of the Real Property Tax Law to review the assessments. A referee heard the case and both sides presented appraisal evidence. The trial court adopted the referee’s findings, reducing the assessments. The Appellate Division reversed, reinstating the town’s original assessments. The case then went to the New York Court of Appeals.

    Issue(s)

    Whether the Appellate Division erred in reinstating the town’s tax assessments based primarily on partnership agreements and construction loans, rather than giving greater weight to the capitalization of income approach used by both appraisers.

    Holding

    Yes, because while evidence of loans advanced on property during or near a particular tax status date may be considered, such evidence standing alone is not entitled to “greatest weight” because the reasons behind the terms and amount of the loan may be uncertain and unrelated to market values.

    Court’s Reasoning

    The Court of Appeals found that the Appellate Division erred in treating the partnership agreements and construction loans as evidence of arm’s length sales entitled to the “greatest weight.” The court reasoned that while such evidence can be considered, it shouldn’t be the primary basis for determining fair market value. “While a court in determining fair market value may consider evidence of loans advanced on property during or near a particular tax status date when reviewing an assessment proceeding…such evidence standing alone is not entitled to ‘greatest weight’ because the reasons behind the terms and amount of the loan may be uncertain and unrelated to market values.” The court noted that building loans reflect anticipated future expenses, and other factors, such as Farash’s reputation as a developer, likely influenced the partners’ contributions. Both parties’ appraisers relied on the capitalization of income approach, making the trial court’s valuation more consistent with the weight of the evidence. The court emphasized that the presumption of valid tax assessments was overcome by the appraisers’ evidence, which indicated values below the assessments. The court stated that it would “exercise our power to choose between the trial court’s findings and the findings of the Appellate Division” to reinstate the trial court’s order.

  • City of New York v. Exxon Corp., 39 N.Y.2d 430 (1976): Measure of Damages in Partial Takings Cases

    City of New York v. Exxon Corp., 39 N.Y.2d 430 (1976)

    In a partial taking case involving income-producing property, the measure of damages is the difference between the property’s value before and after the taking, and additional compensation for the taken portion and improvements constitutes double compensation unless the reduced rental income does not reflect the loss of the condemned portion; restoration costs are compensable if not reflected in reduced rental.

    Summary

    This case addresses the proper valuation method in a partial taking of income-producing property (a gas station). The City of New York condemned a portion of the property, leading to reduced rental income. The Court of Appeals held that the owner was entitled to the difference between the property’s value before and after the taking, based on capitalized income. Additional compensation for the land and improvements taken was deemed double compensation because the reduced rental already reflected this loss. However, the court upheld compensation for restoration costs necessary to return the station to working condition, as these costs were not reflected in the reduced rental income.

    Facts

    Exxon (formerly Humble Oil) owned a gas station property in New York City. The City condemned a portion of the property, reducing its size and the size of the service station building. As a result, the tenant requested and received a reduction in rent, reflecting the diminished size of the property and building.

    Procedural History

    The Supreme Court awarded compensation to Exxon, including amounts for the land and improvements taken, restoration costs, and relocation of fixtures. The Appellate Division affirmed the award. The City appealed, arguing excessive compensation. Humble also appealed, arguing its award for relocating fixtures was insufficient.

    Issue(s)

    1. Whether the property owner is entitled to additional compensation for the value of the land and improvements taken when the reduced rental income already reflects the loss of the condemned portion of the property?

    2. Whether the property owner is entitled to compensation for restoration costs of the remaining parcel after a partial taking?

    3. Whether the award to Humble Oil for relocating fixtures was properly calculated?

    Holding

    1. No, because additional payments for these items would constitute double compensation where the reduced rental rate already considers the loss of the condemned portion.

    2. Yes, because the affirmed finding of fact showed these expenditures were necessary to restore the station to working condition and this was not reflected in the reduced rental.

    3. Yes, the order of the Appellate Division should be modified by increasing Humble’s award to $10,700, the amount fixed by the Supreme Court, because the record supports the contention that no portion of the $10,700 awarded for relocating the fixtures was attributed to the purchase of new equipment.

    Court’s Reasoning

    The Court of Appeals reasoned that the proper measure of damages in a partial taking is the difference between the value of the whole parcel before the taking and the value of the remainder after the taking (citing Diocese of Buffalo v State of New York, 24 NY2d 320, 323). For income-producing property, capitalization of income is a valid method of valuation (citing Ettlinger v Weil, 184 NY 179, 183; Humble Oil & Refining Co. v State of New York, 12 NY2d 861).

    The court found that because the rent was adjusted to reflect the reduced size of the property, the loss of the condemned portion was already reflected in the reduced rental figure used to calculate the $90,000 award. Therefore, additional payments for the taken land and improvements would constitute double compensation.

    However, the court upheld the $12,000 award for restoration costs, finding that these expenditures were necessary to restore the station to working condition and were not factored into the reduced rental income. This constituted an additional loss to the owners.

    Regarding Humble’s appeal, the court agreed that no portion of the award for relocating fixtures was attributed to new equipment, so the full amount fixed by the Supreme Court ($10,700) should be awarded.

  • Arlen of Nanuet, Inc. v. State, 26 N.Y.2d 346 (1970): Valuation of Vacant Land in Eminent Domain

    26 N.Y.2d 346 (1970)

    In eminent domain proceedings, the market value of vacant land should not be based solely on the capitalization of income expected from buildings and improvements that have not yet been financed or constructed on the date of taking.

    Summary

    This case addresses the proper method for valuing vacant land in an eminent domain proceeding when the land is subject to a lease contemplating future development. The Court of Appeals held that it was improper to determine the value of vacant land based solely on the capitalization of income expected from buildings not yet constructed. While executory leases and agreements may be considered, they should not be treated as an income flow already in existence. The court emphasized that valuation must be based on the situation existing on the day of the taking, considering comparable sales and ground rentals in the area.

    Facts

    The State appropriated 16 acres of vacant land, which was part of a 26.78-acre parcel suitable for a shopping center. The fee owners had leased the land to a tenant who intended to sublease it to E.J. Korvette, Inc., for the construction of a retail store, supermarket, and parking area. Subleases were in place. However, no construction had begun on the property as of the date of the taking. The tenant had secured a lease for adjacent property as a contingency.

    Procedural History

    The Court of Claims awarded $702,610 to the fee owners and $875,000 to the tenant, valuing the land based on a capitalization of income method, i.e., the potential rent from the planned buildings. The Appellate Division affirmed the award to the fee owners but reduced the tenant’s award to $525,000. The State appealed, arguing that the valuation method was improper.

    Issue(s)

    1. Whether it is permissible to fix the market value of vacant land, solely on the basis of capitalization of income expected to be realized from buildings and other extensive improvements not yet financed or begun.
    2. Whether the courts below followed the settled procedure in valuing real property in which a tenant may have a leasehold interest that survives the taking.

    Holding

    1. No, because valuing vacant land based solely on the capitalization of future, unrealized income from planned but unbuilt structures is speculative and does not reflect the property’s actual condition on the date of the taking.
    2. No, because the courts did not first value the unencumbered fee and then determine the tenant’s interest based on the difference between the rental value and the ground rent.

    Court’s Reasoning

    The Court of Appeals reversed, holding that valuing the land based on the capitalization of rents from structures not yet begun was erroneous. The court emphasized that the value must be determined as of the day of the taking, and the potential income from future construction is too speculative. The court cited Levin v. State of New York, emphasizing that while executory leases can be given some weight, it is incorrect to treat them as representing an existing income stream.

    The court also noted the lower court erred in valuing the tenant’s leasehold interest. It reiterated the established procedure of first valuing the unencumbered fee and then determining the tenant’s interest based on whether the rental value of the land exceeds the rent reserved in the ground lease. Capitalizing the rent from the subleases to Korvette was improper because it reflected the tenant’s speculative investment and did not accurately reflect the value of the vacant land.

    The court stated, “To sanction the capitalization of income method adopted below would be to overturn the long-established and wise rule, reflected in our Levin decision (13 Y 2d 87, supra). It would be a serious departure from principle, and most unsound, to announce that fair compensation is to be determined not as of the day of taking but, instead, as of the time of trial, whenever that might happen to be.”

    The dissenting opinion, while agreeing the tenant’s award was excessive, argued that the near certainty of the project proceeding should allow for consideration of the income potential, but also acknowledged that the tenant’s entrepreneurial efforts should be factored out of the valuation.

  • Matter of Seagram & Sons, Inc., 14 N.Y.2d 314 (1964): Valuation of Unique Properties for Tax Assessment

    Matter of Seagram & Sons, Inc., 14 N.Y.2d 314 (1964)

    When valuing a unique property for tax assessment purposes, capitalization of rental income is not the sole determinant of value, and the actual construction cost, particularly soon after completion, can be considered, even if the owner occupies a portion of the building and derives value beyond commercial rental income.

    Summary

    Seagram & Sons challenged the tax assessments on its newly constructed building, arguing that capitalization of rental income (including estimated rent for its own occupied space) couldn’t justify the Tax Commission’s valuation. The Court of Appeals affirmed the lower court’s decision, holding that for a unique office building, actual construction cost is relevant to value, particularly shortly after construction. The court clarified that while capitalization of income is a factor, it’s not the only one, especially when the owner derives non-commercial rental value from the building, such as prestige and advertising.

    Facts

    Seagram & Sons constructed a building at a cost of $36,000,000. The Tax Commission assessed the building’s value at $20,500,000 for two years and $21,000,000 for the third year. Seagram argued that capitalizing rental income, including estimated rent for its own occupied offices, would only justify a valuation of approximately $17,000,000. Seagram contended that the high assessment was due to the building’s prestige and advertising value rather than its inherent real property value.

    Procedural History

    The case began as a proceeding to review tax assessments. Special Term upheld the Tax Commission’s assessment. The Appellate Division affirmed Special Term’s decision. The Court of Appeals granted leave to appeal.

    Issue(s)

    Whether, in valuing a unique office building for tax assessment purposes, the capitalization of rental income is the sole permissible method of valuation, precluding consideration of actual construction costs and the non-commercial rental value derived by the owner from occupying a portion of the building.

    Holding

    No, because for a unique office building well-suited to its site, the actual building construction cost is some evidence of value, especially soon after construction, and the owner’s occupancy can include a real property value not reflected solely in commercial rental income.

    Court’s Reasoning

    The court emphasized that it could only reverse if there was no substantial evidence to support the lower court’s conclusion or if an erroneous theory of valuation was used. While capitalization of net income is typically used, it’s not the exclusive method for valuing unique properties. The court found that the construction cost of $36,000,000 was some evidence of value, particularly in the years immediately following construction. The court distinguished this case from situations where a building is built purely for commercial rental income. The court stated that “the building as a whole bearing the name of its owner includes a real property value not reflected in commercial rental income” and that “one must not confuse investment for commercial rental income with investment for some other form of rental value unrelated to the receipt of commercial rental income.”

    In essence, the court acknowledged that Seagram derived value beyond typical rental income from occupying its namesake building. This value, while not strictly commercial rent, was still tied to the real property itself. The court rejected the argument that Seagram was being penalized for constructing a beautiful building, clarifying that the assessment wasn’t improperly taxing advertising or prestige value. The court implied that the hypothetical rental for owner-occupied space need not be fixed at the same rate as paid by tenants because the owner’s benefit extends beyond direct rental income. The court upheld the assessment, finding no error in considering construction costs and the unique aspects of the property’s use.