The Importance of Understanding Land Valuation on Your Property

[Julio Gonzalez]

A cost segregation study is one of the most beneficial tax benefits for commercial real estate properties. One key piece of a cost segregation study is identifying the land value of your property as it helps you be compliant with the IRS and maximize your deductions and tax benefits.

When you purchase a property, the purchase price includes the value of the land, buildings and the components. The IRS requires that you separate the value of the land as land is a non-depreciable asset, thus you are not able to receive a depreciation deduction for the value attributable to the land. However, you are able to depreciate the building and its’ components.

The land value is utilized in a cost segregation study and it is crucial that it is accurate so that it does not result in incorrect depreciation calculations which would open you up to the risk of an audit if it was overstated or you would miss out on tax savings if it was understated.

So, we now understand the importance of the land value, but how do we calculate it? There are four main ways that I recommend: Appraisal reports, comparable sales, tax cards and national averages. Let’s dive in further.

Appraisal Reports

Appraisal reports provide the most accurate and reliable information for calculating the land value. Appraisals are done by professionals that perform a thorough analysis including location considerations, zoning, comparable sales, and any potential restrictions on development. While most appraisals will include a separate land value, be aware that not all do.

How to obtain an appraisal report:

1) Locate an appraiser that is qualified. Look for an appraiser with credentials such as MAI or SRA as they will have advanced education and experience in real estate valuation. You can also find appraisers through online directories.

2) Ensure you have an understanding of the process. The appraiser may need you to provide information such as purchase price, survey details, improvements made, legal description, etc. As part of the process, the appraiser will typically visit the property to conduct a survey as well as visit comps in the area.

3) Retrieve the appraisal report. You should receive a comprehensive written report that outlines the methodology utilized in the appraisal along with the analysis and final determination of the land value.

While an appraisal report is the preferred method for determining land value, it is not required in order to perform a cost segregation study. If there isn’t an appraisal report for your property, utilize one of the other methods discussed below.

Comparable Sales

If an appraisal report is not available or feasible to obtain, you can analyze comparable sales on land that is raw and undeveloped in your location. Real estate agents should be able to assist you with gathering comps. To calculate your land value, take into consideration the average price per square foot or acre of the comps and apply that to your land.

Steps to apply comps to your property:

1) Compile multiple comps: Find a real estate agent to help you put together a list of comparable properties.

2) Make adjustments: Analyze each comp carefully to determine whether it has advantages or disadvantages when compared to your property and make adjustments to the value upwards or downwards as necessary.

3) Determine the use of weighted average vs average: Depending on how close the comps are to your specific property; you may consider utilizing the weighted average method to place a greater weight on those properties that more closely resemble yours.

Using comps to value your land can add a component of complexity and subjectivity. Ensure you consult a cost segregation expert to get an accurate assessment.

Tax Cards

If the first two methods weren’t available, the tax card method may be used. The county assessor’s office issues property tax cards. These cards include the assessed value for the property as well as the land. To calculate the land value, you first determine the percentage of the value applicable to the land and multiple your purchase price by that percentage.

Steps in the Tax Card Method

1) Search the property records on your county assessor’s website. If they are not on the website, you may need to visit the county assessor’s office in person.

2) Find the assessed land value that is written on the tax card.

3) Locate the total value that written on the tax card.

4) Divide the land value by the total value to determine the amount of the total value that is determined to be land.

5) Multiply your purchase price by the value you calculated in step 4 to calculate your land value.

National Averages

If none of the other methods were suitable to calculate the value of your land, your CPA may elect to use the national average land allocation method. However, this should be a last resort as it doesn’t take into account specific characteristics of your property. The IRS typically prefers the use of the Appraisal Reports or Comp sales method, and focuses on “reasonability”.

What other questions do you have on land valuation? Have you utilized any of these methods?