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Real Estate Roundup: Sales TaxA Double Demon?

January 2, 2008

4 Min Read
Real Estate Roundup: Sales TaxA Double Demon?

A few years ago, when New Jersey and Connecticut were attempting to enact laws requiring that sales tax be charged on self-storage rentals, I feared this might become a trend. Unfortunately, I was right, and now several states are in the same predicament.

With this sales-tax trend now established, I thought I should revisit the topic and renew my call to arms to state self-storage associations to fight the issue. I encourage everyone involved in the industry to become better informed and advocate for the rights of our business. Otherwise, we could all suffer from big hits in the name of sales tax.

Whats the Worry?

The most obvious impact of sales tax on self-storage is the price of the product just went up by X percent. At least your competitors are equally affected, but this is as close to good news as we get in this little missive.

The first negative result is facility value just went down by the amount of sales tax, which you cant pass along without reducing your rental rates or occupancy. Lets take a look at an example and see what a sales-tax law can do to property value. For the sake of argument, because our market is competitive, lets assume we cant pass along the sales tax. (Based on what economists say, this is the right assumption in the long run.)

In our example, the 6 percent decrease in revenue from the sales tax translates to an $18,000 decrease in net operating income. When valued at an 8 percent cap rate, the property decreases in value by $225,000, or 9 percent. This is truly an impressive number, exceeding our intuitive notion by 50 percent.

Clearly, higher prices (and that is ultimately what sales taxes are) reduce the total demand in the market. If the demand had been there at the higher rates, you would have already raised them! Its hard to measure this impact, which economists call the slope of the demand curve. Still, it wouldnt surprise me to find almost 1 percent of lost demand for each 1 percent of price increase.

To put this in perspective, ask yourself how many customers youd have if you doubled your rates. This reflects the same suggested ratio. Thus, in competitive markets, total occupancy could be reduced in addition to revenue per unit.

Unfair Leverage

The reason states such as Connecticut, Michigan and New Jersey attempt to enact sales-tax laws is twofold. First, the state needs the money (states and cities always need money). Second, politicians know there arent many self-storage owners in the state (many are from out of state), and they wont face a revolt at the polls. In contrast, if they imposed sales tax on apartments, armies of landlords and tenants would be screaming at their elected representatives.

Other real estate landlords are also better campaign contributors than self-storage owners and, thus, politicians may not suffer as much from a self-storage backlash. Additionally, lawmakers in states facing fiscal trouble may see neighboring states instituting a sales tax on self-storage and think working the system is an attractive money-making option.

Unspoken Truths

Although the direct economic consequences are harsh enough, a more severe impact still looms: the attitude of planning commissions and city councils. In the past, weve seen planners and cities reluctant to approve new self-storage facilities just because they were ugly. However, my experience (and that of my private-sector planning friends) indicates an unspoken bias against self-storage because it doesnt pay sales tax. Hush is the word because to consider sales tax as revenue is politically incorrect and, in some cases, against the law.

Combine the need for revenue by local government and the fact that self-storage could pay a sales tax and you get a clearer vision of what the future may hold. Obviously, this could have an impact on potential overbuilding in many markets that have long been considered politically off limits.

I recently heard a story in which a developers project was considered inappropriate by city planners. He resolved the citys reluctance by agreeing to pay a use fee for infrastructure in the amount of 5 percent of gross revenue (sales tax by another name). Apparently, aesthetics became less important after the planners better understood the project. This unintended consequence may well be the most significant to many owners.

The time has come to gather the force and fight sales taxes. If you want to get involved, contact your local and national self-storage associations. These organizations should spare no effort in this battle. 

Michael L. McCune is the president of Argus Self Storage Sales Network, a real estate brokerage and development company based in Denver. Argus also operates www.selfstorage.com, a marketing medium for industry owners. For more information, call 800.55.STORE.

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