Under Proposition 13, the 1978 initiative that slashed property taxes in California, the sale of property is supposed to trigger a reassessment for tax purposes. Because residential property turns over more frequently than businesses, home property values are reassessed more frequently. But even when a business is sold, new owners often avoid higher taxes.
Under the rules adopted by the Legislature to implement Proposition 13, change of ownership for businesses occurs only after a new entity acquires 50 percent of the business or more. Over the years, businesses have exploited that rule to avoid reassessments. The Los Angeles Times recently chronicled one of the most egregious examples of how this loophole works.
Computer magnate Michael Dell, the billionaire buyer of the iconic Fairmont Miramar Hotel in Santa Monica, structured his $200 million purchase in 2006 so that none of the purchasers the billionaire, his wife and two other partners acquired 50 percent ownership. So even though 100 percent of the property changed hands, no reassessment was triggered and the hotel's new owners were able to avoid approximately $1 million a year in additional property taxes.
Deprived of much-needed revenue, Los Angeles County sued to force a reassessment. So far the courts have ruled in favor of the billionaire hotel owner.
Assembly Bill 188 by Assemblyman Tom Ammiano, D-San Francisco, seeks to close the change-of-ownership loophole. Under this bill, whenever 100 percent of a business property is sold within a three-year period, a reassessment would be required.
While it addresses one tax dodge, even supporters of the Ammiano bill concede the proposed law, if enacted, would spawn its own tax avoidance schemes. For example, buyers could purchase 99.9 percent of a commercial property, instead of 100 percent and wait three years to acquire the remaining slice, thus easily avoiding higher property taxes.
The real problem with Proposition 13 is that it is unfair, and in the business arena, dangerously anti-competitive. Identical properties sitting side by side pay vastly different property taxes depending on their purchase dates. A business that has existed at its same location since 1978 the year the proposition took effect pays taxes based on 1978 property values, plus a modest 2 percent annual inflation rate allowed under the initiative. A business purchased in 2013 if the new owners follow the rules as intended pays taxes based on today's much higher market values.
New businesses considering moving to California or expanding operations here face an uneven playing field. Their long-established competitors will pay a fraction of the property taxes the new business pays.
This unequal and unfair property tax treatment penalizes new businesses, stifles growth and deprives state and local government of revenues they need to support infrastructure, schools, police, fire and other important governmental services.
A better fix would be to match all business property tax assessments as close as possible to the property's true market values. That would require periodic reassessments for businesses but not for residential properties. Such a reform, commonly referred to as a split roll, is anathema to California's business leaders, understandably so. If done in a vacuum, it would trigger large tax increases for existing businesses that are struggling to recover from the recession and further cement the state's anti-business reputation.
If the property reassessments were made revenue neutral accompanied by elimination of the business equipment tax, for example, or even a reduction in the tax rate for business properties many of the state's most knowledgeable economists think it would eliminate the unfair burden Proposition 13 imposes on new businesses, with little or no economic impact.
Unlike the Ammiano bill, such a change would require a constitutional amendment and a statewide vote of the people. So far, no such fundamental change to Proposition 13 is in the works. Still, it is an important discussion worth having. It's patently unfair when the new owners of the Fairmont Miramar can take advantage of a legal scam to avoid paying their fair share of taxes.