Source: https://journal.firsttuesday.us/tax-benefits-of-ownership-proposition-13-and-the-transfer-of-assessed-value-to-a-replacement-residence/66788/
Timestamp: 2019-07-16 02:04:27
Document Index: 691092776

Matched Legal Cases: ['Art. 13', '§3', '§218', '§69', '§69', '§69', '§69', '§69', '§69', '§69']

Tax Benefits of Ownership: Proposition 13 and the transfer of assessed value to a replacement residence | first tuesday Journal
Posted by ft Editorial Staff | Feb 25, 2019 | Latest Articles, Tax | 5
This excerpt from the forthcoming edition of Tax Benefits of Ownership delves into the basics of property taxes, 1979’s aging Proposition 13, and a residence purchased as replacement property.
Aged 55 or older, equal-or-lesser priced replacement home
Consider an older couple who have owned and occupied a single family residence (SFR) for decades. The residence is now too large for their needs. They seek advice from a real estate broker on the sale of their home and the purchase of a smaller, less expensive residence near the center of the community.
The broker calculates that the net proceeds for their equity on the sale of their residence are sufficient to pay a cash price for the purchase of a replacement residence. Thus, they will not have the burden of originating or carrying a purchase-assist mortgage.
While reviewing costs with the broker to sell their home and buy another, the couple also asks about other costs including:
profit taxes due on the sale; and
the amount of annual property taxes the couple will pay on a replacement home. [See RPI Form 310 and 311]
The broker knows the price the couple paid to acquire the home. Also aware of the current market price the couple will likely receive on a sale of the home and their period of ownership and occupancy, the broker advises the couple their profit on the sale will not exceed the $500,000 profit reporting exemption on the sale of their home. Thus, the client will incur no income tax liability on the sale of their home.
To avoid full-value reassessment on their replacement home the purchase price of a replacement home needs to be equal or less than the price they receive on the sale of their current home. Crucially, as in our example, the price of the new home needs to be greater than the assessed value of the home they are selling.
Since the replacement home is to be located in the same county as the home the couple sells, the couple may carry forward the assessed value of their current home — so long as they acquire the replacement home within two years before or after closing the sale of their current home. Thus, the couple will continue paying property taxes based on the same assessed value.
Property taxes based on assessed value fund local services
Property taxes are levied on parcels of real estate by local governments to finance general city and county administrative operations, including police and fire services.
The annual levied amount of property taxes an owner pays is controlled by Proposition (Prop) 13. Property taxes, also called ad valorem taxes, are based on the real estate’s value at the time the owner acquires it.
Prop 13, sometimes referred to as the “welcome stranger law,” limits the owner’s property taxes to 1% of a property’s assessed value, or its current market value if less.
Further, from year to year a property’s assessed value is adjusted upward starting at the property’s base value — the property’s fair market value (FMV) at the time of purchase, also called the full cash value — plus an annual inflation increase on the prior year’s assessed value set at the lesser of California’s consumer price index (CPI) figure or 2%.
Interestingly, taxes are limited in any one year to the property’s actual FMV if less than the adjusted assessed value for the year. [California Constitution, Article 13A]
Of course, a change of ownership resets the property’s base value to reflect the price paid by the new owners — hence, the “welcome stranger” nickname.
Saying no to reassessment
Avoiding reassessment is financially significant; assets typically inflate in dollar value over time, far more than the consumer inflation adjustment annually added to the assessed value. The assessed value of a property an owner holds long-term has historically represented a constantly declining percentage of the property’s inflated and appreciated asset market value.
As the assessed value-to-asset ratio declines, so does the tax-to-value percentage — as does the percentage of rental income needed to pay property taxes. These mathematical distortions of assessed value to the FMV are the result of annual adjustment to owner’s base value being restricted to the lesser of consumer inflation or 2%, not asset inflation in the open market. This tax policy represents a deliberate shift in wealth to long-term owners — as well as incentive not to sell when it is otherwise prudent to do so — paid for by new property owners. Additionally, the shift marginalizes significant sources of revenue from access for taxing by local government agencies.
The 2% annually compounded rate of inflation as a ceiling on assessed value frequently creates a massive equality disparity between owners of comparably valued properties acquired in different years.
Thus, when a property assessed at $100,000 sells for $350,000, the property tax for the first year of the new ownership will be $3,500, not $1,000 as it would be in the hands of the seller. A seller’s property taxes are often one third to one fifth the amount of taxes their buyer will pay since, on average, property turns over once in a generation.
However, this disparity in property taxes between properties of equal value creates an incentive to remain with the property, inhibiting mobility and turnover.
California homeowners who occupy their dwelling as a principal residence are also entitled to a $7,000 exemption from assessed value, a state government housing policy to encourage homeownership. [Calif. Const. Art. 13 §3(k)]
The $7,000 exemption is a fixed amount which does not vary with the annual assessed value inflation-adjustment.
Properties qualifying as a “dwelling” for the homeowner’s exemption include:
a condominium or planned-unit development;
a multiple-family dwelling occupied by the homeowner;
shares in a co-op housing corporation; and
a mobilehome and any ownership interest in the space occupied by the mobilehome. [Revenue & Taxation Code §218(c)(2)(B)]
The homeowner’s exemption applies to a homeowner’s residence even when it is encumbered by a mortgage, including a home purchased and financed by use of a land sales contract or lease-option sales agreement.
Seniors carry forward
Homeowners aged 55 or over who sell their homes may carry forward the adjusted base value from the residence sold to the replacement residence they acquire — yet another public policy encouraging continued ownership through tax incentives. [Rev & T C §69.5(a)]
own and occupy the home and be eligible for the $7,000 homeowner’s assessed value exemption [Rev & T C §69.5(b)(4)];
be at least 55 years old or severely and permanently disabled [Rev & T C §69.5(b)(3)];
purchase a replacement home of an equal or lesser value than the home they sold [Rev & T C §69.5(a)];
purchase a home in the same county as the home they sold, or in another accommodating county [Rev & T C §69.5(a)]; and
close the purchase of a replacement home within two years before or after closing the sale of the old home. [Rev & T C §69.5(b)(5)]
While the owner’s original and replacement homes need to qualify for the $7,000 exemption, the owner does not need to actually take the exemption to qualify to carry forward the assessment. [Rev & T C §69.5(g)(10)]
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Ken Snowdon	on March 6, 2019 at 12:00 am
Ken Snowdon	on March 5, 2019 at 11:59 pm
Isn’t the transfer of taxes for Seniors from a higher priced home into a lower priced home also a once in a lifetime event?
I haven’ seen this mentioned in the above discussion. Could someone please advise if this is correct? Thanks.
malinda walters	on February 27, 2019 at 11:40 am
This article seems to lean towards Prop 13 being a bad thing with the statements that it does not help the city and local governments attain tax money and that it is unfair to new buyers who then pay more property tax for their home than their neighbors that bought a few to many years back. I don’t think this article pays light to the fact that most people would lose their homes if Prop 13 did not exist. With the ever increasing home prices in California, if the property taxes were to inflate each year families and retires would have to leave as most cannot handle huge variations and increases in costs. You would lose all of the generations of families that have lived in California as most of us do not make enough money to keep up with market costs and having a 100% increase in taxes would definitely cause an increase in foreclosures. The benefits of Prop 13 to home owners far outweigh the detrimental pieces of Prop 13 that benefit Corporations but leave the City and Local governments missing out on tax income.
William Matz	on February 27, 2019 at 10:28 am
Good article overall. One minor correction. When the replacement residence is acquired after sale of the former residence, the replacement cost can exceed the price of the former home; the differential depends upon the time delay.
manuel zelaya	on March 5, 2019 at 8:41 pm
Lets be honest, the law is created and the loophole is created along with it. Prop 13 was created so home owners (especially seniors) will not be forced to sell their homes because of the increased Real Estate Taxes)because politicians in their effort to be re-elected they would burden the City (or Counties) with taxes created by their pet projects. How do we bypass Prop 13?? , we create Bond Assessments and the way it is going the Bond Assessments cost will be higher burden than your Real Estate Taxes. therefore, pay attention to those new assessments because they eventually will bury the home owner. Watch those professional politicians.These politicians will claim your taxes did not go up however, you look at your Tax Bill which includes the the Bonds Assessment cost is many times higher that your Real Estate Tax Bill.