By Lee Kaplan, Associate
(Editor’s Note: This article was originally published here by Multi-Housing News.)
It's called the "Mansion Tax," but commercial investors will feel it the most, according to attorney Lee Kaplan of Harvest LLP.
The future of new real estate transfer taxes scheduled to take effect in April 2023—which have been worrying investors and other owners of valuable property in the City of Los Angeles—has been called into question due to a legal challenge and a proposed State ballot initiative backed by major players in the California real estate industry.
In the November 2022 election, voters in the City of Los Angeles overwhelmingly approved ballot Measure ULA to enact new transfer taxes on properties valued over $5 million by a margin of 57.75 percent to 42.25 percent. Both the City and County of Los Angeles currently levy documentary transfer taxes on real property transactions at rates of $4.50 per $1,000 in value and $1.10 per $1,000 in value, respectively. The future of Measure ULA is now uncertain due to a lawsuit seeking its invalidation, and a proposed state ballot initiative that would increase the approval threshold for local tax initiatives.
The new transfer taxes approved by the voters are scheduled to take effect on April 1, 2023, adding an additional transfer tax of 4.4 percent of the value of any nonexempt property sold for more than $5 million but less than $10 million, and 5.5 percent of the value of any nonexempt property sold for $10 million or more. The new taxes are imposed upon transfer, meaning that transactions negotiated prior to the April 1, 2023, implementation date may still be subject to the new taxes if they close later than March 31, 2023. It is important to note that these new taxes on high value properties apply only within the City of Los Angeles, and not to properties located in other municipalities within Los Angeles County or in unincorporated areas. Measure ULA is expected to raise between $600 million and $1.1 billion annually to be used for affordable housing production and homelessness prevention initiatives.
Misleadingly referred to as the “mansion tax,” the measure’s provisions are not limited to “mansions” and apply to any nonexempt real property transaction that meets the qualifying value thresholds, including multifamily residential, commercial (i.e., office and retail), and industrial sales. In fact, the UCLA Lewis Center for Regional Policy Studies projects that fewer than 3 percent of transactions in the City of Los Angeles involving single-family homes or residential condominiums will be affected. The brunt of the measure’s impact is, therefore, likely to be felt by professional and institutional property owners and investors.
For such owners, and others holding high value property within the City of Los Angeles, Measure ULA could add significant new transaction costs to potential sales, which would likely incentivize some owners to continue holding properties they might otherwise put on the market. The measure could also potentially add to the challenges that Los Angeles property owners currently face in evicting problem tenants, given that a portion of the revenues raised by the new taxes will be dedicated to tenant protection programs, including eviction defense. A recent lawsuit, however, has created uncertainty regarding whether the measure will take effect at all.
Battle Lines Drawn
The Howard Jarvis Taxpayers Association and the Apartment Association of Greater Los Angeles recently filed suit to invalidate Measure ULA. The plaintiffs argue that because funds raised by Measure ULA are specifically dedicated to housing and homelessness initiatives, the measure qualifies as a “special tax.” They further assert that Article XIII A, Section 4 of the California Constitution (commonly known as Proposition 13) prohibits local governments (including charter cities like Los Angeles) from imposing special taxes, rendering the measure unconstitutional and violative of Los Angeles’ own City Charter. Backers of Measure ULA argue that the State Constitution and City Charter should be interpreted to allow special taxes that are approved by voters through local ballot initiatives.
The new lawsuit raises questions regarding whether the City will be able to implement the new transfer taxes by April as planned, or whether the taxes will be upheld at all. But even if the new taxes are upheld, they could be short-lived. A proposed state ballot initiative backed by Kilroy Realty seeks to impose a requirement that any local tax increases proposed by ballot initiative receive the approval of two-thirds of voters rather than a simple majority. The proposed state measure would apply retroactively to taxes imposed between January 2022 and November 2024—and would, therefore, invalidate Measure ULA, which failed to reach the two-thirds threshold.
Assuming that Measure ULA is upheld and not invalidated by the proposed state initiative, the impact that it will have on the overall real estate market in Los Angeles, and the extent to which its costs will be passed on to tenants in the form of rent increases are unclear at this time. It remains to be seen whether the measure will appreciably reduce homelessness in Los Angeles, and, if so, whether its benefits will outweigh the potential chilling impact it may have on property sales or the costs that could be passed on to tenants.
Lee Kaplan is an associate at Harvest LLP, a commercial real estate firm with offices in Los Angeles, San Diego, San Bernardino, Boston and New York.