Commercial Magazine

California’s market faces a potential second shock

By Victor Whitman

This past July, California saw a concerning rise in COVID-19 cases that threatened to shutter small businesses and lock down the state’s most-populous counties for the second time this year. But in the Golden State — which would have the world’s fifth-largest economy if it were a country — the coronavirus was only one of the issues that commercial real estate professionals perceived as a threat.

This November, California voters will decide whether to roll back a portion of Proposition 13, the controversial measure passed in 1978 that created a cap on property taxes. Proposition 13 requires that taxes on residential and commercial properties be limited to no more than 1% of the purchase price, with an annual increase of no more than 2%.

The state’s Proposition 15 would create a split roll, with a separate tax roll for most commercial and industrial properties. Residential properties, including multifamily housing, would continue to be taxed as before. Commercial space in mixed-use residential developments, however, would likely not be exempt. If Proposition 15 passes this fall, many commercial-property assets would be reassessed at the county level within three years and taxed based on their market value.

Commercial properties that haven’t been assessed for tax purposes since they were last sold would likely see a massive initial increase in taxes. There also would no longer be an annual cap on tax increases. CoreLogic legislative analyst George King says that property taxes on individual commercial and industrial properties could immediately rise by as much as 50%, although the actual impact will vary by county.

“If it passes, then they’re going to reassess every commercial property at its current market value, and then every three years after that,” King says. “So, they’re likely to keep adjusting it upward and property taxes in California are going to continue to get more out of control as they were pre-1978.”

Although attempts to roll back Proposition 13 to increase tax collections haven’t fared well, Proposition 15 will go to the ballot in a year that could see a wave of anti-Republican voting in the state, and it requires a simple majority to pass. The Schools and Communities First Initiative, which is coordinating the campaign for a coalition of teachers and trade unions, has been endorsed by numerous prominent Democrats inside and outside California, including presidential candidate Joe Biden.

Proposition 15 is estimated to raise somewhere between $8 billion to $12.5 billion annually in additional property taxes for schools and local governments, according to the state’s fiscal analyst. Supporters of the split roll say that many small-business owners who own their property will be protected, as business owners with cumulative commercial-property holdings of less than $3 million will be exempt.

Opponents, however, say these exemptions are fiction. They claim that California real estate values are already so high that most commercial properties, even ones owned by mom-and-pop businesses, would not qualify for an exemption. The California Assessors’ Association opposes Proposition 15, estimating that it would cost $1 billion to implement and could actually reduce tax revenues in more rural areas.

Notably, the California NAACP opposes Proposition 15. Among its reasons, the organization fears that property owners will offset higher taxes by raising rents on minority-owned businesses. Minority businesses, particularly those owned by Latinos, tend to remain small and lease space, the NAACP analysis states.

In the real estate world, certainty has a value and the certainty that we have now with what we’re going to be paying in taxes has helped keep the value of California property up.

—Rex Hime, President and CEO, California Business Properties Association

Most of the state’s organizations that represent business interests oppose Proposition 15. A coordinated statewide “No on Prop 15” campaign is underway, led by a coalition that includes the California Chamber of Commerce, the California Mortgage Bankers Association and the California Farm Bureau Federation.

“There’s just so many different aspects that are negative,” says Rex Hime, president and CEO of the California Business Properties Association. “The bottom line here is that it will probably cost about 120,000 to 150,000 jobs. There are a lot of killer impacts.”

If Proposition 15 passes, it could have a number of negative impacts on commercial real estate owners and their tenants, Hime says. The new system would create tax uncertainty, for example, which could drive down values and cause investors to look for real estate opportunities outside the state.

“In the real estate world, certainty has a value and the certainty that we have now with what we’re going to be paying in taxes has helped keep the value of California property up,” Hime says. In the real estate investment world, he says, California already struggles to avoid an anti-business image.

“We do so much to run out our businesses as a state,” Hime says. “You know, people want to have property that they can get leased and have tenants, and California spends a lot of time trying to convince tenants to leave California. So, it’s just another nail in the coffin.” ●


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