Legal Update: The Real Property Tax Consequences of Proposition 19November 2020
California voters recently approved Proposition 19, which dramatically changes the landscape of real property transfers in California, particularly between parents and children. Beginning on February 16, 2021, almost all transfers of real property between parents and children will be subject to some form of property tax reassessment. Other parts of the proposition provide for some relief from reassessment, primarily for real property owners over the age of 55 selling their principal residence and purchasing another. Note that both the existing rules and the revisions apply only to property owned directly by individuals and not to property held in an LLC or other entity.
Transfers Between Parents and Children. Proposition 19 directly impacts the existing Proposition 13 rules that were enacted in 1978. Currently, real property tax in California is calculated and assessed on the property’s adjusted base year value (“Assessed Value”), which is generally the purchase price of the property plus any additions or improvements made to the property. If the property remains in the owner’s hands, or is transferred pursuant to certain Proposition 13 exemptions, the Assessed Value may not increase by more than a maximum of 2% annually. Generally, real property in California has appreciated more than 2% year over year, and therefore, many property owners are currently paying taxes on an Assessed Value that is significantly lower than the fair market value of the property. Under the current rules, the low Assessed Value tied to a particular piece of property can be transferred by a parent to a child without reassessment if: (1) it is the primary residence of the parent; or (2) if the property is not the primary residence, its Assessed Value is less than $1,000,000 ($2,000,000 for two parents). These rules apply to any transfers: gifts or sales during lifetime or bequests at death. Proposition 19 significantly changes these rules beginning on February 16, 2021 in the following ways:
- Transfers of a Primary Residence May Now Be Reassessed. Under Proposition 19, transfers of a primary residence by a parent to a child are exempt from reassessment only if certain factors can be established. First, the child must use the primary residence as his or her own primary residence. If he or she does not intend to move into the property, the property will be fully reassessed at its current fair market value and property taxes will increase correspondingly. Even if the child does plan to use the property as his or her primary residence, the property will be reassessed if the fair market value of the property exceeds the parent’s Assessed Value by more than $1,000,000. In that case, the child will take the property with an Assessed Value equal to the fair market value of the property minus $1,000,000. If the fair market value of the property does not exceed the parent’s Assessed Value by more than $1,000,000, there will be no reassessment and property taxes will not be increased.
For instance, if the Assessed Value of the primary residence is $100,000 (estimated property tax of $1,000 assuming a tax rate of 1%) and the fair market value of the property is $1,000,000 (i.e., a difference of $900,000), and the child will use the property as his or her primary residence, there will be no reassessment and the child will take the parent’s Assessed Value of $100,000 and the property taxes will remain the same estimated $1,000.
On the other hand, if the Assessed Value of the primary residence is $100,000 (again, estimated property tax of $1,000) and the fair market value of the property is $2,500,000 (i.e., a difference of $2.4 million over the Assessed Value), there will be a partial reassessment. The new Assessed Value of the property will be $1,500,000 (i.e., the fair market value of $2,500,000 less $1,000,000) and the property taxes will increase to $15,000.
Please note that Proposition 19 treats family farms in the same manner as a primary residence.
- Transfers of Real Property That Are Not The Primary Residence Will Be Reassessed. Under Proposition 19, all real property (other than a primary residence or a family farm) that is transferred will be reassessed at its current fair market value, regardless of whether this transfer is between a parent and a child.
Transfers of Assessed Value To New Home Purchases By Home Owners Who Are Over the Age of 55, Severely Disabled, or Victims of a Wildfire or Natural Disaster Will Be Expanded. Proposition 19 also changes the rules regarding home owners who are over the age of 55, severely disabled, or victims of a wildfire or natural disaster. The new rules impact these home owners’ ability to transfer their Assessed Value from their current primary residence to a new primary residence. Currently, a homeowners who is over the age of 55 can transfer his or her Assessed Value in the existing primary residence to a new primary residence as long as the new property is of equal or lesser value and the properties are located in counties that are parties to a reciprocity agreement. Proposition 19 expands this rule to the entire state of California and allows these owners to effectively transfer a portion of their Assessed Value to a new primary residence that exceeds the value of the prior one. In addition, Proposition 19 allows these home owners to make this type of transfer up to three times. Under the current rules, owners were limited to a single transfer.
Conclusion. If you are an owner of real property in California, this new statute will directly impact the property taxes you are subject to if and when you transfer your real property to your children or move to another county. Please contact us to discuss any questions you may have or for advice regarding transfers before the new law takes effect.