In the November Election, California Proposition 19 was voted on and approved. The Proposition goes into effect on February 16, 2021 and will change the rules for some tax assessment transfers after this deadline.
From the perspective of the taxpayer, there is good news and bad news. The good news allows eligible homeowners (those age 55 or older, with severe disabilities or who lost a home in a natural disaster), to transfer their tax base anywhere in California, even with a property of greater value. They can do this up to three times (previously it was only once).
The bad news affects inherited properties (from parent to child/grandchild). Before Prop 19, parents could transfer their primary residence to their children without having the property tax base reassessed, regardless of how the child uses the residence. In addition, parents can transfer up to $1M of assessed value of other real property (vacation home or rental property) to their children. After Prop 19, parents can transfer their primary residence’s current assessed value only if a child will also occupy the property as their primary residence, and this is limited to $1M of exclusion of fair market value above current assessed value. Any transfer of other real property (vacation, rental, etc.) will result in a full reassessment for property tax purposes.
If the recipient occupies the home as their primary residence, $1M of the value will NOT be reassessed. This can be broken down into an equation as follows: The new assessed value is equal to the greater of the assessed value before the transfer or the current fair market value of the house minus $1M. For example, if the current tax base is $300,000 and the current value of the home is worth $1,500,000, it would pass to heirs with a $500,000 tax base.
For more details about Prop 19 you can click here
So, what can you do now? Property owners that have second homes or rental property or a low tax basis in the primary residence may be able to take advantage of the current tax exemptions by making a pre-death transfer before the February deadline, but this complicated topic should be carefully considered with an Estate Planner and Tax Professional beforehand. In most cases, it would be wise to treat the estate planning as your primary objective and the tax consequences as secondary, but every situation is unique. You should fully understand the pros and cons of your situation before making any decision.
Here are a few things you may want to consider before deciding to act or not to act before the February deadline:
- What are your goals for the property? Will the children want to retain ownership of the property for decades?
- What is the amount of unrealized capital gain?
- What is the existing property tax basis?
- How much income is the property generating?
- Will the heir be maintaining the property as their primary residence?
- How is the property titled currently?
- Will the benefit of a pre-death transfer outweigh the loss of the step up in cost basis at death of the owner?
- Will the parent need to use the equity in the home to pay for unforeseen expenses such as long-term care or other types of age-related expenses? Is the parent willing to give up control of the property during their lifetime?
Oftentimes, the answers to the questions above will help drive your decision. Lastly, the Board of Equalization will be interpreting provisions of the new law as they are implemented into their regulations and it is difficult to speculate on what the Board will do at this time. If this topic pertains to you, we are available for discussion.