Home

Quick Links

Legal & Sitemap

navigation
Home > Trends & Insights > Planning Around Property Tax Reassessments

Newsletter

 

Friday, October 25, 2013

Planning Around Property Tax Reassessments


Bob and Carol are retired. Bob is 67 and Carol is 65. They own a beautiful house in Santa Monica, California and a vacation home in Laguna Beach.

In addition, they hold two pieces of rental real estate in a limited liability company. Bob and Carol have two children and six grandchildren. They bought most of their real estate in the 1970s, so the property values have increased substantially since then. They were wondering if they should start giving some of the real estate to their children and grandchildren.

In California, property taxes are assessed at approximately 1 percent of the property’s assessed value. Prop 13 limits increases in assessed value to no more than 2 percent per year until the property has a change in ownership. Giving the real estate to their children or grandchildren constitutes changes in ownership and, generally, will trigger property tax reassessment. Fortunately, there are ways to plan around this to avoid or minimize reassessment.

Principal Residence
Let’s begin with Bob and Carol’s private residents. Bob and Carol can give their Santa Monica home to their children without triggering property tax reassessment. Prop 58 provides property tax relief by exempting the reassessment of real property when it is transferred between parents and children. Prop 193 expands the relief to include transfers from grandparents to grandchildren.

No limit is placed on the assessed value that may be excluded from reassessment if the property is the principal place of residence. Bob and Carol can give the property outright or in trust for their children. If in trust, the trust beneficiaries are considered the property tax owners. As long as the trust beneficiaries are their children, the parent/children exemption applies.

Vacation Home
Now lets address Bob and Carol’s vacation home. Bob and Carol can give their Laguna Beach vacation home to their children. However, there is a limit on the assessed value that may be excluded from reassessment since the house is not their principal residence. The limit is $1,000,000 of assessed value per eligible transferor. As such, Bob and Carol can transfer a combined assessed value of $2,000,000 without triggering property tax reassessment.

If the assessed value of the property transferred is more than $2,000,000, the reassessment is based on the excess. For example, let’s say the current assessed value of the vacation home is $750,000. Bob and Carol got an appraisal and the appraised value is $2,500,000. Since the exemption is based on assessed value, rather than fair market value, there will be no reassessment. Let’s say the current assessed value is $2,100,000. Only $100,000, the amount in excess of the $2,000,000 exemption, will be subject to reassessment.

Real Estate Held in Entity
Generally, reassessment for real estate held in an entity is triggered when there is more than 50 percent change in ownership or control. Let’s say Bob and Carol are 50/50 owners of an entity that holds the real estate. Bob and Carol can transfer the entity interest to their children as long as they don’t transfer more than 50 percent to one child.

The parent/child exemption under Prop 58 does not apply to transfers of entity interest. If they want to transfer more than 50 percent to one child, there is some planning involved. First, the entity should distribute the real estate to Bob and Carol. They then transfer the property to their children. Since the real estate is not their principal residence, the maximum assessed value transferred without triggering reassessment is $2,000,000.

What if they want to sell the entity to outside investors? The buyer can avoid the 50 percent threshold limitation by having multiple entities purchase entity interests so that no one entity is acquiring more than 50 percent in the selling entity. For this method to work, the property must have been purchased by the entity and not contributed by Bob and Carol to the entity.

Transfer of Base Year Value
Let’s say Bob and Carol would like to sell their Santa Monica residence and downsize to a condo. Since the Santa Monica residence was purchased in the 1970s, and property tax increases have been limited to 2 percent per year, Bob and Carol are used to paying relatively low property taxes. Let’s say the current assessed value is $1,000,000. Their annual property taxes are $10,000 ($1,000,000 x 1 percent). They sell the property for $5,000,000 and use $2,000,000 to buy a condo on Ocean Blvd. This means their annual property taxes will double to $20,000. This is not just a one-time increase, it’s an annual increase of $10,000! Fortunately, this is where Props 60 and 90 comes into play.

Props 60 and 90 provide property tax relief for persons age 55 and older by preventing reassessment when the owner sells his/her existing residence and purchases or constructs a replacement residence worth the same or less than the original residence. This allows the owner to continue to pay approximately the same amount of annual property taxes as before.

For Bob and Carol, the value of the condo (replacement residence), at $2,000,000, is less than the value of the home they sold (original residence) of $5,000,000. As such, they will pay property taxes on the assessed value of $1,000,000. Prop 60 is available when both the original and replacement properties are located within the same county. Prop 90 is available when the original and replacement properties are located in different counties. Not all counties have passed an ordinance allowing Prop 90. Currently, the counties accepting Prop 90 are Alameda, San Diego, Santa Clara, Los Angeles, Orange, San Mateo and Ventura. Prop 60 and 90 can only be granted one time.

COMMENTS

comments powered by Disqus