Tax Prorations: What Realtors Need To Know In 2019
By Adam Gurney, Managing Partner
Quick question if you’re a real estate agent: Do you understand how tax prorations work, specifically in a reassessment year?
If not, it’s OK. You’re not alone. The truth is, many agents don’t. Still, without understanding how different tax prorations can be in a reassessment year, negotiations during attorney review and inspection could unexpectedly break down. Here’s what you need to know so you can continue to pave the way for a smooth deal once both parties sign the contract.
Reassessment Changes The Rules On Property Taxes
In particular, 2018 was a reassessment year for Chicago and every property in the city was reassessed. In the process, many property taxes went up far beyond 10%! 2019 is a reassessment year for the northern suburbs of Cook County (everything north of North Avenue) and you can probably expect similar results there.
Here’s why that’s important: Agents are used to taxes being prorated at 105% or 110% of the prior year in non-reassessment years. They then insert that percentage into a contract. But every third year, when there’s a reassessment, it can be a very different story.
When you list 105% or 110% on the contract, both sides have the expectation that that’s more or less where taxes will end up. But is this actually the fair and reasonable tax proration? Not necessarily when there’s a reassessment. 125%, 135% or even a percentage as high as 150% could be considered a tax proration that’s fair and reasonable.
But, if the seller has already agreed to 110% and the buyer has asked for 135%, seller attorneys often make the argument that 110% has already been agreed to by both parties so there’s no reason to change. But everyone knows that’s not a fair position to take, because we know that:
1) The agents (probably) didn’t understand what was and wasn’t fair when drawing up the contract
2) Attorneys see themselves “working it out” regardless of what’s in the contract anyway, so they’re only trying to use that knowledge against agents.
As a result, too many deals are being held up in Attorney Review and the Inspection period over tax prorations, which is not good for anyone.
Let me give you a recent example to illustrate:
Not long ago, I was working on a deal in which the contract said “110%.” Again, if we were dealing with a “normal” year, inserting 110% in the contract wouldn’t be an issue. In a reassessment year, however, that percentage stalled Attorney Review negotiations before they even started.
We ultimately settled on a percentage of 135%, which was actually a great deal for my clients – the sellers, considering their assessed value went up over 37%. But trying to explain to sellers that giving the buyer an additional 25% is a win proved quite difficult. All she heard was the “you owe $2,000 more than what the contract says” part of the argument.
So how can you head off this kind of thinking and the delays it can cause during Attorney Review? A couple of solid and simple strategies should save you some headaches here.
#1: Set The Right Expectation From The Very Beginning
It’s easy to view tax prorations as a negotiation between sides, but that’s the wrong approach. There’s a time and place for hard-line negotiation where both parties are trying to get out ahead, such as the overall price of the property or certain items the inspection reveals.
The goal of tax prorations is different – you’re looking for each party to pay their fair share. Ideally, nobody “wins” or “loses.” It’s about reaching an equitable and fair agreement between the attorneys. In this sense, it is like a water bill, rent credit or assessment credit.
So if you couple a conversation about tax prorations with inspection requests, for example, you set a difficult tone for getting things done.
#2: Skip The Percentages And List “TBD” For The Tax Proration
Instead of inserting 105% or 110% in the contract, I’d like you to consider how using three little letters for the tax proration instead – TBD - can make all the difference for you when negotiating contracts to help ensure the process is relatively smooth and painless.
List “TBD” on the contract until the final bill for the reassessment year is out. For Chicago properties, that should be July 2019, so proceed with this approach for at least the first half of this year. For north suburban properties, that should be July 2020, so use “TBD” for all of this year and the first half of next year.
Once we reach July, the full tax bill for 2018 will be out and we can return to “business as usual” having 105-110% in the contract on Chicago real estate transactions. For now, save yourself the hassle and leave it to our team of real estate attorneys at Miles & Gurney to help navigate the course ahead for you. In unique circumstances like a special year of reassessments, this is where our experience shines. Don’t wait for negotiations to hit a snag and take your client by surprise – talk to us today at 312.929.0974.
Adam Gurney focuses primarily on real estate law, where he has experience representing buyers and sellers, lessors and lessees, in all phases of real estate transactions.