Will California’s property tax initiative hurt small business? What you need to know

Depending on which ad you see, a property tax initiative on the November ballot would either drive small businesses into the ground or actually cut their taxes.

Proposition 15 would roll back part of a 1978 law that sets property taxes based on purchase price. Under the new initiative, commercial property owned by businesses over a certain size would be taxed based on current assessed value.

That would effectively raise their tax bill. The nonpartisan Legislative Analyst’s Office projects the change would generate billions of dollars for schools and local governments.

The supporting campaign says the measure spares small businesses from tax increases by only applying to businesses that own more than $3 million in commercial and industrial property. Supporters say many small businesses will actually see a tax cut because of an equipment tax break in the measure.

“I’ve run the numbers, and it will cut my taxes, just like many other small business owners,” one woman identified as a small business owner says in an ad by the campaign, which is funded largely by unions.

Opponents argue that the measure will hurt small businesses that rent their spaces because higher property taxes on the buildings that house them will be passed through in their leases.

“As higher property taxes push our costs up, family businesses will go under,” a man portrayed as a small business worker says in an ad from the opposition campaign, which is funded largely by real estate companies.

So who’s right? The truth, independent economists say, is somewhere in the middle.

“This is going to affect small businesses,” said Terri Sexton, a retired Sacramento State economist who has studied California property tax law for decades. “There’s no doubt about it.”

But it’s not yet clear which small businesses will see higher taxes or how much more they’ll pay, she said. It’s also unclear how much increases will be offset by a personal property tax cut in the law, which eliminates equipment taxes for small businesses with fewer than 50 employees and gives larger businesses a $500,000 exemption.

Small business renters

Most small business renters must pay part of their building’s property taxes through their lease agreements, said Sung Won Sohn, an economist at Loyola Marymount University in Los Angeles. That means if their building’s taxes go up, so will theirs.

The supporting campaign says Proposition 15 gives tenants time to renegotiate their leases because it delays implementation for buildings where small businesses rent more than half the space until 2025.

California’s current property tax law, Sexton says, unfairly advantages businesses that have owned their property for a long time, but she has some concerns about the way Proposition 15 is written and isn’t sure that the phase-in period will be enough for small businesses to renegotiate their leases.

“There’s no reason why a business should have an advantage based on its property taxes,” she said. “But I think a well-defined phase in period is necessary, and I’m not sure this proposal really allows for that.”

Although small businesses that rent their space may see some property tax increases passed on to them, landlords will likely still absorb at least some of the tax increase, said Alan Auerbach, Director of the Burch Center for Tax Policy at UC Berkeley.

That’s because market factors will still influence rent prices.

Market forces and COVID-19

The supporting campaign argues landlords who pay low property taxes because they’ve owned their buildings for a long time don’t charge lower rents as a result. They still charge market-rate rent, and pocket any savings from lower tax costs.

Even if their property taxes rise, those landlords won’t be able to raise rents dramatically if they want their tenants to stay, supporters argue, which will force them to renegotiate.

The extent to which that will be true will depend on the market, economists say. Leila Bengali, an economist at UCLA, said that in some parts of California where there are many spaces available to rent, landowners may be pressured to keep prices where they are. But in areas with less competitive markets, that may not be the case, she said.

“There’s probably going to be a fair amount of variation,” Bengali said. “It’s conceivable that there could be a lot of regional differences.”

Different types of small businesses will likely be affected differently, Sexton said. A business that can easily move into a new space without major moving costs would have more leverage to renegotiate a lease, she said, but businesses with high moving costs might choose to stay in their space even if prices rise.

Sohn said he’s spoken to mall owners in the Los Angeles area who are collecting only about 70 percent of rent from their tenants because of the pandemic-driven economic shutdown. If Proposition 15 passes, that will put more strain on those property owners.

“Some small business owners will be exempt, but many others will be caught in the net,” Sohn said. “If you raise property taxes on top of the pandemic, that’s going to really hurt.”

Proponents point to a study funded by the Silicon Valley Community Foundation, a business organization not affiliated with the campaign, that analyzed past examples where properties were reassessed after a sale and found that businesses saw little to no rent increases.

Supporters of the measure argue that would be the case if Proposition 15 were to pass, even as opponents decried the study and argued the measure would force small business renters to close shop.

“I think the truth is somewhere in between,” Auerbach said. “We certainly expect owners to bear some of the tax, but we can’t be sure that they’re going to bear the entire burden.”