Split Tax Roll Proposition Gets a Makeover

Photo Courtesy of Sundry Photography via Shutterstock

Last month in our Split Tax Roll piece, we offered our first take on the California Schools and Local Communities Funding Act, a statewide proposition to strip commercial property owners of the protections of Proposition 13 they have enjoyed since 1978. While numerous attempts have been made through the years to repeal or amend the landmark constitutional amendment championed by Howard Jarvis, this is the first attempt to modify the underpinnings of Proposition 13 via a statewide vote. Last October, the original proponents of the initiative, led by the League of Women Voters and others, gathered the necessary signatures to qualify the proposition for 2018’s General Election.

Modified Version Looks For Broader Appeal

While the proposal for additional funding to school districts, community colleges and local governments is still scheduled for that vote, it has recently come under intense scrutiny throughout the state and recent polls have indicated that passage could prove difficult. So, a new group of sponsors, including the SEIU and California Teachers Association, have decided to restart the entire process with a modified version of their own, hoping to replace the current iteration and qualify the replacement for the same ballot. Meanwhile its opponents have pledged a vigorous and expensive campaign to defeat it.

Investor Uncertainty Would Rise

Both versions call for all commercial properties (with a narrow band of exceptions) to be reassessed to full market value every three years, rather than only at the point of ownership transfer. This would precipitate massive base levy property tax increases, especially for long term property owners, and add a significant element of uncertainty to all current and future commercial property investors. Since uncertainty adds risk, commercial property buyers will demand a higher yield on acquisitions, which would lower commercial property values.

Under Proposition 13 rules, future property tax increases can be accurately estimated, as the base levy is limited to an annual increase of 2% or the rate of inflation, whichever is less. This provides certainty for investors and a steady flow of tax revenue for the state, as current law has resulted in an average increase in property tax revenue of 7.3% per year since Proposition 13 was enacted ,according to Mac Taylor, the Legislature’s budget analyst. This new proposal would put state revenues at risk when property values fall during normal oscillations in the real estate cycle.

Photo Courtesy of mTaira via Shutterstock

Increases Will Flow to California’s Businesses

Sponsors of the bill clearly target major real estate investors as a group that is taking advantage of a loophole that allows them to avoid paying their fair share of property taxes. After reading both the original and updated versions, it is clear to us that even the new sponsors have not fully thought through the consequences to businesses that lease space. The vast majority of tenants pay all or a significant portion of the property taxes in addition to their rent. So, whatever additional tax revenue is raised will be coming directly from the pockets of business owners, whether they be sole proprietorships or major corporations, and not the deep pockets institutional owners the sponsors say they are really going after. Logically, those higher operating costs will be passed along to consumers by way of higher prices or to employees in the form of lower wages and benefits.

We believe that miscalculation is what has prompted the revision, as the new language contains some temporary cover for smaller tenants. For so-called “small businesses” who occupy space in a property that is more than 50% occupied by other qualifying small businesses, their buildings will get a three-year delay in reassessment to market value to the 2025-2026 tax year, ostensibly to give them time move before their taxes skyrocket. To qualify as a small business, a company must meet all these conditions every year:

·       The business must have 50 or fewer full-time employees in the State

·       The business is independently owned and operated such that the interests, management and operation are not subject to control, restriction, modification or limitation by an outside source, individual or another business

·       The business is located in California

·       The owner and officers are residents of the State

·       The business cannot be dominant in its field of operations such that the business exercises or has the ability to exercise a controlling or major influence, on a statewide basis in the activity or field of operation of the business.

Source: The California Schools and Local Communities Funding Act as submitted to the office of the Attorney General

Imagine being the owner of a building with twenty tenants and having to verify all that information in an effort to delay a big tax increase on your property!

Limited Protection for Small Properties

For owners, the new version would exclude commercial properties valued under $3 million versus a $2 million threshold in the current version, which would be adjusted for inflation every two years beginning in 2025. However, that exclusion goes away if:

“Any of the direct or indirect beneficial owners of such real property own a direct or indirect beneficial ownership interest in other commercial and/or industrial property located in the state, which such real property in the aggregate (including the subject property) has a fair market value in excess of $3,000,000.”

Source: The California Schools and Local Communities Funding Act as submitted to the office of the Attorney General

While this may help a small fraction of property owners who own a single property under that value threshold, the vast majority of commercial properties in all product types would be subject to reassessment to market value every three years no matter what they are worth.

There are several other potential ramifications to this poorly conceived tax grab. We will be back to you soon with more on this important topic. In the meantime, if you would like to take a look at the new version Click Here.

To learn how the split tax roll impacts your property & business, contact us for strategies on how you can operate your property efficiently.