Based on the date of a real estate closing, property taxes should be fairly divided between the buyer and seller so that each party pays for the taxes during the time in which they own the property. It seems as if these property tax prorations are very simple -- just prorate to the day of closing. Turns out, it can be a bit more complicated than that.
The first issue is that property taxes are paid in arrears, after the year has gone by. In other words, the amount of the current year’s taxes isn’t known until the following year, nor are they due and payable until the following year. Since the seller was in possession of the property during part of the current year, the seller owes the buyer a prorated amount of the taxes for the time that has passed during the current year.
Since we don’t have an exact number to prorate taxes on for day of closing the transaction, we need to use an estimate of what the taxes will be. The Colorado Real Estate Commission approved contract has two options for creating an estimate for prorating taxes that the buyer and seller will agree upon. One is based on using the “prior calendar year taxes” and the other is based on “the most recent mill levy and assessment”. The difference between the two may not be that much depending on how much an assessment or mill level changes. It is always a good idea to compute both methods before agreeing upon a proration method.
There is a time when choosing the method of proration becomes more complicated, however, and that is during odd years. In Colorado, property is reassessed in odd years, which creates a new value or assessment. In those years the new assessment is released during the year, but the new mill levy is not released until January 1 of the following year. If the box is checked to prorate based on the most recent mill levy and assessment, a very inaccurate estimate might occur. In times of rapid appreciation, the estimate becomes too high, and in declining markets it would become too low. During those times, it is usually best to use last year’s taxes as a more accurate estimate of what taxes will be. A high-tax proration could also result in the lender wanting to escrow a higher amount for taxes.
A new, higher assessment could occur in an even year. That might be a case in which a property was significantly approved and changed the value substantially.
Even though neither method of prorating taxes will produce a perfectly accurate estimate of the taxes for the current year, the buyer and seller usually will agree that it is a final settlement at closing. That way, they won’t have to go searching for someone to get reimbursed, long after the transaction has closed.
Senior Tax Prorations
The State of Colorado allows for seniors who have owned and occupied their home for 10 years and are over the age of 65 to get a discount on their property taxes. The discount is based on the following formula: 50% of the first $200,000 in actual property value is exempt from property taxation. For the closing, taxes are prorated on a lower “senior” amount and the buyer gets the benefit of the lower tax rate until the end of the year that was prorated. At the end of that year, taxes would resume to the non-discounted amount.
New Construction and Tax Prorations
Brand new construction creates some confusion for tax prorations, too. What happens is when you close on a newly constructed home, the tax proration is based on a land-only assessment and the current mill levy. That is because the assessor has not come out to assess the improvement yet. On the closing statement you will see an estimate of taxes that is very low and quite attractive. But don’t worry, the assessor is going to figure out that you have a house on the property. If your lender is escrowing for property taxes, most of them will realize it is a low amount and base your monthly escrow payment on a more realistic estimate of what the taxes will eventually be.
If you need any help understanding the tax proration, your Realtor, title company, or your county’s assessor’s office would be happy to help.
About Duane Duggan: Duane Duggan has been a Realtor® for RE/MAX of Boulder in Colorado since 1982 and has facilitated over 2,500 transactions over his career, the vast majority from repeat and referred clients. He has been awarded two of the highest honors bestowed by RE/MAX International: the Lifetime Achievement Award and the Circle of Legends Award. Living the life of a Realtor and being immersed in real estate led to the inception of his book, REALTOR® for Life. Also see his video podcasts about real estate topics on RE/MAX of Boulder’s YouTube channel.
For questions, email Duane at DuaneDuggan@BoulderCo.com or call 303-441-5611