Prop 13 Change Could Cost California Companies An Extra $11B Every Year In Property Taxes

In California, the same piece of legislation has governed property taxes for both homes and commercial properties for over four decades. A new state ballot initiative threatens to snap those two groups apart.

Since 1978, Proposition 13 has limited property tax to 1% of a property’s cash value and has capped yearly value split increases to 2%, no matter whether the asset in question is a single-family home, an office building, a factory or a piece of vacant land. Properties are only revalued when they change hands.

In November 2020, Californians will determine whether to change the existing property tax system to begin taxing commercial and industrial properties differently. If voters choose to split the state’s tax rolls, it could cost California commercial owners an additional $11.4B every year in property taxes.

“California’s business tax climate already compares terribly with the rest of the nation,” said Mike Brennan, tax director at Ryan, a global tax services firm. “If Prop 13 disappears, taxpayers and businesses will continue to check out, speeding the state’s race to the bottom.”

Prop 13’s supporters argue that the law made California’s economy hum through the 1990s and 2000s. Now, companies are fleeing California in favor of states like Texas with more business-friendly tax codes. They say splitting the tax rolls could be the last nail in the coffin for California.

Opponents of the law say Prop 13 has created inequities between properties that change hands often, such as single-family homes, and commercial properties, some of which may still be paying property taxes calculated from 1970s-era valuations. 

Up until 1978, California revalued real property every few years, as many states do today, and local governments set their own tax rates. A period of economic stagnation, as well as corruption in local tax assessors’ offices, bred calls for reform in the 1970s. Relief came in the form of Prop 13, a ballot initiative for a unified property tax assessment system. The measure was passed by a wide margin — nearly two-thirds of the votes cast were in favor of the new law.

“Historically, most politicians have avoided split-roll measures because a two-thirds majority is required to update tax law and since Prop 13 is still widely popular,” Brennan said. “However, recent polls suggest growing support for a split roll.”

Supporters of the split-roll movement cite a need to close tax loopholes and bring in more funding for California’s beleaguered public schools. Initiative sponsors like the California Federation of Teachers and the American Civil Liberties Union of Southern California say Prop 13 has placed the burden for local services and education disproportionately on cash-strapped homeowners instead of deep-pocketed commercial owners.

Under the proposed split-roll system, commercial properties would be revalued every three years, rather than just at their transaction dates. Small businesses with fewer than 50 employees would be exempt from these measures.

Opponents of the split-roll initiative include businesses, commercial property owners and many elected county tax assessors. They argue that a dual system will not just shift market forces and deter economic growth, but also increase complexity and administrative costs.

Eliminating Prop 13 would not just create two groups that follow two sets of rules, Brennan said, but also a host of organizations that need exceptions and special rulings. Businesses may try to conceal commercial ownership. Organizations over the 50-employee limit might claim they qualify as small businesses, increasing the need for examinations and audits.

“Tax systems, in general, are evaluated based on their simplicity and cost to administer, which in turn affects taxpayer views of overall fairness,” Brennan said. “While Prop 13 is not perfect, it achieves many good tax qualities by being stable, predictable and simple to administer.”

A split tax roll could also harm the state’s many apartment renters. When taxes rise on apartment buildings, owners may pass along some of the costs to their tenants. With some of the highest rents in the nation, Brennan said, increasing costs for renters is unthinkable.

The proposals for getting rid of Prop 13 also do not detail a solution for the rules that govern the allocation of taxes, which have been in place since the 1970s. While allocation formulas direct funding to school districts and local governments, Brennan said most Californians agree the rules need updating.

“Allocations were tweaked to redirect funding in the 1990s to schools to the disadvantage of cities and counties, and tweaked again in the 2000s without providing any resolution,” Brennan said.

For California’s business community, the stakes are very high. The exodus of companies so far has included automotive and pharmaceutical companies, medical device manufacturers, food processors and small businesses. With that loss, California needs to begin considering alternative tax sources, including trends in technology and newly legalized industries, as well as solving long-standing allocation problems and creating smart spending initiatives, Brennan said.

“[California Gov. Gavin Newsom] has said he will use the split-roll initiative as leverage in wider negotiations for a compromise on tax reform,” Brennan said. “California has always been known for leading the way. Let’s hope we can lead the way on equitable tax reform.”

This feature was produced by Bisnow Branded Content in collaboration with Ryan. Bisnow news staff was not involved in the production of this content.