California Estate Plans and Property Tax Planning

With the 2016, large estate tax exemption of $5,450,000, most California estate plans now have no federal estate tax risks. But of increasing concern is how to avoid an increase in real property tax when California real property passes by gift or inheritance.

Under the general rule, the assessed value of California real property is changed when it transfers on death or by gift to the then fair market value, often resulting in a much larger property tax bill. Over time, those increases in property taxes can add up to a significant sum.

But special, protective rules apply to avoid an increase in California property taxes on property transfers in the following circumstances:

  • Between spouses or between registered domestic partners;
  • Of a person’s principal residence between parents and children (see below);
  • Of other California real property (in addition to the residence) up to $1,000,000 of assessed value  between parents and children (see below).

A California principal residence can pass between parent and child without a reassessment in property tax, provided proper forms are timely filed with the County Assessor.

In addition to the principal  residence, a parent can transfer up to $1,000,000 of assessed value (not fair market value) to the children—or a child can do the same to the parents. (Assessed value is the value described on the property tax bill, not to be confused with fair market value.) This $1,000,000 exclusion is for the combination of transfers both during life and at death.

For these purposes, “children” means natural children (so long as not adopted by another person), children who were minors at the date of adoption, and, subject to rules beyond the scope of this article, stepchildren, foster children, and the children of a deceased child. (See California Revenue and Taxation Code Section 63.1.(c)(3).)

Without proper planning, property taxes will be reassessed may increase if one child buys out his or her sibling at their parent’s death in order for one child to inherit the house (or other protected real property) with the other child receiving assets of equal value. Proper planning is required to avoid the problem of the County treating a transfer after death as being between siblings, rather than from parent to child.

Excluding the residence, once a parent transfers (combined in life and in inheritance after death) more than $1,000,000  in assessed value, then all transfers to children will be reassessed to fair market value, with property taxes based on those (usually higher) fair market values.

Therefore, it is important to review the assessed values of the real estate in an estate plan in deciding upon which children will receive the benefit of the $1,000,000 assessed value exclusion, which children will receive the residence, and which children will be “stuck” with an increased property tax bill upon inheritance. (Similar rules apply from child to parent.)

California real property taxes will be reassessed to the then fair market value on a gift or inheritance to siblings, cousins, more distant relatives, and friends.

Hence, California real property tax planning is an important part of an estate plan.

Copyright James J. Phillips 12/31/2016