By Datta Khalsa, Broker
Proposition 19 was passed in November, with the blessing of the California Association of Realtors, largely based on its provisions allowing seniors to transfer their property tax base to anywhere in the State, which was welcome news to many. It also promised to raise money for under-funded fire departments, which understandably gained a ground swell of popular support in the wake of the increasing numbers of wildfire that have hit our state in recent years.
What most people didn’t realize was the extent to which the Proposition will soon impact the tax consequences when properties are inherited or transferred between family members. This is partly because the rules are fairly complex, but at its essence Proposition 19 limits tax exemptions on family transfers to $1 Million, and moving forward they only apply for a family home or farm that is both the personal residence of the transferor and transferee.
It also limits retroactive filings to one year past the date of the transfer (ie by death, sale or gift), which is an added departure from the old rules which were much more lenient. And to be recognized, the primary residence has to be eligible for the homeowners or disabled veterans exemption, which has new significance when you consider that once a parent is in a nursing home, they are no longer eligible for the homeowners exemption.
The new rules apply to any transfer made on or after Feb 16, 2021, and the news of these changes has resulted in a rush of people trying to get their affairs in order per the existing rules under Propositions 58 and 193. It should be noted that the effective deadline in Santa Cruz County will be by the 12th due to the President’s Day holiday, which means even less time to make the necessary changes to title. The trouble is, in their rush many people may be making wrong decisions if they haven’t fully thought out the details on the transfers they are doing.
Before going on, I would like to point out that I am not an expert in tax planning, and am only passing along my limited understanding on the topic to help bring attention to the importance of getting educated on your options and making sure you consider the full ramifications of how you handle transfers between family members. So what are some of these ramifications?
An obvious upside of gifting is that the family gets to transfer their existing basis, which under the new rules will still allow up to a cumulative $1 Million limit of the adjusted base year values on property taxes. A clear downside of gifting is that you lose the step up in tax basis, which can result in an unintended capital gains liability versus just leaving things as they are. There also could be gift tax implications that should be considered. And on income property, a transfer could negatively impact the parent with their cash flow as well as their income taxes if they are still depreciating the property, so the savings may not be worth it after all.
A hybrid option that some people are finding beneficial is to transfer 51% of the property portfolio before Feb 12 and set up an LLC (which I have heard can possibly be done later but this should be confirmed) in part to avoid the property getting 100% reassessed when over 51% of a property is transferred.
In the end, the correct answers come down to a simple math question, but to get to the right answers and to make sure you are taking the proper steps it is critical to work with a CPA who understands the financial details and an attorney who understands entities and transfers.
So be careful what you think you know and check with the right people before taking action. But be sure and ask those questions now, because February 12 is right around the corner.