February 16, 2011
Proposition 13 - People's Initiative to Limit Property Taxation
One of the sacred cows in California politics is Proposition 13. Proposition 13, the “People's Initiative to Limit Property Taxation" was the landmark ballot proposition that was passed overwhelmingly by California voters in 1978 which capped property tax rates and annual assessment increases for realty.
Simply stated, Prop 13 caps the maximum taxation rate for realty at 1% and the maximum increase for an assessment at 2% annually.
The tax rate of 1% signifies the multiplier each county uses when calculating property taxes for each piece of real property. The assessed value is the amount multiplied by that 1% tax rate, which in turn provides the amount of property taxes due annually. For example, if Paul purchased a home for $100,000, the maximum amount Paul could be charged for property taxes is $1,000 (100,000 x .01) and the assessed value could not be increased by more than $2,000 for the following year, $102,000.
It should be noted that there are numerous taxes or fees tacked onto your property tax bill each year that are not subject to Prop 13’s jurisdiction, these include schools bonds, public safety bonds, retiree benefits, etc.
The assessed value of realty is, generally speaking, the fair market value of the property as of the last sale date plus annual increases not to exceed 2%. From the example above, Paul purchased a home for $100,000. The amount of property taxes due would probably go as follows
Assessed Value - Year 1 Property Taxes Owed – Year 1
Assessed Value - Year 2 Property Taxes Owed – Year 2
Assessed Value - Year 3 Property Taxes Owed – Year 3
Assessed Value - Year 4 Property Taxes Owed – Year 4
Assessed Value - Year 5 Property Taxes Owed – Year 5
Assume that Paul had a neighbor, Ned, who purchased his home in Year 4 for $200,000. Ned’s property taxes would roughly be double Paul’s because the assessed value of Ned’s home is roughly twice the amount of Paul’s home. Thus, despite the fact that Paul and Ned are neighbors, Paul pays significantly less than Ned in property taxes. This example illustrates how purchasers of realty in California enjoy significant property tax savings if they can retain ownership of the realty for a long duration of time. Although this argument is based off of the assumption that California real estate prices increase over time, you would be hard-pressed to find a dissenting opinion from a reputable source.
The key phrase for property taxes is “change in ownership.” Whenever there is a “change in ownership” then the property’s value will be re-assessed. The assessed value is usually pegged to the fair market value of the home (see sale price) on the date of transfer.
The following are some examples of transfers which present “change in ownership” questions:
Business Entity/Proportional Interest
Henry and Whitney purchased a rental property, Hotel California, as joint tenants in 1988. Upon seeing that a LLC is a superior method of owning Hotel California, Henry and Whitney create a LLC, Acme LLC, in which Henry will have a 50% interest and Whitney will have a 50% interest. Later on, Henry and Whitney each transfer their 50% interest in Hotel California to Acme LLC. Since the proportional interests in the realty remain exactly the same both before and after the transfer, there is no change in ownership. Rev & T C §62(a)(2).
Al purchases a fabulous retirement home in Scotts Valley, a charming community nestled in the Santa Cruz Mountains. Al then decides to gift half of his interest in the home to his neighbor Jefferson. Al prepares and records a deed naming Al and Jefferson as joint tenants for the retirement home. This transfer from Al to Al and Jefferson as joint tenants does not constitute a change in ownership. Rev & T C §62(b),(f).
Eldrick and Elin decide to part ways after many years of marriage. One of the marital assets is a home owned in joint tenancy by Eldrick and Elin. The separation agreement provides that Eldrick will transfer to Elin the marital home. The transfer from Eldrick to Elin of the marital home will not result in a change in ownership. Rev & T C §63(c).
Link, a landlord, owns a piece of farmland in the fertile San Joaquin Valley named Big Gulch Road. Tobias, an entrepreneurial farmer approaches Larry and inquires about leasing Big Gulch Road. Tobias has grand plans for Big Gulch Road and thus needs at least a 50-year lease in order to complete his plans for harvesting pomegranates, the best fruit on earth (author’s opinion). Larry agrees to lease to Tobias Big Gulch Road for a term of 50 years. This lease would constitute a change in ownership because the lease term exceeded 35 years. Rev & T C §61(c). However, if the lease term had been for less than 35 years, then there would not be a change in ownership. Rev & T C §61(c).
Tenants in Common
John, Paul, Ringo and George purchased a home together, Nabbey Road Manor. John later becomes fed up with having to co-own the property with 3 other people and decides to sell his interest, 25%, to his eccentric consultant Yoko. This transfer would result in a change in ownership, albeit a partial one. In that, 25% of the property would be re-assessed for property tax purposes whereas the other 75% would maintain its assessed value. Rev & T C §§61(f), 65.1.
Romeo Shakespeare purchased a home in Markleeville, California and took title under said name. Since Romeo’s friends, family and neighbors loved to poke fun at this name, Romeo decided to file a petition with the Alpine County Superior Court to change his name to John Brown. Eventually, Romeo was able to have his name changed. Subsequently, John executed a new deed in which Romeo Shakespeare conveyed to John Brown his interest in the property. Due to the fact that this transfer involved only a name change, no change in ownership occurred. 18 Cal Code Regs §462.001.