Real Estate Values, Federal Income Taxation, and the Importance of Local Market Conditions

This article develops an income property valuation model that explicitly incorporates the effects of local market conditions. In particular, the model allows real rents to respond to a change in tax law, or to any exogenous shock to the system, with the dynamics of the rent change over time dependent upon current local supply and demand conditions and on the expected rate of economic growth in the local economy. Application of the model to an analysis of reduced capital gain taxation demonstrates that a partial reversal of TRA86's real estate provisions would disproportionately benefit those markets, and related lending institutions, which are most in need of a bolstering of real estate values.