April 20, 2009 - The pervasive economic distress that characterizes the U.S. today has led to what will be an unprecedented decline in U.S. hotel performance. According to the latest national forecast by PKF Hospitality Research (PKF-HR), Revenue per Available Room (RevPAR) will fall 13.7 percent in 2009, the largest one-year drop experienced by U.S. hotels since the firm began compiling data in 1936. This decrease in room revenues will likely result in a profit decline of 30.1 percent this year. In this depressed operating environment where room demand is waning and travelers and corporations are tightening their purse strings, expense control has become ever more crucial. However, while savvy managers tend to keep a close check on their operating expenditures, one expense item that is not typically on management�s radar screen is property taxes.

These are typically comprised of real property and personal property taxes, although some jurisdictions do not collect the latter. To obtain the amount of tax due, a property assessor first establishes the fair market value (FMV) of the property. He or she then applies a pre-determined assessment rate to the FMV to calculate the assessed value, to which the millage or tax rate is applied to develop the taxes owed to the jurisdiction. 

For the most part, property owners have no control over the movement of the millage/tax rates once they are established. However, there are ways for hotel owners, lenders, and asset managers to take a proactive approach and closely review the assessed valuations of the hotels in their portfolios. Since market values form the bases of property tax payments, it is important to understand hotel values in this period of volatility.

In addition to forecasting NOI expectations, capitalization and discount rates analysis is essential to determine the values of income producing properties. According to preliminary data from PKF-HR�s Hospitality Investment Survey 2009, the overall capitalization rate in 2009 is expected to be 10.65 percent, 122 basis points higher than that in 2008. The discount rate is estimated to be 15.17 percent in 2009, representing a 204 basis points increase from the prior year. The spread between the overall capitalization and discount rates in 2009 was 452 basis points, significantly higher than the 370 basis points spread in 2008. The survey results come as no surprise given that the industry is experiencing deteriorating fundamentals, lack of debt capital, and the heightened perceived risk in the marketplace. All these factors are suggesting even lower hotel values in 2009. According to a January 2009 pronouncement provided by PKF-HR, hotel property values will likely decrease another 20.1 percent in 2009, after a 14.1 percent decline in 2008. 

Based on a preliminary sample of information from our firm�s Trends in the Hotel Industry, we analyzed the change in property tax expense from 2007 to 2008. The 353 properties included in the sample averaged 277 rooms in size, with an average RevPAR of $117.38 in 2008, and $118.10 in 2007.  A total of 238 properties, or 67 percent of the sample, are considered full-service hotels. The data indicates that the property taxes for the hotels in the sample went up 3.9 percent in 2008. The average increase for the full-service and limited-service hotels was 3.8 percent and 4.5 percent, respectively. 

As a percentage of total revenue, property taxes for the hotels in this sample inched up from 3.5 percent in 2007 to 3.7 percent in 2008. If no action is taken to revisit the reasonableness of the tax assessment, hotel profitability will suffer further this year. Assuming owners do nothing with their property assessments and the 2009 property tax payment remains the same as last year�s level, with deteriorating revenue expected in 2009, the property tax expense will increase to 4.2 percent of the total revenue for these hotels. This is .8 percent higher than the average of 3.4 percent during the period from 1977 through 2007, based on the data in the Trends in the Hotel Industry. For a hotel with an annual revenue of $10 million, that would equate to a $80,000 reduction in profits, or $750,000 loss in value assuming a 10.65-percent cap rate. 

Clearly, the horizon is bleak. In a period of declining values, hotel owners should ask themselves: why the higher tax liabilities? Hotel owners and asset managers should continue to exercise vigilance in reviewing their property assessments. The need for professional involvement is essential to help establish fair and reasonable values. 

Robert Mandelbaum
Director of Research Information Services
PKF Hospitality Research
3475 Lenox Road, Suite 720
Atlanta, GA  30326
Phone: (404) 842-1150, ext 223
Fax: (404) 842-1165
E-Mail: [email protected]
Website: www.pkfc.com