New York City property owners and tenants are bracing for a heavy property tax increase. Early last week, the New York City Council passed an 18.5% property tax hike aimed at shoring up a multibillion dollar budget shortfall. Mayor Michael Bloomberg originally proposed a 25% increase, which critics blasted as outrageous.

The timing of the tax hike is problematic because the office market continues to weather a sluggish leasing climate. "This is the largest property tax hike in the history of New York City. Companies will clearly be looking at the cost of occupancy here," says John Doyle, vice president for government affairs at the Real Estate Board of New York, a real estate trade association.

Commercial tenants in Manhattan sign leases that have a fixed tax base. There is also a clause within the lease stipulating that in the event of a tax hike, the tenant pays the higher tax based on the amount of space it occupies within the building. Tenants with new leases and those who are further along in a long-term lease will be forced to pay the entire 18.5% increase.

New York City’s real estate industry, led by the Real Estate Board of New York, has publicly criticized the move by the Bloomberg administration. The board claims that the tax hike will end up giving the city a surplus when the stated goal is to simply shore up a budget gap. "Bloomberg could have increased the taxes less and still made up for the deficit. He’s already downsizing the municipal staff," says Doyle.

The tax increase will push costs up an average of $1.75 per sq. ft., according to the board.

The tax hike was seen by many as a slap in the face to the real estate industry, which is a heavy political contributor. But Michael Bloomberg financed his entire campaign himself and was viewed as a dark horse up to the final hour.

Many real estate industry contributors bet heavy on rival candidate Mark Green, whose brother is a major Manhattan landlord. The surprising outcome has left the industry with a mayor beholden to nobody, with few favors to return. "It’s always difficult to increase the cost of occupancy, especially now. The tenants will take the burden now, then that burden will be shifted to the landlords," says John Powers, vice chairman of Insignia/ESG.

The tax hike has already cancelled one office building offering in midtown. Teachers Insurance and Annuity Association pulled 750 Third Ave., a 761,000 sq. ft. office tower, off the market last week, citing a weak leasing market and Bloomberg’s proposal to raise taxes. A TIAA spokesman said that both factors convinced the insurer to hold off on marketing the building, which it bought in 1981. The value of the building – which went to market in September-- is estimated to be $266 million, or $350 per sq. ft.