Falling Baltimore Office Values Spur Tax Revenue Concerns

Downtown Baltimore office buildings selling cheap, suffering through high vacancy rates and losing value could shackle city finances and ripple far beyond the industry.

"As a consequence [of lower property values], businesses and property owners pay lower taxes, leading to decreased revenue for the local government. This loss of income can severely impact their ability to fund essential services, such as schools, public safety, infrastructure projects, and community programs," Lee & Associates|Chesapeake principal Allan Riorda wrote in a recent newsletter.

Declining local government revenues aren’t simply a problem for the public sector. They could also have a negative spillover into the private sector.

"Reduced property values may lead to budget cuts and austerity measures by local governments, further hampering economic growth and job creation in the area. Businesses may struggle to sustain operations, leading to closures or relocations to more economically favorable region," Riorda wrote.

But the decline in sales prices and valuations isn't causing alarm among city officials. Baltimore City Comptroller Bill Henry, whose office serves as the city's fiscal watchdog, said he's heard industry experts give "projections all along the axis" about the future of Baltimore's office market. 

"I don't know that I would use the term 'concerned' right now, mainly because we've seen some particularly high-profile cases of buildings selling for less than they sold for previously. But one or two examples are not data," Henry said. "I would like to see a larger pool of data on this before I'm ready to commit myself to how we need to move forward." 

But one possibility is that valuations continue to go up despite pain in the office market.

"The commercial real estate tax base in Baltimore City has been chronically under-assessed. So, I think this might be an appropriate time for the state to crack down on making sure that their assessment process is accurate," Henry said.

"Even if there should be a decrease in market value, considering how far below market value a lot of the assessments were, the impact of the decrease in market value may not have as great of an impact on property tax revenue as people might immediately [predict]."

State assessors re-evaluate commercial property values in Baltimore in three groups on a triennial basis, and those assessments account for a substantial portion of tax revenue. When those assessed values drop, it foreshadows a significant reduction in one of the city's key revenue streams.

Commercial properties comprise 37% of Baltimore's property tax base and contribute $347M annually to city coffers, the city's fiscal year 2022 budget shows.

Concerns about declining tax revenues from falling commercial property values follow several years of rising assessments. During the three years leading up to fiscal year 2023, according to budget documents, commercial valuations increased on average 3.3%. They rose nearly 19% in the three years leading up to fiscal year 2024, which started July 1 and ends June 30, 2024.

But recent events indicate Baltimore's office market is weakening, and as a result revenue from commercial property taxes are poised to fall sharply. 

At the start of this year, office vacancy in Baltimore hit new highs, setting a record in the first quarter of the year and then topping that mark this spring, according to research by CBRE. At the end of 2022, investment sales plummeted, and researchers at Newmark recorded zero office sales of significant size in the year's final quarter.  

Now Baltimore's office market is starting to show the effects of the post-coronavirus slumps in terms of materially lower sale prices and tax assessors writing down the value of prominent office properties. 

For example, the assessed value of 100 East Pratt St. declined by $77.8M earlier this year as its anchor tenant, T. Rowe Price, prepares to move to its new headquarters at Harbor Point. And the office tower at One South Street, which sold for $66M in 2015, sold in June for $24M.

A decline in office lease demand is one of the primary drivers of a drop in commercial values, said Owen Rouse, vice president of investment sales at MacKenzie Commercial Real Estate Services.

One particular factor to consider, Rouse said, is a wave of pre-pandemic leases rolling over.

Depending on the lease length, tenants who inked deals in 2017, 2018 and 2019 — "arguably, in an escalating market, maybe at the top of the market," Rouse said — are now looking for new leases. In those situations, the trend is a flight to quality, where tenants pay higher rents in new spaces, but often rent smaller spaces than what they previously leased. Some of those tenants may decide they don't need office space at all, but Rouse said that isn't common.

Reduced occupancy at a building can contribute to lower sales prices, Rouse said, and state tax assessors can consider a building's loss of income when assessing an asset’s value. 

Lower rental income is also a driver of tax protests and assessment disputes by property owners. A property owner can appeal an assessment after receiving notice of a new evaluation or after purchasing a property, according to the Maryland Department of Assessments and Taxation.

"What will happen when pre-pandemic leases roll to market? I don't have an answer. I don't have that ouija board or crystal ball. But that is certainly an extraneous event that will affect the values of the buildings and, therefore, the associated tax bill," Rouse said.