October 11, 2013

Prop 13 - Split-roll real property taxes

Real property taxes in California are famously governed by Proposition 13. This landmark proposition was passed by California voters on June 1976 by a margin of 62.6-34 (3.4% of ballots were invalid or blank). Prop 13 limits the taxable rate to 1% of the assessed value and limits the increase in assessment to 2% per year.  Numerous clients have told me over the years that their home is "under Prop 13" when in reality every home is governed by Prop 13. My belief is that they owned their home back in 1978 when Prop 13 caused assessment values to be rolled back to 1975 values. To be clear, if you own any real property in California, the property taxes for such are subject to Prop 13. 

The following illustration depicts how Prop 13 works. Assume a person purchases a home for $100,000, the property taxes could not exceed $1,000 and the assessable value of the home could not exceed $102,000 for the next year. It should be noted that many other levies are listed on a property tax bill, e.g. school bonds, library bonds, etc.    

Similarly, property taxes for commercial property are enforced in the same manner. That is, commercial property is levied and assessed at the same rate as residential property. In numerous areas of the law residential real property and commercial real property is treated differently. For example, leases involving residential real property carry with them an implied warranty of habitability. There is no such warranty in terms of leasing commercial property. A more obvious example is zoning laws. The activities that may be conducted in or on residential real property is mainly limited to human occupancy or cottage industry. Whereas with commercial real property such is naturally zoned for commercial enterprise as opposed to personal living spaces. 

However, in terms of real property taxes, taxation is equally applied to residential and commercial real property. Thus, the owner of a strip mall with an assessed value of $2M will be taxed at the same rate and be subject to the same assessment increases as the owner of a $2M home.

In light of this, some California politicians have proposed to create a two-tier system, with residential real property taxed under one regime and commercial real property taxed under a different regime. "Split-roll" is a term used to describe this proposed system. For example, Assembly Bill 2492 (Ammiano) sought to modify the definition of when the sale of a commercial property results in a "change in ownership." Of note, when a "change in ownership" occurs, the subject real property is re-assessed. Since real property almost invariably appreciates over time, a change in ownership will result in a higher assessed value and corresponding higher real property tax assessment.

Various bills that would usher a split-roll real property tax system have been proposed, but none have passed so far. One principal reason why is because to tinker with Prop 13 requires a 2/3 majority in the state Senate and state Assembly, as it is a constitutional amendment.

Since revenue from increasing property taxes is in the tens of billions of dollars, there are numerous interested parties in favor of preservation or modification. Thereby the idea of a split-roll system will carry on for the foreseeable future.