Get Right to Use Base Year Tax Reductions to Calculate Tenants’ Tax Increase Payments

Like many landlords, your lease may contain a tax escalation clause requiring the tenant to pay its share of any real estate tax increases that occur during the lease term. These increases are often measured off a base year, typically the first year of the lease. However, pegging future tax increase payments to the original base year tax could end up costing you a fortune if you later manage to get that tax assessment reduced.

Consider this scenario: You protest your base year tax assessment. Two years later, you win a reduction of that tax. Securing a reduction in your base year tax is a big plus since the lower your base year tax is, the greater the increases you can charge tenants in subsequent years. The problem is that standard tax provisions in many commercial leases don’t specifically give the landlord the right to use the adjusted base year to calculate the tax increases tenants must pay. Result: The landlord must continue using the original base year and loses out on tax increase payments from the tenant.  

NY Landlord Can’t Use Reduced Base Year Tax

As Exhibit A, we present to you the case of the New York landlord who succeeded in getting its base year tax assessment reduced from $815,000 to $655,000. The landlord then used the new $655,000 amount to calculate the tenant’s share of the following tax year increase. The tenant refused to pay, contending that the landlord should have based the increase on the original base year assessment of $815,000. So, the landlord sued.

Unfortunately for the landlord, the lease didn’t state that it could use the lower base year tax if the base year assessment was ever reduced. As a result, the New York court ruled that the landlord had to keep basing tax increases on the original $815,000 assessment since that was the figure the parties agreed to in negotiating the lease. The message to the landlord: If you wanted the right to use a reduced base year tax later, you should have said so in the lease [City Bank Farmers Trust Co. v. J & J Slater Inc., 101 N.Y.S. 2d 617 (Sup. Ct. 1950); modified, 278 A.D. 366, 105 N.Y.S. 2d 146 (1^st Dept. 1951); aff’d, 303 N.Y. 971, 106 N.E. 2d 58 (Ct. of App. 1952)].

Establish Right to Use Reduced Base Year Tax Assessment

Don’t make the same mistake. Include specific lease language enabling you to reap the benefit of reductions in your base year tax assessment that you secure after signing your original lease. Our Model Lease Clause: Use Reduced Base Year Tax in Tenant Tax Payment Calculations provides a template that you can adapt to ensure that your lease provision reserves your right to do two things:

1. Use reduced base year to calculate tenant’s tax increase payments. State what the landlord in the City Bank case failed to spell out—namely, that if your base year tax assessment is ever reduced, such reduced amount and not the original amount will become the basis for calculating the tenant’s share of tax increases [Clause, par. (a)].

2. Collect shortfalls in past tax payments. Go the extra mile of making the base year tax assessment reduction effective retroactively by stating that if such a reduction occurs, you may go back and recalculate any past tax payments the tenant made or has been billed for that were calculated using the original base year tax [Clause, par. (b)].

Negotiation Strategy

There may be a lot of money at stake here. So, don’t be surprised if the tenant pushes back on allowing you to get all of the benefits of future base year tax reductions. There are two likely tenant responses for which you should be prepared.

In the interest of mutuality, a tenant may demand that you increase the base year tax used in tax calculations if the assessment and tax ever increase. This could happen if you file for a tax reduction and the tax authority finds that your original assessment was too low and actually raises your assessment. Agreeing to this demand may be a risk worth taking, attorneys advise, given how rare it is for tax protests to result in assessment increases.

“Seasoned tax attorneys won’t even let their clients file a protest unless they’re fairly confident that they’ll win at least some kind of reduction, especially if the attorneys are paid on a contingency basis,” notes a New York attorney who specializes in tax proceedings.

Tenants may also object by arguing that the base year tax amount at the time the original lease was signed is and was an integral financial term that the tenant accepted when it signed the lease. You can make a powerful counter to this argument if, like many standard commercial leases, the tax escalation clause of your agreement contains language stating that the tenant will get a fair share of any refund if taxes for any tax year are reduced in the future. Say that the base year tax reduction clause you’re proposing is the reciprocal to the refund clause and that you’ll insist on removing it if the tenant won’t accept your proposal. While there are no guarantees, experienced attorneys say that this approach often proves persuasive with tenants.