California Proposition 19 Deadlines: 12/31/2020 and 2/16/2021
Prop 15 got all the attention in California, but Prop 19 will have a major impact.
The California Realtors Association spent $35M and others added $15M to get this proposition passed while the opposition spent only $45K. For Realtors, it means more business, more sales, more commissions because even if a child wants to move back into their parent's home, they simply may not be able to afford it. If the child inherits a property say in San Francisco or Los Angeles, they could be facing $12.5K per year for every $1M of market value above the first million.
For rentals, it means rents have to go up just to pay the taxes. If you're renting a property that you could sell for $600,000 today, you will soon be paying $7,500/year ($600K x 1.25%) instead of the current $600/year you may be paying now! Just to make the same profit margin, you would need to raise rent $575/month just to break even to pay the additional taxes.
I think the State of California is expected to receive $2 Billion dollars more per year due to this proposition passing.
If you plan on keeping a property as a rental, you definitely should look into how to keep your parent's existing property tax rate if you can. And if you don't, then expect to pay around ten times what the current property tax is today.
If you plan to sell the inherited property and get cash, which most children end up doing based on talking to a financial advisor, they basically can sell the property and get almost the full amount of the sale tax free.
This is because there is a step up in cost basis when the first parent passes on and a second step up in cost basis when the second parent passes.
If a property's market value when the first parent passes on is $500K, the step up in cost basis is $250K. If the property then appreciates to $600K when the second parent passes, the step up in cost basis is an additional $300K. If the children sell the property for $600K, they need to pay capital gains on the $50K gain since the passing of the first parent. At a tax rate of 20%, the children would owe $10,000 in taxes on the $50K gain, but would receive $550K tax free and $40K after paying $10K on the $50K capital gains. After paying capital gain taxes, the children would end up with $590K from the sale of their inherited property.
If you plan to sell your parent's properties, Proposition 19 doesn't impact you in my view.
If you want to have your parent(s) gift a property, it seems you should do so by December 31, 2021. My understanding is Trump increased not taxing up to $12M dollars of property gifted to a child. But Biden may want to lower this to $1M. So you might be taxed on any gifts over $1M of market value.
The second deadline is February 16, 2020. This is if you want to create an LLC (or another form of business) and move the properties into the LLC to keep the lower tax rates.
I have two LLCs and they're easy to maintain. To set them up, you fill out a simple form. Then you need to remember to pay $800 per year, plus file a 12C Form every other year which updates who is a member of the LLC, plus have meeting minutes written and approved once a year, and have two separate checking accounts (since these are businesses). I might be missing something here.
The nice thing about LLCs is they give you a buffer between your personal assets and the renters suing you. Renters can sue the LLC, but so long as things are kept separate, the renter can only bring down the LLC but not touch your money. If renters find out you didn't keep your personal money separate from the business, like having one checking account for both your personal money and the LLC, then they can come after your personal assets which is called "piercing the corporate veil". (Always liked the sound of those words.)
Bottom line here is there is a problem and depending on what your long term plans are, you should look into what your options are now!
I just looked into Prop 19 last night and see it as a major problem which needs to be looked into more. To do nothing, just means you're going to end up paying a lot more in property taxes.
Please note, this post is NOT financial advice and you should contact a lawyer or an accountant for your situation.
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