According to the Urban Institute, state and local governments collected a total of $547 billion in revenue from property taxes in 2018, translating to 17 percent of the general revenue. Now, in 2021, many Californians are being forced to confront the possibility of significantly higher property taxes, thanks to Proposition 19 (Prop 19), a piece of legislation passed in 2020 that limits the conditions in which property owners can transfer property from parents to children without leading to property tax reassessment. Many Californians may be wondering if there are ways to transfer property to their children without incurring high property taxes and one potential solution is to transfer real property to an LLC. However, this process can be legally challenging and complex, which is why it is important to consider consulting with an attorney. If you have questions about using LLCs after Prop 19 to avoid higher property taxes, consider speaking with the knowledgeable attorneys at Santa Barbara Estate Planning & Elder Law at (805) 946-1550 today.
Understanding Prop 19
In order to understand Prop 19, it is important to understand the legislative history behind it. In 1978, California voters passed what is known as Proposition 13 (Prop 13), which stipulates that California properties be taxed on their assessed value, rather than their fair market value. The assessed value is typically the purchase price and any costs of improvements, as well as an increase of no more than two percent annually unless the property changed ownership in which case it would be reassessed. Transfers of property between spouses are not considered a change of ownership and are exempt from property tax reassessment.
This meant that Californians who held onto their property for many years would pay less in property taxes than someone who had recently purchased a property of the same value. Prop 13 is still in effect today.
In 1986, Californians also passed Proposition 58 (Prop 58), which excluded the following from reassessment transfers when parents transfer property to children :
- Primary residences of any value
- $1 million of the assessed value of other real property
Prop 58 is commonly known as the parent-child exclusion. It favors families that have long held property in California that was assessed as low-value at the time of purchase. Prop 19 replaces Prop 58, limiting the ability for parents to pass property on to their children without reassessment, leading to children potentially paying exorbitant amounts in property taxes. This is why many Californias may be exploring how they can use LLCs after Prop 19 to avoid higher property taxes.
The Impact of Prop 19
As of February 2021, Prop 19 replaced Prop 58, limiting the scope of the parent-child exclusion. Under Prop 19 the following rules come into effect:
- Parents can no longer transfer $1 million of the assessed value of the property that is not the primary residence to children.
- Parents cannot transfer the primary residence to a child without reassessment unless the primary residence becomes the child's primary residence and the fair market value of the property at the time of transfer does not exceed its assessed value by more than $1 million.
So, what does this look like in practice? Imagine a family that owned a home that at the time of purchase had an assessed value of $300,000 but a market value of $2 million. The parents pay approximately $3,600 annually in property taxes, but if the property were reassessed at market value, it would be around $24,000. Prior to Prop 19, when the parents passed away and transferred the property to a child, that child would have paid the same amount in property taxes as their parents.
Under Prop 19, however, the house will be reassessed and the child will pay property taxes at the current market value. This can quickly pose financial issues for families, making it important for many families to explore how they can LLCs after Prop 19 to avoid higher property taxes.
What an LLC Can Do For Property Taxes
There were over 400,000 business applications per month for the first six months of 2021, according to the United States Census Bureau. Some of these were likely individuals seeking to use Limited Liability Companies (LLCs) after Prop 19 to avoid higher property taxes. The rules for property tax reassessment have not changed for entities such as LLCs, which means that property held within an LLC will not be reassessed barring certain situations. These situations are:
- Change in Ownership: This is when more than 50% of an original owner's interest in the LLC is cumulatively transferred. An example of this would be a situation in which one co-owner dies and passes 50% of his interest to his children and then another co-owner donates 1% of their interest to a charity. Over half of the interest has been cumulatively transferred, resulting in the property being subject to reassessment.
- Change in Control: This is when one party gets more than 50% of the ownership interest in the LLC - for example, when two owners bequeath their interest to the same beneficiary upon their deaths, resulting in the beneficiary inheriting over 50% of the LLC.
While LLCs are a useful strategy to work around the consequences of Prop 19, they can quickly become complicated to navigate. Santa Barbara Estate Planning & Elder Law may be able to answer questions about the intricacies associated with the use of LLCs after Prop 19 to avoid higher property taxes.
The Benefits of Creating an LLC To Avoid Higher Property Taxes After Prop 19
Using LLCs after Prop 19 to avoid higher property taxes can include additional benefits. These include:
- Asset protection
- Advanced gifting opportunities such as through stocks and shares
- The potential for estate tax reduction
How an Experienced Attorney Can Help
While using LLCs after Prop 19 to avoid higher property taxes can be an excellent strategy, it is one that must be approached with caution and knowledge. For this reason, it is important to consider working with an attorney who understands the intricacies associated with LLCs and property tax - especially with regards to the complicated legalities surrounding change in ownership and change in control. The seasoned and experienced attorneys at Santa Barbara Estate Planning & Elder Law may be able to provide the guidance that you need. Consider visiting with us today to learn more about your legal rights and ensure they remain protected at (805) 946-1550.