New York’s pied-a-terre tax sets up legal fight over values

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New York’s proposed tax on second homes valued at more than $5 million is likely to spark costly legal battles over how to value the city’s most expensive real estate, according to appraisers and lawyers.

Announced last week by New York Governor Kathy Hochul and New York City Mayor Zohran Mamdani, the city’s so-called “terrace” tax would impose an annual surtax on non-prime residential real estate valued at more than $5 million. The governor and mayor said the tax would raise about $500 million a year to help close the city’s budget deficit.

Officials have not released any details, including tax rates or timing. But real estate appraisers and lawyers said the tax had set the stage for a major legal battle over how to value high-end real estate in one of the world’s most expensive markets. Because New York’s outdated property tax system keeps the value of co-ops and condos significantly undervalued, experts said the city will need to come up with a new system for determining the value of luxury second homes.

Questions include: Will it be up to the property owner or the municipality to determine the taxable value? Will Pied-à-terre owners have to hire appraisers to determine the value of their apartments every year? How will the city deal with legal challenges over values?

“Administrative costs have not yet been considered,” said Jonathan Miller, CEO of valuation and research firm Miller Samuel. “This tax could give rise to a whole new cottage industry for which I could do a lot of consideration.”

The tax is expected to be part of the state’s annual budget and still must be approved by the state legislature. Facing strong opposition from the real estate industry, similar proposals have failed in the past. Citadel chided Mamdani on Thursday for singling out CEO Ken Griffin on the tax issue.

Previously proposed local taxes included progressive rates based on value. For example, a 2019 proposal would impose a 0.5% tax on a pied-à-terre valued at more than $5 million, 1.5% over $10 million, and 4% over $25 million.

A new surtax on the value of second homes would require two new forms of municipal verification: non-residence and value. Hochul estimates that about 13,000 non-prime homes in New York City valued at $5 million or more would be subject to the tax.

In the past five years, 4,146 apartments in Manhattan have sold for $5 million or more, Miller said. He estimates that about 70% of properties selling for more than $5 million are second homes (or even third, fifth or 10th homes).

Proving non-primary residence based on tax rolls should be simple. Property worth more than $5 million will be subject to tax if the owner is not a New York City tax resident. Condo buyers through LLCs, which likely make up the vast majority of high-end buyers, can be difficult to identify. Because second homeowners who rent to long-term tenants may be exempt, some LLC owners may keep the rent to themselves and possibly avoid taxes, real estate experts say.

The bigger problem will be valuation. Property taxes are New York City’s largest source of revenue, accounting for more than 40% of total tax revenue in recent years, according to the city’s Independent Budget Office. But the city’s appraisal system values ​​properties well below market value. Thanks to a complex legal history of valuing certain types of real estate based on their rental value, assessed values ​​for New York City apartments are often a fraction of their market value.

“Assessed values ​​are incredibly low,” said Robert Pollack, senior partner at Marcus & Pollack LLP and an expert on New York property taxes. “These do not represent market values.”

Griffin’s penthouse at 220 Central Park South, which Mamdani used as a backdrop to announce the tax, was purchased for $238 million in 2019. But the city values ​​it at $6.99 million and lists the market value at $15.5 million, according to Pollack. Very few apartments in the building, which is among the city’s most expensive, would have to pay taxes below the city’s current values.

The 2019 pied-à-terre proposal called for valuations to be based on recent sales prices. But brokers said using recent sales prices could skew values ​​because every apartment is different and markets change quickly. To hit the $500 million annual revenue target for the new tax, city officials will likely need to create a new system for determining market values, experts say.

Miller said one option would be for property owners to get regular appraisals, which would create a flood of demand for appraisal companies like his.

“I would be very excited if every apartment in New York City had to undergo an annual assessment,” he said.

However, even if owner assessments are carried out, there will be pressure to value flats just below the nearest tax threshold. For example, a large number of apartments valued at $4.98 million may emerge to avoid taxes. Or someone with a $26 million condo might have it appraised at $24.9 million to avoid the top 4% rate.

“You can have these large sets of valuations in each tax bracket,” Miller said.