Proposition 13 and Gallagher Amendment

Two states have propositions on their 2020 November ballots that would have major impact on property tax assessments.

California – Proposition 13

Currently in California, real estate tax assessments can only increase a maximum of 2% year over year due to Proposition 13 which was originally passed in 1978. In the upcoming election, there is a vote to amend Proposition 13.

The potential amendment would divide real estate into two categories, “Exempt” and “Non-exempt”. Exempt properties would include all residential properties including multi-family. It would also include properties whose owners have less than $3 million of assets in California. Non-exempt properties would essentially be every other property type, effectively all commercial and land.

The property tax policy would remain “as is” for all exempt properties. However, for non-exempt properties, assessments would gradually increase over the next few years to get to market level assessments. From that point on, assessors would effectively maintain the assessments at market levels.

Effectively this places increased burden on commercial real estate owners. These increased expenses would eventually flow down to tenants in the form of increased rents and/or reimbursements.

As local municipalities and the state government are clamoring for additional funds due to COVID, this is a way for them to achieve that. Additionally, it should not affect homeowners and small businesses in the short run. For this reason, there is a good chance that the amendment passes.

If the amendment passes, values of commercial real estate will immediately lower due to the higher operating expenses and resulting lowered NOI’s.

Colorado – Amendment B, Gallagher Amendment Repeal

The Gallagher amendment, enacted in 1982, limited residential property in the state to 45% of the statewide property tax base. To ensure this, the state applies different taxing ratios each year to residential and commercial properties.

Originally in the early 1980’s, commercial properties were assessed at 29% of actual value, and residential properties were assessed at 21%. Although commercial properties are still assessed at the 29% mark, residential properties are now assessed at only 7%.

This has led to some unintended consequences. First, residentially dominated areas are underfunded. These are the same areas that need local governmental services such as schools, fire, police, etc. Second, it has stunted commercial real estate development as owners/developers are facing larger and larger tax bills.

Amendment B faces an uphill battle since this effectively will increase residential owner’s tax burden. Rarely do similar proposals pass. Nonetheless, at some point in the future, the bubble will burst. The current trend of commercial properties taking on most of the burden is untenable and bad for the overall economy.

Contact Info

To learn more about how upcoming changes in property tax laws can affect your investing strategies, please reach out to Tim Feagans directly at tim.feagans@retcgroup.com.