Item C: Multi Unit Property Tax Exemption Program

Home Browse Search

ATTACHMENT D Example Cash Flows with and without MUPTE The theory behind the MUPTE is that multi-unit housing development is desired in the core area and that the development would not occur “but for” the granting of the exemption. The tax exemption is a tool used to offset real financial obstacles associated with developing multi-unit housing in the core. These obstacles could be related to higher land cost, higher construction cost resulting from multi-story construction and higher quality urban design, parking constraints, code requirements, and environmental conditions related to prior uses. Background: Real Estate Development Financing Generally, real estate development is accomplished through consistent and stringent financial underwriting. To obtain financing, a project must be able to demonstrate that the value after completion of construction is sufficient to justify the actual construction cost. The value of the project is based on the project’s ability to generate Net Operating Income (NOI), service debt, and provide a return on equity invested. The market strongly influences NOI. Rental income, vacancy rates, and operating expenses are market driven variables that typically cannot be manipulated to improve NOI. Rental Income - Vacancy Rate - Operating Expenses = Net Operating Income (NOI) NOI is important to appraisers, banks, and developers. NOI is used by appraisers to determine value. Developers use NOI to pay debt service on loans, with the remaining amount applied to investor return. Banks use the appraised value to determine loan amounts. Banks also use NOI to analyze the likelihood of loan repayment (through cash flow) and the level of risk (through return on investment). For Appraisers & Banks For Developers & Banks NOI NOI ÷ Capitalization Rate - Debt Service = Appraised Value = Cash Flow (ability to repay loan) x Bank Loan to Value requirement ÷ Equity Investment in Project = Bank Loan Amount = Cash on Cash Return (level of risk) Generally, financial institutions base loan decisions on projects with the ability to repay the loan and an acceptable level of risk. The loan amount, however, is based on a specified percentage of the appraised value, rather than the actual cost of the project. Based on core area market conditions, the NOI, cash flow, and return may not be adequate to enable multi-unit residential development. One way to measure risk is by analyzing the return on investment. The Cash on Cash measure of return is the simplest, most straightforward return on investment decision making tool used by banks and developers. (Cash Flow divided by equity invested by the developer.) Historically, Cash on Cash return for multi-unit, residential rental development should be a minimum of 10% to 15%, to represent an acceptable level of risk for the bank.