Property taxes are an unfortunate, but necessary, evil which all property owners in California must contend with as they are used to fund many things which the citizens of California benefit from including public schools. California property owners understandably want to keep their property taxes as low as possible. However, if new construction is completed or a property is transferred in a manner which constitutes a legal “change in ownership,” a property owner is likely going to receive a notice of a reappraisal of the property’s value which will trigger an increase in their yearly property taxes. As a result, property owners need to be very careful with how to hold and transfer their properties if they hope to avoid having to pay more in property taxes. This blog post will cover the history of the current property tax system in California and some of the most common exclusions used to avoid triggering a “change in ownership” and subsequent reappraisal including how to handle a reappraisal notification.
History of Property Taxes in California
In June 1978, the voters in California approved Proposition 13 which added article XIII A to the California Constitution. Article XIII A generally limits the amount of property taxes to a maximum of 1 percent of the “full cash value” of the real property. The Constitution defines “full cash value” to mean a county assessor’s valuation of real property as shown on the 1975-76 tax bill, or thereafter, the appraised value of that real property when purchased, newly constructed, or a change in ownership has occurred. As long as the property has the same owner, its assessed value generally cannot increase by more than 2 percent each year regardless of whether the property’s market value increases at a faster rate.
Since the passage of Proposition 13, the Legislature has defined examples of what is not a change in ownership. California voters have also approved additional amendments to article XIII which created additional change in ownership exclusions. Examples of such voter approved exclusions include the exclusion of certain parent-child transfers. The California Legislature has codified the definition of change in ownership and exemptions of such changes through California Revenue and Taxation Code §§ 60 through 69.5.
Common Exclusions
Parent-Child and Grandparent-Grandchild Exclusions
Proposition 58 was passed in 1986 and Proposition 193 was passed in 1996 which exclude from the definition of “change of ownership” certain transfers between parents to their children and grandparents to their grandchildren. These can be found at California Revenue and Taxation Code § 63.1. These exclusions will only be available for interests held individually or in a trust meaning that property owned by an entity would not be covered by these exclusions.
The parent-child exclusion excludes transfers from a parent to a child of a principal residence and up to the first one million dollars ($1,000,000.00) of the full cash value of any other real property. The definition of children includes biological children, children adopted before age 18, step children, son-in-law or daughter-in-law (until the marriage is terminated) and certain foster children. The following are examples of how this exclusion could apply:
Scenario 1:
A father owns his principal residence and other real property which has an adjusted base year value of $2,000,000. In 1998, the father grants a portion of real property that has an adjusted base year value of $1,000,000 to son A. In 2000, the father grants another portion of real property that has an adjusted base year value of $1,000,000 to son B.
If both sons file for the exclusion on the $2,000,000, only the $1,000,000 to son A will qualify because the father transferred this portion of real property to son A first.
However, if only son B files for the exclusion, his $1,000,000 will be excluded because son A did not claim the exclusion for the property he received.
Scenario 2:
A father owns his own principal residence and four parcels of other real property with a combined adjusted base year value of $2,000,000. In 2000, the father sold one parcel with an adjusted base year value of $500,000.00 to his daughter. She files a parent-child exclusion claim on this property and is granted an exclusion and no change in ownership is triggered. The father died in 2004 and his will gave the remaining three parcels to his children. Since only $500,000 of the father’s $1 million exclusion remains, the children must decide which of the three properties that transferred upon the father’s death are to receive the remainder of the exclusion.
The grandparent-grandchild exclusion applies to transfers to grandchildren “if all of the parents of that grandchild or those grandchildren, who qualify as the children of the grandparents, are deceased as of the date of purchase or transfer.” The limitations are similar with this exclusion in that it applies to the principal residence of the grandparents or the adjusted base year value of other real property up to the same one million dollar ($1,000,000.00) limitation. However, this exclusion has some unique limitations. A transfer of a principal residence from a grandparent to a grandchild may be excluded as a principal residence only if the grandchild has not already received a principal residence from his or her parents. If the grandchild had already received a principal residence from a parent that was eligible to be excluded under the Parent-Child exclusion, then the value of any principal residence received from a grandparent will be considered to be “other real property” subject to the $1,000,000.00 limitation.
The following example illustrates how these limitations would apply:
Grandparents pass away with only a principal residence. The parents of Grandchild A and Grandchild B previously passed away and transferred their principal residence to Grandchild A. If Grandparents transfer their principal residence to both Grandchild A and Grandchild B, then Grandchild A’s portion of the residence would be subject to the $1,000,000.00 limitation but Grandchild B’s interest would be considered a transfer of a principal residence since Grandchild B did not previously receive a principal residence from his parents.
To take advantage of either the Parent-Child or Grandparent-Grandchild exclusions, a Claim for Reassessment Exclusion Form must be filed with the County Assessor. An exclusion may be granted as of the date of transfer if the claim form is received prior to the following dates: (1) Within three years of the date of transfer or before a transfer to a third party; (2) If a notice of supplemental or escape assessment is mailed after either of the above deadlines, within six months of the date of notice; or (3) If the notice of supplemental or escape assessment is mailed before the end of the three-year period, the transferee still has until the end of the three-year period to file a timely claim. If all deadlines have expired and the transferee still owns the property, the transferee may file a claim and receive prospective relief.
Interspousal/Registered Domestic Partner Transfers
Transfers between spouses and domestic partners can qualify for exclusions from reassessment.
Interspousal transfers between husband and wife are excluded from reassessment. This includes properties owned by an entity which the spouse owned or transferred upon death of either spouse. For marriages of persons of the opposite sex, California will recognize an out-of-state marriage, including a common law marriage, as long as the marriage was valid in the jurisdiction where the marriage occurred. Such transfers are very common during divorces as the couples attempt to distribute their assets.
Registered domestic partners also qualify for an exception for property transferred between them. It should be noted that this applies only to domestic partnerships which have been registered with the California Secretary of State, not local jurisdictions such as a City or County.
Entity Transfers
California Revenue and Taxation Code § 61(j) provides that “[t]he transfer of any interest in real property between a corporation, partnership, or other legal entity and a shareholder, partner, or any other person” constitutes a change in ownership. However, proportional ownership interests are exempt from this definition of change in ownership under California Revenue and Taxation Code § 62(a)(2). This means that as long as the individuals have the same proportional ownership interests in the entity as they had in property before and after a transfer that the property, the property will not be reassessed due to a transfer to or from an entity or individual.
An example of this would include a transfer of property from Owner A and Owner B, each of whom own a 50% interest in the property. The two owners decide that they want to form an LLC together and they want to transfer the property to the LLC to hold the property. If Owner A and Owner B maintain a 50% interest in the LLC, no change in ownership would result from this transfer.
California Revenue and Taxation Code § 64(d) provides that a transfer of more than 50% of the total interests in an entity from the “original co-owners” of a legal entity constitutes a change in ownership. As such, prior to transferring certain interests in entities that own real property, the parties should be careful about how the transaction is structured or the entity could face an unintended reappraisal. For example, if in the scenario above Owner A and Owner B decide that they want to bring in a member to raise capital for their LLC they could transfer ownership interests in the LLC to the new member. However, if they were to transfer more than 25% of each of their interests in the LLC, a change in ownership of the property would be triggered.
How to Contend with an Unexpected Reappraisal
California has a very strong presumption in favor of ownership by persons listed on a deed for real property. This is reflected in California Evidence Code § 662 which provides a presumption that an owner of legal title to property is presumed to be the owner of the full beneficial title which can be rebutted only by “clear and convincing” evidence. Clear and convincing evidence is the highest evidentiary standard in California. Proof that is “clear and convincing” means evidence that is explicit and unequivocal that beneficial title transferred to a person or entity other than those named in the deed, or that title is transferred at a point in time distinct from the date of delivery of the deed. This means that whomever you are trying to convince that the individual(s) listed on a deed are not the full beneficial title holders must harbor no doubts that what you are saying is true.
Consideration of evidence to overcome this presumption comes in many forms and can include written documentation executed on a date other than the date of conveyance of the real property where the parties in question agree that certain parties do or don’t have an equitable or legal ownership interest. Additionally, monetary contributions by parties towards the purchase of, maintenance obligations towards, insurance obligations towards or property taxes for, the subject property can demonstrate that another individual may be the true owner of the property. Stronger evidence would include a judgment or Court decree confirming who the true owner of the property is which varies from whomever is listed on title. Further, the California State Board of Equalization has taken the position that where the parties have executed a written LLC or partnership agreement, the designation of their own relationships and their rights to exercise full ownership interests over the property as partners/members should be given the greatest weight.
Commonly parties will enter into holding agreements for property for a variety of reasons. California Property Tax Rule 462.200(c) allows for such agreements and exempts them from the definition of “change in ownership.” If this is the arrangement, you should procure all agreements and written documentation showing the arrangement as often times the County does not have intimate knowledge of underlying dealings for real estate outside of whose name is listed on title.
Maintaining all property ownership related documents from purchase through reappraisal will make a great deal of difference in convincing a county that they have made a mistake in reappraising real property. These documents should be maintained in a place which is easy to locate and is easily accessible given that the time to appeal a reassessment is very short (60 days).
If you are a property owner who is either concerned that a planned property transfer may trigger a property tax reassessment or if you have been notified by your county that they have reassessed the value of your property which you wish to challenge, please contact our office immediately to discuss your options.
