Homebuyers are often in for a rude awakening when they receive their first property tax bill after they move in.
That's when they discover that the tax estimated at closing was just that: an estimate. More often than not, the estimate was not only off, it was way off -- by hundreds or perhaps even thousands of dollars.
Sometimes the bill is estimated by the real estate agent, who wants to show a low monthly payment so the place looks more affordable. Sometimes the agent simply goes off the seller's tax bill, not bothering to even hazard a guess of what the new tax bill will be when the house changes hands. Other times, the title company folks get it wrong. Even when they do their level best to get the number right, they are sometimes incorrect.
Whatever the case, the result is the same: The new owners are hit with higher house payments that they can't avoid. Unless they choose to sell and move on, they are stuck.
"Mistakes in property tax estimates can be much more than an inconvenience," says Mark Collins of Black Knight Financial Services. "In some cases, they can be devastating. Any unexpected and significant monetary obligation can create a substantial financial hardship."
Any number of things can drive up your property tax bill. The most likely event is a new and higher sales price, which means the value of the property has gone up. Another possibility: A pending assessment of property renovations or improvements is not yet reflected in the assessed value. Or an inaccurate or out-of-date tax record, overlooked until the property changed hands, may now be corrected.
The point here is this: Homebuyers shouldn't take anyone's word for it when it comes to their future property taxes. A little homework is in order.
Unfortunately, coming up with an accurate estimate can be difficult because there are so many variables to consider at the local, regional and state level, says Collins. There isn't any single solution that fits all states, since each state's tax rules -- and those of the jurisdictions within them -- present their own set of unique challenges.
The good news is that many jurisdictions offer free tax estimators on their websites. For example, Montgomery County, Maryland, has an estimator based on the address of the property and the tax account number for the most recent bill sent to the seller. Los Angeles County in California has an estimator for what you can expect to pay on your new house, but only for existing properties that are changing ownership, not for new construction.
There also are commercial sites that will do the same. Tax.Fizber.com, for example, is a free site that allows you to calculate the tariff for any property in any city nationwide.
If you are of a mind to do it yourself, your first step is to review the property record for your new house to determine whether the physical data accurately reflects the property in its current conditions. Is the correct number of bedrooms listed? Bathrooms?
Now determine if recent renovations or improvements are already included in the assessed value. If not, they will be in a future assessment. And if the work was done without the proper permits, it's highly likely that the current assessment in based on inaccurate information and that an increase is coming.
Next, according to New Jersey appraiser Michael Brady, determine if the assessment is disproportionately low (compared to like properties) by looking for the average ratio of assessed-to-true value for the taxing district. The ratio can be found in the Table of Equalized Valuations on the assessor's office website.
"Once you know the average ratio for your municipality, it's possible to evaluate the assessment to determine the likelihood of a future tax increase," says Brady.
The appraiser says this varies by state, and that not every state posts the equalized valuation table. But unless the jurisdiction updates assessments every year, there is likely an "equalization ratio" that is used to adjust assessments.
If the average ratio is near 100 percent, according to Brady, a purchase price significantly higher than the assessment is a strong indication that your taxes will be sharply higher. Ditto if the current assessment is significantly below market value, or what you paid for the place. So if the average ratio is, say, 75 percent, but the current assessment is 50 percent of value, a bigger tax bill is in order.
Sounds intimidating, for sure. But if you don't want to be hit by a major surprise, it may be worth a try. At the least, at closing, ask who estimated your tax bill and how they arrived at that number.
Erroneous tax bills can also trip up would-be buyers even before they close. The incorrect bill could be so high that buyers are turned down by lenders, because the tax puts them above the acceptable debt-to-income ratio.
Collins provides this example: A borrower who applies for a $500,000 loan is rejected because the DTI ratio is over the 44 percent his lender demands. But the ratio is high because the predicted tax bill is $6,250, as opposed to the actual bill of $5,000.
Had the bill been estimated correctly, the buyer would have been able to proceed. But the $1,250 difference kicks him over the ratio, and he loses the house he wanted to buy. Homework and preparedness can possibly help stave off this scenario.