Both Newark and Elizabeth have tax abatement programs with the goal of spurring development in blighted areas. This is a worthy goal and sounds like an enormous benefit to buyers of tax abated properties.
But are there unintended consequences? And who pays the ultimate costs?
First a quick look at how a typical tax abatement is structured. In Elizabeth, for example, properties eligible for tax abatements are 1-2 unit properties that are to be owner occupied. The most common iteration of this is a 2 family home with 3 levels; a lower level garage and finished basement with 2 stacked units on the 2nd and 3rd floors, each with 3 bedrooms and two baths. The abatement policy gives the recipient an advantage, taxing the property at 2% of the building construction cost plus the assessed value of the land. Without going into too much detail, on a typical 2 unit property this results in a substantial discount in the annual taxes levied on a newly built home. This can translate to a monthly benefit to the owner of up to $400 per month.
How does this impact value? Well first one needs to take a look at the profile of a typical buyer for a property such as this. A typical bona fide buyer would be a salaried worker wishing to purchase a property where rental income can be used to offset monthly payment costs, allowing a buyer who may not be able to afford a single family residence with relatively low income to live in a newly built property. The typical buyer of a property like this rarely brings more than 5% as a downpayment for purchase, more likely 3%.
A buyer such as this is sold a property based on the monthly out of pocket cost rather than the actual price of the property.
Lets look at a borrower example:
Total income $50,000 per year, with a $400/month car payment and $250/month revolving payments. The borrower will receive $1,200 per month in rental for one of the units. Taxes are unabated and $12,000 per year. According to Bankrate.com's housing calculator, this borrower can afford a mortgage on a property worth up to $180,000.
Now let's run the simulator for the same borrower but abate the taxes to $6,000 per year. This same borrower can now afford to buy a home worth $280,000.
The incentives caused by tax abatements, as noted in this example, will tend to encourage a credit worthy borrower with moderate income to over-buy housing relative to what they can afford (in this example to the tune of $100,000).
Now all is well and good for the first 5 years, but what happens in year 6? The borrower is hit suddenly with a dramatic increase in monthly payments that they can no longer afford. This has a drastic effect on the neighborhoods where revitalization occurred. These gleaming new 2 unit properties which were the hope of renewal for blighted communities begin to foreclose in significant numbers. The lack of tax abatements set a new price level based on borrower affordability so that a seller can not sell their property at abatement levels.
This hurts everyone.
