Opinion
Docket No. 010388-2008 Docket No. 014486-2009 Docket No. 016190-2010
07-18-2014
Re: 19 U.S. Highway 1, L.L.C. v. City of New Brunswick Block 703, Lot 17.10 (23 U.S. Highway 1)
NOT FOR PUBLICATION WITHOUT APPROVAL OF
THE TAX COURT COMMITTEE ON OPINIONS
Mala Sundar
JUDGE
BY ELECTRONIC MAIL
Yana Chechelnitsky, Esq.
Schneck Law Group, L.L.C.
301 South Livingston Avenue, Suite 105
Livingston, New Jersey 07039
Albert J. Alvarez, Esq.
Emil Philibosian, Esq.
Hoagland, Longo, Moran, Dunst & Doukas, L.L.P.
40 Paterson Street
New Brunswick, New Jersey 08903
Dear Counsel:
This letter constitutes the court's decision following trial of the above captioned matters. Plaintiff contests the local property tax assessments for tax years 2008-2010 on the above captioned property ("Subject") located in defendant City of New Brunswick ("City"). The contested assessments for all three years are:
| Land: | $ 200,000 |
| Improvements: | $ 518,000 |
| Total: | $ 718,000 |
The Chapter 123 ratio and the upper/lower limits for each tax year were as follows:
| Tax Year | Average Ratio | Upper Limit | Lower Limit |
| 2008 | 36.39% | 41.85% | 30.93% |
| 2009 | 37.15% | 42.72% | 31.58% |
| 2010 | 37.03% | 42.58% | 31.48% |
Application of the ratio indicates a market value of $1,973,070; $1,932,705; and $1,938,968 for each tax year. Each expert's value opinion for each tax year was as follows:
| Tax Year | Plaintiff's Expert | |
| 2008 | $1,527,300 | $2,400,000 |
| 2009 | $1,398,000 | $2,035,000 |
| 2010 | $1,222,000 | $1,760,000 |
PROCEEDINGS
The City's expert's value conclusion was after reconciling the value conclusions under the income approach ($2,479,000; $2,026,000 and $1,695,000) and the sales comparison approach ($2,291,000; $2,041,000; and $1,826,000) for each tax year.
After plaintiff's proofs through testimony and report of its expert witness (qualified and accepted as such by the court, and report admitted into evidence without objection), the City moved to dismiss the complaints under R. 4:37-2. The court found that plaintiff's expert's opinion was of sufficient quality and quantity being based on reasonable appraisal theory with underlying data, and denied the motion. See MSGW Real Estate Fund, L.L.C. v. Borough of Mountain Lakes, 18 N.J. Tax 364, 376, 378-79 (Tax 1998).
The City then presented its expert witness, qualified and accepted as such by the court. Her report was admitted into evidence without objection.
Both experts used the income approach. They differed primarily in their conclusion of market rents, allowance for operating expenses, and capitalization rates. Plaintiff's expert rejected the sales comparison approach while the City's expert found it as appropriate.
For the reasons stated below, the court finds that the income approach is the more appropriate valuation methodology for the Subject since it is a tenanted income producing property. Based on a detailed analysis of the respective expert's opinions as supported by the underlying data they provided through their respective reports and testimony, the court affirms the assessments for tax years 2008 and 2009, and reduces the assessment for 2010 to $506,350. FACTS
(A) Subject's Physical Description
The Subject is a free standing restaurant with a bar commonly known as "Famous Dave's Restaurant." Its one-acre (43,560 SF) pad site is part of a larger retail development comprised of 24.24 acres that include establishments such as a Loew's movie theatre (which is a multiplex theater with 3D and IMAX features).
The Subject's 1-acre pad site was given a separate assessment since the tenant was paying the real estate taxes. The assessor therefore gave the Subject a separate allocation of an acre although it is part of the 24.24 acre-lot. While plaintiff's expert deemed the Subject to be "assembled" to an adjoining lot, he maintained that this was mere "semantics" for valuation purposes.
In October of 2000, the prior owner (Sheldon Elizabeth Company) of the entire lot (24.24 acres) leased a portion of the same (9,000 SF) to New Brunswick Steakhouse, L.L.C. for tenant-construction of a restaurant. Sheldon Elizabeth Company had already acquired approvals in 1995 for construction of two 9,000 SF restaurant pads, a Sony movie theater, and a 70,000 SF retail space, and the movie theater was already developed (in 1996). Sheldon Elizabeth Company leased the 9,000 SF land with all necessary approvals to New Brunswick Steakhouse, L.L.C. for a 20-year period with step-ups every five years (with four 5-year options to renew). The annual rental was $112,500 for years 1-5; $123,750 for years 6-10; $136,125 for years 11-15; and $149,737.50 for years 16-20. Both experts agreed that the Subject had a net lease because the tenant was responsible for utilities, non-structural repairs and maintenance, and responsible for its pro-rata share of real estate taxes and operating expenses. The lease deed also stated that the parties therein intend the rental be a "net lease" with tenant to pay all operating costs of the Subject, and its share of costs of the "Shopping Center" (the remainder of the 24.24 aces), including its share of real estate taxes on the Shopping Center.
Sometime in 2001, the tenant constructed the Subject restaurant comprising of about 7,160 SF (with permits costing about $975,000). Subsequently, in July 2004, the owner sold the Subject's entire lot (24.24 acres) along with the existing ground lease to the current owner (19 U.S. Highway 1, L.L.C.) for $14.5 million.
Plaintiff's expert used 7,170 SF but the City's expert used 7,160 SF. Plaintiff's expert stated he got the area from the lease however that document only states that the tenant can build up to 7,200 SF. The City's expert credibly testified that she relied upon the building plans as well as her measurements. The court will use 7,160 SF as the Subject's area.
The Subject restaurant is located on the west side of U.S. Highway 1 in Middlesex County in the "C-5" (Highway Commercial) zone amidst several restaurants and a heavily developed and economically desirable commercial area. It is in close proximity to a competing major highway (Route 18) and to the commercial development on/near that highway. The Subject restaurant has adequate on-site parking to support the existing improvement and considered maximally developed with no surplus or excess land available for future development.
The dining area features hardwood and ceramic tile flooring, seats approximately 280 patrons. The bar area is made of hardwood. The kitchen area likewise has stain resistant tile flooring and ceramic tile wainscoting, and equipped with grills, stove, oven, ventilation hood, stainless steel appliances, walk-in refrigerator, and a large built-in smoker with hickory wood chimney (since Subject restaurant was a barbecue restaurant). Based on the photographs of the Subject, the court finds the Subject was in a good condition. Both experts agreed that it is well located with excellent access to linkages, which enhanced the Subject's use as a restaurant.
(B) Subject's Valuation
The experts agreed that the highest and best use of the Subject to be as its current use as vacant and as improved. They both used the income approach for valuation since the Subject was tenanted. The City's expert also used the sales comparison approach.
(1) Income Approach
Each expert followed the accepted methodology of applying the income approach. Both deemed the Subject to be leased on a net basis. They also agreed that rents must be averaged because initial years tended to be lower than later years, therefore, step-ups over the lease term must be analyzed and rents averaged.
Plaintiff's expert used the following eight comparable restaurant leases for all tax years with rentals ranging from $14.58 to $21.00 PSF (averaged if there were step-ups):
Plaintiff's expert computed the Subject's PSF for land and improvements by dividing the annual lease rentals by the area of the land leased and area comprising the improvements. Thus, he computed $12.50 PSF for land and $15.68 for improvements for years 1-5; $13.75 PSF for land and $17.25 for improvements for years 6-10; $15.13 PSF for land and $18.98 PSF for improvements for years 11-15; and $16.64 PSF for land and $20.88 PSF for improvements for years 16-20. He averaged these figures to conclude the PSF rent for land as $14.50 and for improvements as $18.20.
(1) 4,800 SF in a multi-tenanted retail shopping center located on Route 9 in Howell (Monmouth County), leased on 06/01/04 to Panera Bread Company (no bar facilities) for 10 years at $21 PSF on a net basis.The City's expert chose four lease comparables for all tax years as follows:
(2) 6,312 SF in a multi-tenanted retail shopping center located on Route 206 in Hillsborough (Somerset County), leased on 01/01/05 to Rafferty's Restaurant for 7 years at $14.58 PSF on a modified gross basis (tenant responsible for water and CAM charges).
(3) 5,058 SF of a free-standing building located on Route 206 in Hillsborough (Somerset County), leased on 03/01/05 to Charlie Browns Steakhouse for 25 years at $18.78 PSF on a net basis.
(4) 4,678 SF of a free standing restaurant building located on Route 130 in Bordentown (Burlington County), leased on 01/01/06 to Denny's (no bar) at $17.64 PSF for 13 years on a net basis. The expert deemed Route 130 similar to Route 1 based on his experience and expertise, and the fact that it is close to the Turnpike and truck stops.
(5) 2,080 SF in a multi-tenanted retail shopping center located on Union Hill Road (at the intersection of Route 9) in Marlboro (Monmouth County), leased on 05/01/06 to Gourmet Grill (with no bar facilities) for 5 years at $18.50 PSF on a net basis.
(6) 1,648 SF in a multi-tenanted mixed use building (with apartments above the retail stores) located in Dunellen (Middlesex County), leased to Mis Amigos (which had a bar) on 03/01/07 for 5 years at $14.70 PSF on a net basis. The building was mixed-use with apartments above the restaurant.
(7) 2,000 SF in a multi-tenanted building located in Manville (Somerset County), leased to Tirara Restaurant (an Italian Bistro likely with no bar) at $21 PSF for 5 years on 05/19/07 on a modified gross basis (tenant responsible for utilities, snow, and trash).
(8) 3,360 SF in a multi-tenanted retail shopping center located on Route 9 in Howell (Monmouth County), leased on 03/26/08 to Christies Italian (no bar facilities) for 2 years at $17.50 PSF on a net basis.
(1) 10,500+ SF of a free standing restaurant located in Forrestal Village in Plainsboro (Middlesex County), leased on 01/02/08 to Ruth's Chris Steak House for 20 years with four 5-year step-ups ($19.05 PSF for years 1-5; $21.43 PSF for years 6-10; $24.11 PSF for years 11-15; $27.12 PSF for years 16-20) at $22.93 PSF "weighted average" on a net basis. Although a good location, the expert claimed it was not a destination location like the Subject so deemed it inferior. It used to be a bank and was expanded in 2008 as a restaurant. It has ample on-site parking.Both experts made typical adjustments in similar but somewhat varying percentages. Both agreed that Route 1, the Subject's location, is a commercially and economically well-established, desirable corridor. They also agreed that their review of the insignificant difference in the rentals PSF vis-à-vis the size of the leased space did not warrant a size adjustment.
(2) 5,100+ SF in a multi-tenanted retail shopping center built 2007 located in Florham Park (Morris County), leased to Panera Bread in 2006 for 10 years at $32 PSF on a net basis. She deemed the location inferior since it was located on a secondary commercial roadway but superior in physical condition (age) and access.
(3) 6,125+ SF of a free-standing Applebee's restaurant located proximate to Route 82 and the Garden State Parkway in Union (Union County), leased on 08/03/04 to Apple Food Service of Union, L.L.C. for 20 years at $33.88 PSF (average) on a net basis. She deemed this lease's location and accessibility as superior to the Subject.
(4) 11,000+ SF of a free standing restaurant, Salt Creek Grill, located in Route 1 South in Plainsboro (Middlesex County), leased 07/15/06 to Salt Creek Grill for 15.5 years with step-ups ($19.05 PSF for years 1-1.5; $29.70 to $45.27 PSF for years 1.5-15.5) at $36.53 PSF "weighted average" on a net basis. She deemed this comparable having as good a visibility as the Subject and in superior condition (age/finish).
In June of 2006, the same property had been sold by Denny's Realty, Inc. to Mabel Realty of Bordentown, L.L.C. for $927,346. The 2006 lease relied upon by plaintiff's expert was between the latter and the former.
They both made location adjustments (10% by plaintiff's expert; 10%-15% by the City's expert) and for physical condition (10% by plaintiff's expert deeming the Subject's free-standing characteristic as superior to an in-line restaurant in a multi-tenanted retail shopping center; 5%-10% by the City's expert for age/condition). Plaintiff's expert made an additional adjustment for modified gross vs. net lease (20% since the real estate tax and insurance portion of the rental which is paid by the landlord in a modified gross lease was about $4 or 20% of the rental). The City's expert made additional adjustments for access/visibility (10%-15%) and market conditions (10% from 2007) because based on the 2006-2009 sales she had used in her sales comparison approach, the market rose through 2005, then stabilized in 2006, then fell starting in 2007 onwards by about 10%. Plaintiff's expert however maintained that the subject market segment revealed stable rentals for 2004-2009 requiring no adjustments.
Plaintiff's expert concluded the Subject's rent as $20.00 PSF for each tax year. This provided a potential gross income for each tax year of $143,460. The City's expert concluded the Subject's rent as $30 PSF for 2008; $27 PSF for 2009; and $24 PSF for 2010. Her gross potential income was $214,800; $193,320; and $171,840 for each tax year.
Each expert provided for vacancy and collection/credit loss. Plaintiff's expert used 7% for all three years, which he stated was based on an investor survey that showed a range of 0.05% to 15% and appraisers' typical use of rates ranging from 5% to 10%. The City's expert used 6% for 2008 and 10% for the other two years. Her estimates were based on a survey by Brunelli & Company (detailed in her report) which collected data showing vacancy rates for retail facilities in Central New Jersey and Route 1 corridor as 3%-4.7% (2007); 9%-9.5% (2008); 9.4%-9.8% (2009).
Both experts provided for what they agreed were typical operating expenses but differed in their allowance amounts. Plaintiff's expert allocated 5% for management; 5% for leasing commissions; and 3% for reserves; which totaled $17,345 for each tax year at issue. The City's expert allocated 2% for management; 3% for commissions; $0.20 PSF reserves; and 1% for insurance. The expenses totaled $13,546 (2008); $11,872 (2009); and $10,712 (2010).
In concluding their overall capitalization rates ("OAR"), both experts used the band of investment ("BOI") method. They both relied upon ACLI Investment Bulletin ("ACLI") and Korpacz Real Estate Investments Survey ("Korpacz") (plaintiff using the survey for "National Power Market" and the City's expert using data for "National Strip Shopping Center Market"). However, plaintiff's expert relied upon third quarter information, whereas the City's expert used data from/reported from the fourth quarter. There was little difference in the individual components of the BOI method, except for the amortization period (for 2009 and 2010) and in the equity rates of return (for 2010).
These include big box stores (Cosco; BJ's Wholesale Club) and discount retailers (Wal-Mart).
These are described as "well-located neighborhood strip centers anchored by top supermarket and drugstore chains."
Plaintiff's expert used interest rates of 6.2%; 6.5%; and 7.7% for tax year 2008, 2009, and 2010, respectively; 25-year amortization schedule (2008) and 20-year term for 2009 and 2010; loan-to-value ("LTV") ratio of 65% for the for the first two tax years and 60% for 2010; and equity rates of 7% for the first two tax years and 9% for 2010. His OAR was 7.6% (2008), 8.30% (2009), and 9.50% (2010). He noted that the Subject was "a well-located restaurant facility" with a "potential to produce a good quality income stream." These factors also established that the Subject would attract prospective investors thus would be "considered a good quality investment grade property."
The City's expert used interest rates of 6.25% (2008) and 7% (2009; 2010) with a 25-year amortization schedule for all years; a 65% LTV ratio; and equity rates of 7.25% for the first two tax years and 8.5% for 2010. Her OAR was 7.6% (2008), 8% (2009), and 8.5% (2010).
Plaintiff's expert concluded a value (rounded) under the income approach of $1,527,300 (2008); $1,398,000 (2009); and $1,222,000 (2010). The City's expert concluded the Subject's value (rounded) as $2,479,000 (2008); $2,026,000 (2009); and $1,695,000.
(2) Sales Comparison Approach
Plaintiff's expert deemed this approach unreliable because the sale prices could include consideration for other assets (such as inventory and/or goodwill) which could result in appraising a leased fee and generate skewed results due to potentially inaccurate allocation.
The City's expert found this approach viable because a pad site restaurant is typically owner occupied. Furthermore, she was able to locate several recent restaurant sales in the Subject's county and verified their details from parties to the sale or their representatives. She used six comparable sales as follows:
(1) "Stuff Yer Face," a free-standing restaurant of 3,954 SF on a 2.11 acre-site located in the Highway Commercial zone on Route 18 in East Brunswick (Middlesex County), 6 miles south of the Subject. It sold 05/30/06 for $2 million, of which, per seller's attorney, $100,000 was allocable to personal property. She maintained that the property was well-developed with good exposure. She stated that Route 18 was equal if not superior to Route 1 where the Subject is located.
(2) "Cajun Queen," a free-standing restaurant of 5,600 SF on a 0.91 acre lot, located 10 miles from the Subject in Woodbridge (Middlesex County) in its Business Zone. It sold 07/13/09 for $2.3 million which represented the price for the real estate only per the seller's attorney. The liquor license and goodwill were separately sold for $600,000. There were two recorded mortgages, one in favor of a bank for $2 million, and one in favor of the seller for $400,000.
(3) "Confectionately Yours," a free-standing restaurant of 4,488 SF on a 0.78 acre lot, located on Route 27 in Franklin (Somerset County) in its Business Zone and about 2.7 miles from the Subject. It sold 03/02/09 as a leased fee for $1.65 million but without the liquor license. The property was later demolished for a medical office.
(4) "Vincenzo's Restaurant," a free-standing eatery of 3,167 SF on a 0.23 acre lot, located 10.3 miles from the Subject in Middlesex Borough (Middlesex County) in its General Business zone. It sold 01/24/07 for $1.35 million including liquor license, personal property, and goodwill. The "value" of the real estate was $990,000, the amount recorded on the deed per the buyer and seller's attorney. There was $900,000 mortgage recorded in favor of the seller at 7% interest for 25 years.
(5) "Steak & Ale," a free-standing restaurant (with bar) of 6,269 SF on a 0.95 acre lot, located in Woodbridge (Middlesex County) in its Business zone. It sold 03/30/06 for $2.1 million (with a recorded mortgage in favor of a bank for $1,575,000) for real estate only per the seller's attorney. It is now operating as "Famous Dave's" (the Subject's franchise).
(6) "Arthur's Tavern," a free-standing eatery 2.8 miles southwest of the Subject, of 6,912 SF on a 2.10 acre lot, located in North Brunswick (Middlesex County) in its Commercial District off of Route 1. It sold 07/11/06 for $1,925,000 (but with a recorded mortgage of $1.5 million in favor of a bank). Additional $575,000 was paid for liquor license, goodwill, and personal property per the buyer's attorney.
The property changed hands thrice after the sale but the expert was unaware of the same.
She made adjustments at 10% based on the Subject's location on Route 1, a major commercial artery; for age/condition (5%-10%); for access/visibility (5%); for building coverage ratio (3%-5%); for size (30%) based on the PSF sale price difference of the comparables based on their respective sizes, the smaller properties selling for a higher PSF price. Her report noted that the market was on the rise through 2005, then stabilized in 2006, then fell starting 2007 onwards by about 10%, therefore provided market conditions adjustment accordingly.
Based on the adjusted sale prices, she concluded the Subject's value as $320 PSF (2008) and due to market conditions starting 2007, reduced this amount to $285 PSF (2009) and $255 PSF (2010). These, when multiplied by the Subject's area (7,160 SF), provided the Subject's value as $2,291,000 (2008); $2,041,000 (2009); and $1,826,000 (2010). She reconciled this with her value conclusions under the income approach for a final value of the Subject at $2,400,000 (2008); $2,035,000 (2009); and $1,760,000 (2010). ANALYSIS
"Original assessments and judgments of county boards of taxation are entitled to a presumption of validity." MSGW, supra, 18 N.J. Tax at 373. Therefore, a taxpayer has the burden of proving "that the assessment is erroneous" with evidence that must be "definite, positive and certain in quality and quantity to overcome the presumption." Id. at 373. This burden remains through the trial, thus, even after the taxpayer defeats a motion under R. 4:37-2. Ford Motor Co. v. Twp. of Edison, 127 N.J. 290, 314-15 (1992).
Once the presumption of correctness is overcome, the court must determine the value "based on a fair preponderance of the evidence." Id. at 312-13. The court's "independent assessment" depends "on the evidence before it and the data that are properly at its disposal." F.M.C. Stores Co. v. Borough of Morris Plains, 100 N.J. 418, 430 (1985).
"There is no one doctrinaire approach to the valuation of property . . . . [t]he search is for the true value of the property; that price which a hypothetical buyer would pay a hypothetical willing seller." Petrizzo v. Twp. of Edgewater, 2 N.J. Tax 197, 200 (Tax 1981). "[T]he answer as to which approach should predominate depends upon the facts in the particular case." WCI-Westinghouse, Inc. v. Twp. of Edison, 7 N.J. Tax 610, 619 (Tax 1985), aff'd, 9 N.J. Tax 86 (App. Div. 1986). What is important is "the price reasonably expected to be obtained for the subject property through the actions of the marketplace." Ibid. Thus, courts can consider "cost less depreciation and sales of comparable property. It may also [consider] rental income . . . . There can be no rigid rule. The answer depends upon the particular facts and the reaction to them of experts steeped in the history and hopes of the area." City of New Brunswick v. N.J. Div. of Tax Appeals, 39 N.J. 537, 543-44 (1963).
Here, the Subject is a single tenanted income producing property. It is located in the City's commercial zone. As such, a potential investor would be more interested in its income producing capacity. However, the lease deed also attributes some of the burdens of ownership to the tenant. For example, the tenant is solely responsible for the structural replacement or repairs of the Subject (such as for foundation, roof repairs, HVAC system). It is required to keep all area sidewalks adjacent to the Subject in a repair free condition (including snow, ice, and debris removal). Any such costs will not be considered as CAM charges apportionable to and payable by other tenants. Another such provision is that if the assessor of the City imposes a separate or "specific" assessment for the building on the Subject, the tenant will pay such tax (by multiplying that assessment by the municipal tax rate), but pay only its allocable share of the assessment for the land area (by multiplying the assessment allocated to the land area of the entire shopping center by the municipal tax rate times the tenant's share, which is the 9,000 SF/total leasable ground floor area of all buildings in that shopping center). Thus, the City's basis for the use of a comparable sales approach is credible, and also because there are many restaurants with a pad site such as the Subject, which are generally owner-occupied.
The court therefore examines the persuasiveness of both approaches. It however finds the income approach as the most appropriate for the Subject.
(A) Income Approach
The court finds that the City's expert's leases 1, 3 and 4 are more appropriate comparables. Her focus was on rentals similar to the Subject, thus, located on major commercial roadways such as Route 1, and on free-standing or pad sites. Like the Subject, these comparables are restaurants with bar facilities. Lease 4 is located on Route 1, the same corridor (and county) as the Subject, shares the same desirability as the Subject in terms of location with high traffic and visibility, and is proximate in terms of the valuation dates. These leases were all stand-alone buildings like the Subject. They all had lease periods of over 15+ years, thus, more similar to the Subject's 20-year lease.
On the other hand, plaintiff's expert's eight comparables were in-line buildings in multi-tenanted retail centers whereas the Subject was a stand-alone restaurant. His comparable six ("Mis Amigos") was, according to him, a small mom-and-pop facility, located in a mixed-use building with apartments above the restaurant. Four of his leases had lease terms of 5 years or less compared to the Subject's 20-year lease. None of the comparables were located on the Route 1 corridor. He admitted that Route 206 (the location of two of his leases) was an inferior commercial corridor as compared to Route 1 and thus would command lesser land values. While two leases ("Panera Bread" and "Christies Italian") were located on Route 9, a commercial corridor very similar to Route 1, they were nonetheless dissimilar to the Subject since they were in-line buildings and further away from the highway. Moreover, the lease term of Christies Italian was only two years. His lease 4 ("Denny's") was also suspect. He did not know of, and had not reviewed, the sale deed for the property in which the seller (Denny's) was the lessee, and the buyer (Mable Realty of Bordentown) was the lessor, thus, was uncertain whether the transaction was a sale-leaseback.
Although there is not much difference in adjustments between the two experts, the court finds the City's expert's adjustments more credible. For instance, her unadjusted comparable sales in Middlesex County supports her conclusion that the market was stable in 2006, but fell in 2007. Whereas there was no data in plaintiff's expert's report which established that rentals (whether for Middlesex County or otherwise) were stable from 2004 to 2009. However, her computation of the adjustment for her lease 1 is confusing. She testified (consistent with her report) that the market was on the rise during 2004-2005, stable in 2006, and began to decline 2007 onwards at an estimated depreciation rate of 10%. Yet, for her first lease which commenced 01/02/08, she made an upward adjustment of 3%. This should have been -3% under her opinion of a falling market in 2007 and thereafter. Indeed, she made negative market conditions adjustments for the succeeding two tax years in accordance with her explanation for this adjustment.
Notably, in developing his capitalization rates he increased the equity rates of return for tax years 2009 and 2010. He testified that the market started to change from 2007 onwards, dramatically changed in 2008, and "fell out" in 2009.
The court however arrives at a different PSF rental. First, the City's expert incorrectly computed the adjusted rentals for lease 3 for 2009 and 2010 because she used +10% adjustment for location when in fact she testified and had provided for -15% for that comparable's superior location for 2008. Second, and as noted above, her +3% market conditions adjustment for lease 1 for 2007 appears incorrect (at -3%, the adjusted rental computation lowers to $26.68 for 2007). Furthermore, rather than the equal weight she appears to have placed on the comparables, the court places most weight to her comparables 3 and 4, and then to comparable 1, and least weight to her lease 2 ("Panera Bread"). The court thus finds the Subject's PSF rent for each tax year as $28; $24; and $21, respectively.
The court also finds the City's expert's vacancy rates more credible because her report detailed the data source and the basis for her conclusion. Plaintiff's expert provided no such source other than stating that his conclusion was derived from some investor survey.
The court similarly finds that the City's expert's estimates for operating expenses more credible. In this connection, the court does not find persuasive plaintiff's expert's explanation that smaller areas command larger management fees whereas big box stores such as Home Depot can be allocated smaller percentage. The City's expert's explanation was more credible that the high-end of the percentage range in the Korpacz data was for larger multi-tenanted properties unlike the Subject's stand-alone building, and given the hybrid nature of the lease. For the same reason, the reserves used by the City's expert is more credible. As to leasing commissions, the court finds plaintiff's expert's basis for 5% allowance, namely, that commissions are for the lease term and lesser if renewed, is more credible. The City's expert agreed that commissions ranged from 2%-6% but provided 3% based on a "probability" that 50% of leases are renewed. This is speculative. Nor was there any proof from the leases she had relied upon, all of which were for over 10 years and none were claimed to be on a renewal basis.
As to the OAR, the court finds plaintiff's expert's use of data for the third quarter as more appropriate. This period is closest to the valuation date of October 1 and contains the data up to that date. The court thus finds the plaintiff's expert's use of the interest rates for the mortgage component and thus, the mortgage constant as more credible as supported by the ACLI data.
The ACLI data for each quarter is accumulated as each loan is committed, but submitted at the end of each month. The three months comprising a particular quarter are then compiled together on the final day of the quarter (i.e. September 30th for the third quarter). The most recent data as of the valuation date of October 1 of any given year would therefore be that of the third quarter.
However, plaintiff's expert's equity rate for tax year 2010 is somewhat high when evaluated with data from the ACLI, and considering the expert's concession that the Subject is of quality investment grade with strong income stream potential and desirability (thus, lower risk investment). Indeed, his equity rate of 9.5% exceeds the Korpacz average of 8.5%. In this connection, it should be noted that it is comprised of a survey of unleveraged or "all cash" transactions which provides the possibility of higher-than-normal equity return rates. See Hull Junction Holding Corp., v. Borough of Princeton, 16 N.J. Tax 68, 102 (Tax 1996) (where investment in property is a combination of debt and equity, and the cash or equity component is "only 25%-30% of the total investment, the equity dividend rate would tend to be lower than the all cash rate"). The court finds an equity return rate of 8% as more appropriate for 2010, which provides an OAR of 9%.
The City's expert relied upon Korpacz data applicable to national strip shopping centers, which are described as "well-located neighborhood strip centers anchored by top supermarket and drugstore chains." However, this does not reconcile with her repeated emphasis that the Subject as a free-standing pad site is more desirable, thus, more valuable. Thus, her selection of the equity rate is also not persuasive.
(B) Sales Comparison Approach
The court rejects the City's expert's sale 3 ("Confectionally Yours") since it was a leased fee and she "assumed" that the lease amount was market rent. She did not make any adjustment claiming this as irrelevant since the property was demolished subsequent to the sale (but she did not know when the demolition took place). She was also uncertain of the status of the liquor license. Clearly, it was not sold to be continued as a restaurant since it was demolished to raise a medical office building. Therefore, reliability on its 2009 sale price as a reliable indicator of the Subject's value as of 10/1/2007; 10/1/2008 or 10/1/2009 is unpersuasive. She also conceded this was not one of her "best" comparables.
The City's expert's comparable sale 5 ("Steak & Ale") is also of questionable reliability. The expert conceded that she was unaware of Steak & Ale's bankruptcy at the time of the sale. It is unclear whether the property was sold as part of that franchise's bankruptcy or independently by the franchise owner or by some other owner unconnected with the franchise. There was no information on the liquor license.
Two comparables ("Cajun Queen" and "Vincenzo's Ristorante") were financed partially by the sellers of the property who took mortgages for the same as consideration. In "Cajun Queen" the grantor financed $400,000 of the $2.9 million sale price while in the latter, the seller financed almost 75% of the sale price. These facts raise some concerns as to whether there were any special circumstances concerning the sales. The City's expert's report simply stated that "conditions of sale and financing terms were all deemed typical and consistent with the market value premise, and therefore, required no adjustment," yet she "assumed" that the seller's financing in "Cajun Queen" was at market rate interest and loan term. She presumably concluded that the 7% interest for 25 years in the latter comparable was at market but there is no analysis or testimony in this regard. Moreover, she was unaware that "Cajun Queen" had changed three times subsequent to the sale. It is unclear whether those subsequent sales occurred in 2009 (within the 2010 valuation date) or shortly thereafter, and if or how this impacted the mortgage in favor of the original seller.
In her income approach portion of her report, the expert deemed 6.25% as the market interest rate for a 25-year amortization period for tax year 2008 (as of 10/1/2007) for the Subject based on its age and location. This rate may or may not have been relevant for the sale comparable, "Vincenzo's Ristorante," since it sold 01/24/2007. She, however, stated its condition to be "average" whereas the Subject's was listed as "good." The court however was not offered any explanation by the expert as to whether or how she concluded that the 7% rate was at market.
As in her income approach, she made positive adjustments for market conditions in tax years 2008 and 2009 for her comparable sales 2 and 3 ("Cajun Queen" and "Confectionally Yours") although their sales dates were in 2009 and she opined that the market was declining at an estimated depreciation rate of 10%.
Another problem is that all the comparables included sale of personal and tangible property. This raises the issue of the reliability of the allocation of the sales price to real estate.
Sales which include items other than real estate are generally used with extreme caution. See, e.g., Worden-Hoidal Funeral Homes, Inc. v. Borough of Red Bank, 21 N.J. Tax 336, 338-339 (Tax 2004) (noting that using comparable sales of funeral homes which "are almost always sales of both the business and the real estate, with the sales price typically being some multiplier of income" may render the experts' "opinions of the true value of the real estate to be less persuasive."). The experts in Worden-Hoidal Funeral Homes, Inc. agreed that such sales can be problematic because of the price allocation, and further because "if the funeral home business is distressed or nonexistent at the time of the sale, it depresses the price of the real estate." Id. at 339. The court stated that "[i]t is, therefore, important for the appraiser to "verify carefully the conditions of each sale." Ibid.
The court accepted the sales comparison approach because both experts agreed there was a paucity of comparable rental information, and "neither expert disputed the allocation of any sales price between the value of the real estate and the value of the business as made by the buyer and seller," thus, the experts had "made the same assumption as to the reliability of the allocated sales prices with respect to their use of comparable sales." Worden-Hoidal, supra, 21 N.J. Tax at 339.
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The principle was also recognized in Westwood Lanes, Inc. v. Borough of Garwood, where the court rejected the experts' comparable sales approach as "unreliable because the . . . sales involved" real estate plus other assets of the business, and the "value assigned to the real estate was an allocation made by the buyer and seller and not something determined separately in the market. Westwood Lanes, Inc. v. Borough of Garwood, 24 N.J. Tax 239, 243-244 (Tax 2008). "An allocation such as this is unreliable for setting a market price of the real estate alone." Id. at 244 (citing Worden-Hoidal Funeral Homes, supra, 21 N.J. Tax at 344-45). Cf. Township of Union v. Director, Division of Taxation, 1 N.J. Tax 15, 21 (Tax 1980) (since the sale deed recited allocation, "they must have been significant to the parties for some reason" but in the absence of "competent proof [as] to the value of the real estate alone" or of "the intention of the seller, who prepared the allocation schedule with the purchaser's attorney," the sale was properly excluded from Director's ratio studies) (relying on Kingsley v. Div. of Tax Appeals, 40 N.J. 338 (1963) where the price allocation to real estate was supported by the parties intent and "testimony of two expert real estate appraisers" as to the value of the real estate).
Here, the City's expert confirmed the numbers by speaking to either the buyer/seller or their attorney/s and reviewing deed abstracts. She maintained that this cross-check sufficed because parties are usually sophisticated enough, and further surmised that since parties usually did not want to pay an additional realty transfer fee they would generally not include assets other than real estate in the recorded sale deed. She also stated that she would never use a sale if she could not verify the allocation of its consideration.
The court is not satisfied that these confirmation measures establish the reliability of the allocated real estate sale prices as being indicators of the Subject's true value. If parties are sophisticated enough and desire to minimize the realty transfer fee, it can be equally argued that they can adjust the allocation according to whatever financial or other non-market factors they may need to accomplish. The expert conceded that she did not review or analyze the actual contract of sale for any of the comparables. There was no testimony to indicate she sought information whether the sale involved appraisals on the real property. For instance, in her comparable one, the seller's attorney simply confirmed that the personal property included in the sale was at an "estimated value of $100,000."
The court is mindful that an expert should not be put to an onerous task of proving his or her opinions by providing voluminous objective data because of "the expense incurred by litigants in engaging an expert." See Glen Wall Assoc. v. Township of Wall, 99 N.J. 265, 280-81 (1985). However, given the inherent subjectivity and internal/external factors influencing the price allocation (such as tax planning, accounting treatment, capital gains/loss treatment) to any particular component of the sale, an expert has to scrutinize the information carefully. While the parties or their representatives may be perfectly honest in confirming the dollar amount of the sales consideration, and the amount allocated to each component of the sale, the recitation of the dollar amount does not necessarily equate to a conclusion that the amount allocated to real estate is its fair market value in the open market.
Under these circumstances, the court finds that the comparable sales approach is not as persuasive a value indicator as the income approach because the latter methodology does not present the speculative potential inherent in the former approach. Further, the income approach is much more appropriate because the Subject was in fact, as of each of the valuation dates here, a tenanted income producing property. Thus, a reasonable investor would consider the same for its income producing potential in deciding to purchase or invest in the Subject.
In sum, the court finds the income approach more suitable for valuation of the Subject. Based on the foregoing analysis, the valuation is summarized for each tax year as follows:
| Tax Year 2008: | ||
| Potential Gross Income (7,160 SF @ $28 PSF) | $200,480 |
| Less: 6% vacancy/collection loss | ($12,029) | |
| Effective Gross Income ("EGI") | $188,451 | |
| Less: Management (2% of EGI) Reserves (0.20 PSF) Insurance (1% EGI) Leasing Commissions (5% EGI) | $ 3,769 $ 1,432 $ 1,885 $ 9,423 | |
| TOTAL | ($16,509) | |
| Net Operating Income | $171,942 | |
| OAR at 7.6% | ||
| Value (rounded) | $2,262,395 |
The assessed to true value ratio is 31.7% ($718,000/$2,262,395). This is below the upper limit (41.85%) and above the lower limit (30.93%) and of the Chapter 123 ratio. Therefore, the assessment is affirmed.
| Tax Year 2009: | ||
| Potential Gross Income (7,160 SF @ $24 PSF) | $171,840 | |
| Less: 10% vacancy loss | ( $17,184) | |
| Effective Gross Income ("EGI") | $154,656 | |
| Less: Management (2% of EGI) Reserves (0.20 PSF) Insurance (1% EGI) Leasing Commissions (5% EGI) | $ 3,093 $ 1,432 $ 1,547 $ 7,733 | |
| TOTAL | ($13,805) | |
| Net Operating Income | $140,851 | |
| OAR at 8.3% |
| Value (rounded) | $1,697,000 |
The assessed to true value ratio is 42.3% ($718,000/$1,697,000). This is below the upper limit (42.72%) and above the lower limit (31.58%) and of the Chapter 123 ratio. Therefore, the assessment is affirmed.
| Tax Year 2010: | ||
| Potential Gross Income (7,160 SF @ $21 PSF) | $150,360 | |
| Less: 10% vacancy loss | ( $15,036) | |
| Effective Gross Income ("EGI") | $135,324 | |
| Less: Management (2% of EGI) Reserves (0.20 PSF) Insurance (1% EGI) Leasing Commissions (5% EGI) | $ 2,706 $ 1,432 $ 1,353 $ 6,766 | |
| TOTAL | ($12,257) | |
| Net Operating Income | $123,067 | |
| OAR at 9% | ||
| Value (rounded) | $1,367,410 |
The assessed to true value ratio is 52.5% ($718,000/$1,367,410). This is above the upper limit (42.58%) of the Chapter 123 ratio. Therefore, the assessment is reduced to $506,350 (rounded). CONCLUSION
For the foregoing reasons, the court finds that the assessments for tax years 2008 and 2009 should be affirmed. The assessment for 2010 is reduced to $506,350 allocated as follows:
| Land: | $ 200,000 |
| Improvements: | $ 306,350 |
| Total: | $ 506,350 |
An Order and Judgment reflecting the above assessments will accompany this opinion.
Very truly yours,
Mala Sundar, J.T.C.