Estate Planning with Real Estate Within Your Family After California Prop 19

Estate Planning with Real Estate

For many years, we have advised many of our high net worth clients and their families on real estate transactions, restructuring and income and estate planning.   Our primary focus is to assist families in preserving wealth, effectively transferring wealth to the next generation, educating them and their children on how to utilize the value for achieving family objectives and social development goals.

California Property Tax Law which was Impacted by Prop 19   

California Prop 19 which some provisions took effect on February 16, 2021 and others take effect on April 1, 2021 has fundamentally changed the way you can pass on the base property tax value to your children or your children passing their base property tax values to you.

Prior to the enactment of Prop 19, you could:

• Transfer by gift or purchase a California principal residence of the child to their parents, parents to the child or grandparents to grandchildren (if the grandchildren’s parents are deceased) without increasing the value of the property for property tax purposes. Additionally, the principal residence did not have to be used as a principal residence by the donee or purchaser.
• Transfer up to $1,000,000 (per parent) of what the assessed value was on the assessor’s roles of any other real property (e.g., vacation home, rental and commercial properties) located in California to a child or one or more children or to irrevocable trust(s) for the benefit of the children without property tax reassessment.
• Reduce the property tax value within 3 years or before transfer by filing a claim with the assessor.
• Transfer property that was used as a family farm from the parents to their children or children to their parents and retain the same base property tax value before the purchase or gift of the property. A family farm is any real property which is used for pasture or grazing or is used to produce any agricultural commodity.   The family farm did not have to be used as a family farm by the donee or purchaser.

What Changed (Effective February 16, 2021)

• Transfers up to $1,000,000 (per parent) of the assessed value on the assessor’s roles of any other real property (e.g., vacation home, rental and commercial properties) located in California are no longer available. 

• Transfers by gift or purchase of a California principal residence of the child to their parents, parents to the children or grandparents to grandchildren (if the grandchildren’s parents are deceased) are still available but are substantially limited. Two new limitations go into effect:

• • The principal residence gifted must be used by the person it was gifted or sold to as their principal residence after the gift or purchase to avoid being reassessed at its fair market value at the date of the gift or purchase and 

• • If the fair market value of the principal residence exceeds the current assessed value of the parents or child by more than $1 million, the new assessed value is the fair market value less $1 million or

• • If the fair market value of the property at the time of the gift or purchase is less than $1 million, then the assessed value is the same as it was before the gift or purchase.

• Transfers of a family farm from the parents to the children, children to the parents or grandparents to grandchildren (if the grandchildren’s parents are deceased) would mirror the rules above for the principal residence except that that the donee or purchaser must use the property as a family farm.

• After February 23, 2023, the $1million amount will be adjusted by the California CPI.

• Examples:

• • If the parent’s principal residence is assessed at $300,000 at the time of the gift and the Fair Market Value of the residence is valued at $4 million, the new assessed value will be $3 million ($4 million-$1 million).

• • If the parent’s principal residence is assessed at $50,000 at the time of the gift and the Fair Market Value of the residence is $950,000, the new assesses value is the same as the prior assessed value $50,000.

• You will need to file for homeowner’s exemption within 1 year of transfer for the reduced property tax assessments to apply.

• Transfers of property that also have a retained life estate (e.g., the parents or children have the right to live in the property for their lifetime) are not eligible for a property tax reassessment until the life estate terminates. There was no change to this provision because of Prop 19.

What Changed (Effective April ,1 2021)

Homeowners who are 55 years of age, disable or victims of wildfire or natural disaster may transfer their base year property tax value to their new principal residence if it is located anywhere in California.

• New property tax valuation rules and timeframes to replace property also went into effect:
• • The amount above 100% of the Fair market value prior to the sale or replacement is added to the tax assessor’s value.

• • A wildfire, is as defined, but a natural disaster must be declared by the Governor.

• • The primary residence must be purchased or newly constructed within 2 years of sale or date of disaster.

• • An owner of a primary residence who is over 55 years of age or severely disabled are not allowed to transfer the taxable value of a primary residence more than three times during their lifetime.

• • You must complete the claim form BOE-60-AH

• • Examples:
    • Homeowner, who is over age 55, sells their primary residence for $1,000,000. At the time of the sale, the assessed value is $500,000.  They purchase a replacement home within the 2- year period for $900,000.  Their new assessed value is the same as the one that they sold $500,000.

• • • Homeowner, who is over age 55, sells their primary residence for $1,000,000. At the time of the sale, the assessed value is $200,000.  They purchase a replacement home within the 2- year period for $2,000,000.  Their new assessed value is $1,200,000 computed as follows:
      • Find the difference in the market values of the replacement and original home. ($2 million less $1 million= $1 million.
      • Add difference to the transferred assesses value. ($1 million + $200,000 $1,200,000.
      • New assessed value for the replacement primary residence= $1,200,000.

Impact of Prop 19 for Property Tax Revaluation

• Prior planning techniques such as sale or gifting to an intentionally disregarded grantor trust (IDGT) may no longer work.  If the person gifting or selling the property is living in the property and paying rent it will not avoid property tax revaluation unless the beneficiary is using the home as their principal residence.

• Qualified Personal Residence Trust (QPERT’s) which shifts future appreciation out of the parent’s estate and allows the parents to live in the property for a fixed number of years may be reassessed for property tax purposes unless the trust beneficiary is using the property as their principal residence.

• The upshot of Prop 19 is that you only get to exclude up to $1 million of assessed property tax values for transfers of principal residences or family farms to or from your grandparents (who qualify), parents or children who use them after the gift or purchase as principal residences or family farm. The maximum amount of savings at a 1% tax rate per year is about $10,000.

• • You should weigh the benefits of transferring the property to keep part of the existing property tax valuation and future appreciation of the property out of the donor’s estate against the increase in cost basis that the beneficiary will receive on the death of the owner.

• Prop 19 is more favorable to people over 55 years of age, severely disabled or victims of wildfire and other natural disasters by allowing them to take their existing property tax value to their new residence even if they are not moving to the same California County.

• • They may want to consider waiting until after April 1, 2021 if they are planning on moving to a county that does not have reciprocity of carrying over their existing assessed value of their property or if the law prior to April 1, 2021 is not as favorable.

Impact of Prop 19 for Estate Tax Planning

• Traditional estate tax methods of transferring real estate are still viable even if you are limited in transferring property tax values from one generation to the next.  These methods transfer most of the appreciation after the date of the gift out of the High net worth client estate to their children or charity. These methods will be more important if the Biden tax plan passes where there is no step up in basis at the date of death and a reduction in the lifetime estate tax exemption.

• If you have not explored these techniques, you may consider some of the more common methods:

• • Restructuring the entities that hold your real estate
  • Loaning money to your children to purchase new property
  • Sale to an (IDGT) intentionally disregarded grantor trust with your children as beneficiaries.
  • Establishing a dynasty trust and lending money to the trust to purchase the property.
  • Utilizing the (QPERT) qualified personal residence trust provisions for family vacation homes or compounds
  • Utilizing charitable trusts
  • Using (GRAT) or (GRUT) grantor retained annuity trusts or unitrust
  • Converting principal residences to rental property and utilizing a like-kind exchange.
  • Charitable contributions for home remodeling

• Remember that Estate tax planning is not just trying to reduce the amount of estate tax you pay. It can be done with objectives in mind of educating your children and creating a better world for all.

We hope you found this article about estate planning with peal estate within your family after California Prop 19 helpful.  If you have questions or need expert tax or family office advice that’s refreshingly objective (we never sell investments), please contact us or visit our Family office page  or our website at www.GROCO.com.  Unfortunately, we no longer give advice to other tax professionals gratis.

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