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California Prop.19, property taxes and rental properties
#3 Starting Out Contributor
- Rental Property Investor
- San Francisco Bay Area
Since Proposition 19 was passed and went into affect after Feb. 15, 2021, this affects us owning rental properties who wanted to pass on real estate portfolios to our heirs. Their property taxes would skyrocket, unless it's our primary residence and the kids move into the property.
TLDR: So should investors put our kids (over the age of 18) on title but they would lose the step up basis in value (for capital gains and capital gains tax which is separate from property tax issue) if they are on title and they choose to sell off the properties? Unless Prop. 19 is repealed, then it would be better if my kids sold off the rentals and take the money, so much for passing on real estate for future generations in California.
Possible strategies: I do know an investor who set up a California property in an irrevocable trust prior to Feb. 15, 2021. The first article discusses transferring properties to a family LLC. Before I go pay an estate attorney to restructure everything, thoughts about these strategies?
https://www.kaidenelderlaw.com/blog/2023/march/can-an-llc-he...
https://calawyers.org/real-property-law/prop-19-beware-of-pr...
https://www.cunninghamlegal.com/california-legal-services/ca...
This is my understanding of Prop. 19. Please correct me if this is wrong (I copied and pasted this from someone but I thought this was a good explanation without using a lot of legal language).
- 1) After 2/15/2021 an inherited home that was the parent’s primary residence (assuming transfer from parent to child in this scenario) a reassessment will be triggered UNLESS the child moves into the home and claims it as their primary residence. I have not seen any guidelines about the length of time one would be required to maintain the inherited home as their primary residence to prevent a reassessment. I’ve heard one year but can’t confirm.
- 2) One million dollar exclusion. The PRE- prop 19 law is written such that an inherited house is not reassessed regardless of value. Investment properties like my dad’s rental are (until 2/15/2021) subject to a 1 million dollar exclusion.
Prop 19 obliterates these rules. After 2/15/2021, an inherited home that was the parents’ primary residence will be subject to a one million dollar exclusion ONLY IF the child makes it their primary residence. This means that the first one million dollars of assessed value upon the date of transfer / inheritance is excluded from reassessment.
Example: parent pays taxes based on 275k purchase price. Home’s assessed value at time of inheritance is 1.4M 1.4 - 1,000,000 (exclusion) = 400k
New property tax base = 400k instead of 275k. CONFIRM THIS WITH YOUR ATTORNEY! I found this part to be confusing and might not have it quite right.
3) If the child does not make the inherited property their new primary residence, there is no million dollar exclusion, and in the above scenario (that you and the rest of us are racing to avoid) the child would be paying property taxes based on the 1.4 assessed value.
If you plan to sell an inherited property you’ll want to take advantage of the step up in basis for capital gains tax purposes. If parents gift you property while they are living you LOSE the step up in basis. Selling? Do not transfer property while parents are living.
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Just chiming in with a couple of thoughts. Prop 19 did drastically change the property tax landscape for transfers of real property between parents and children after 2/15/2021.
If considering adding a child to title now, you are correct that there are other considerations. For one, depending on how it is done, it could be a change in ownership that causes a reassessment for property taxes now upon adding child to title. There are also gift tax considerations, estate tax considerations, and income tax considerations.
Some irrevocable trusts, depending on the type of trust and how it is structured, may avoid reassessment upon transfer of property into the trust, but likely not avoiding reassessment entirely or forever unless properly qualifying for some exclusion.
There may be some strategies to be used with LLCs or business entities to help avoid, or at least drastically reduce, property tax reassessments, but such strategies require time, attention to detail, and can be inherently a little riskier. Any strategies making use of LLCs should be done in strict consultation with a competent advisor.
Be sure to make all of these considerations in conjunction with an estate planning attorney to ensure that all plans meet with the overall plan of wealth and asset transfers.
As to the $1 million exclusion, I think your calculation is slightly incorrect in how it is structured, but does appear to probably arrive at the correct conclusion. I think generally only $1 million above the assessed value can be excluded, and anything above that is added to the base assessed value. So the calculation would probably actually be something more like base assessed value $275k plus $1 million extra = $1,275,000 max value that can be carried from parent to child avoiding reassessment, and anything above that ($1,400,000 - 1,275,000) is added to the base $275k that gets ported over. Either way I think you arrive at the same $400k assessed value in your example, but I believe the formula is slightly different. Note that the $1 million value is adjusted for inflation and was recently increased a little higher.
If the child does move into the parent's primary residence as his/her own residence, be careful to meet all the rules to properly qualify for the exclusion including the time for doing so, filing the correct application forms timely, meeting requirements for primary residence, no buyouts among siblings, considering the homeowner's exemption on other real properties owned by the child, how long the child needs to reside there as a primary residence, etc.
*This post does not create an attorney-client or CPA-client relationship. The information contained in this post is not to be relied upon. Readers are advised to seek professional advice.