BILL ANALYSIS AB 2492 Page 1 ASSEMBLY THIRD READING AB 2492 (Ammiano) As Amended May 18, 2010 2/3 vote. Tax levy. REVENUE & TAXATION 6-3 APPROPRIATIONS 9-4 ----------------------------------------------------------------- |Ayes:|Portantino, Beall, |Ayes:|Fuentes, Ammiano, | | |Charles Calderon, Coto, | |Bradford, | | |Fuentes, Ma | |Charles Calderon, Coto, | | | | |De Leon, Hall, Skinner, | | | | |Torlakson | | | | | | |-----+--------------------------+-----+--------------------------| |Nays:|DeVore, Harkey, Nestande |Nays:|Conway, Harkey, Miller, | | | | |Nielsen | ----------------------------------------------------------------- SUMMARY : Revises the circumstances under which a "change in ownership" of real property owned by a legal entity is deemed to occur. Specifically, this bill : 1)Provides that, when 100% of the ownership interests in a legal entity are sold or transferred in a single transaction, the purchase or transfer of that interest is considered to be a "change of ownership" of the real property owned by the entity, thus, triggering a reassessment of the property for tax purposes. 2)Specifies that a "sale or transfer" of ownership interests in a legal entity means a merger, acquisition, private equity buyout, transfer of partnership shares, or any other means by which a legal entity or person acquires the ownership interest of another legal entity, including the subsidiaries or affiliates of the legal entity and the property owned by those subsidiaries and affiliates. 3)States that a purchase or transfer of 100% of the ownership interests in a legal entity is considered to be a "change of ownership" of the real property owned by that entity, whether or not any one legal entity or a person that is a party to the transaction acquires more than 50% of the ownership interests. AB 2492 Page 2 4)Exempts a sale or transfer of ownership interests between parents and their children, as well as between grandparents and their grandchildren. 5)Defines the term "legal entity" as a corporation, a partnership, a limited liability company, or other legal entity. 6)Defines the phrase "ownership interests" as corporate voting stock, partnership capital and profits interests, limited liability company membership interests, and other ownership interests in legal entities. 7)Defines the phrase a "single transaction" as a transaction in which 100% of the ownership interests are sold or transferred in either one calendar year or within a three-year period beginning on the date of the original transaction when any percentage of ownership interests are sold or transferred. 8)Requires a person or legal entity acquiring the ownership interests in a legal entity, when 100% of the ownership interests in the legal entity are sold or transferred, to file a change in ownership statement, signed under penalty of perjury, with the State Board of Equalization (BOE). 9)Requires the BOE to notify assessors when such a change in ownership has occurred. 10)Increases the penalties for failure to file a change in ownership statement from 10% to 20%. 11)Requires the BOE to prescribe regulations that may be necessary to carry out the purposes of this bill. 12)Contains a statement of legislative intent to specify circumstances under which real property owned by banks and financial institutions, which have been acquired by other financial institutions, undergo a "change in ownership." 13)Imposes a state-mandated local program but provides that no reimbursement is required, as specified. 14)Takes effect immediately as a tax levy. AB 2492 Page 3 FISCAL EFFECT : 1)The BOE estimates that this bill would result in change-of-ownership related increases in property tax assessments totaling $21 million per year. Over time, the effects would be cumulative, potentially increasing property tax collections by the low hundreds of millions of dollars per year. 2)About 40% of added property tax revenues would be allocated to school districts. Under Proposition 98, increased local revenues to schools translates into a corresponding reduction on General Fund spending for this purpose. COMMENTS : The author states that, "The current system for assessing and taxing commercial and industrial property in California is riddled with loopholes. The current system provides property owners with innumerable ways to structure change of ownership transactions to avoid paying higher taxes. The system allows billions of dollars of valuable business property to be vastly under assessed, creates great differences in taxes paid among property owners, resulting in inadequate funding of local governments, schools and infrastructure projects. "Current law requires that commercial properties be taxed on their full market value if a 'change of ownership' occurs. 'A change of ownership' triggers reassessment of property for property tax purposes. However, current law says that a 'change of ownership' does not occur unless one owner acquires more than 50% of a property. Unfortunately, loopholes in existing law have not triggered reassessment, in some cases, even if 100% of property has changed hands. "Commercial property is held in many complex ways - limited liability corporations, limited partnerships, real estate investment trusts, family trusts, publicly traded corporations, etc. It is often difficult to identify a 'change of ownership' under current law, and very easy to avoid a 'change of ownership' even when a sale occurs that should trigger a reassessment. "In 2008, as the nation became consumed by the worst economic recession in history - caused in no small part by the collapse AB 2492 Page 4 of the mortgage lending industry - and as 'too big to fail' businesses clearly began to fail, many of the smaller lending institutions were acquired by the larger national and international financial institutions. However, it is still unclear if any of the California assets acquired in these mergers have been reassessed even though it is reasonable to assume that 100% of ownership has changed hands. "AB 2492 begins the process of major property tax reform by closing the most obvious and egregious loopholes in property tax law by requiring that where 100% of a company changes ownership, from bank mergers and private equity buyouts, the property held by that company and its subsidiaries and affiliates must be reassessed, no matter how many purchasers take ownership of the property." Arguments in support and opposition: The proponents argue that this bill is necessary to close the major loophole in the tax system that allows an avoidance of property reassessment even where 100% of a business entity changes ownership. The opponents, however, argue that the increase in the property taxes paid by the affected entities will result in higher prices for goods and services, a reduction in California's competitiveness, a decrease in profits to owners and investors, and lower wages for employees, and will overall harm the California economy. Background. The property tax applies to all classes of property and is one of the major general revenue sources for local governments in California. It is imposed on the property owners and is based on the value of the property. Much of the law pertaining to taxation of property is prescribed by the California Constitution, Article XIII and Article XIII A. Since the adoption of Proposition 13 in 1978, real property has, generally, been taxed based on its value at the time of its acquisition, with increases for inflation limited to 2% per year. Once the ownership of property is changed, the value of the property is re-determined based on the current market value. While the requirement to reassess property upon a change in ownership is contained in the California Constitution, the phrase "change in ownership" is not defined. Shortly after the passage of Proposition 13, this Committee appointed a special Task Force - a broad-based 35-member panel AB 2492 Page 5 that included legislative and BOE staff, county assessors, attorneys in the public and private sectors, and trade associations - to recommend the statutory implementation for Proposition 13, including the "change in ownership" provisions. With respect to a transfer of ownership interest in a legal entity that owns real property, the Task Force initially recommended adopting the "separate entity" theory that respects the separate identity of the legal entity. According to this theory, so long as the legal entity owned the property, the property will not be reassessed, even if most or all of the ownership interests in the entity, i.e. stock or partnership interests, had been transferred. The Task Force recommended the "separate entity" approach because of the perceived administrative and enforcements problems with disregarding the separate identity of a legal entity and the unpredictable ripple effects of ignoring the general separate entity laws. However, subsequently, the "majority-takeover-of-corporate stock" provision was added "out of a concern that, given the lower turnover rate of corporate property, mergers or other transfer of majority controlling ownership should result in a reappraisal of the corporation's property - an effort to maintain some parity with the increasing relative tax burden of residential property statewide, due to more rapid turnover of homes." (Implementation of Proposition 13, Volume 1, Property Tax Assessment, a report prepared by the Assembly Revenue and Taxation Committee, California State Assembly Publication 748, October 29, 1979). Thus, the law was amended to provide that, whenever any person or entity has purchased or otherwise acquired more than 50% ownership of a corporation or other legal entity, any real property owned by the acquired entity must be reappraised to full market value. It should be noted that, while the Task Force, in order to mitigate administrative difficulties, recommended the "separate entity" approach for determining when a change in ownership of real property occurs, it was concerned with the fact that commercial and industrial properties change ownership less frequently than residential property and proposed that the Legislature study the idea of a constitutional amendment to appraise commercial and industrial property periodically at current market value. Is There a Problem With the Existing "Change of Ownership" AB 2492 Page 6 Definition? The current system provides property owners with several ways to structure "change in ownership" transactions to avoid paying higher property taxes and allows purchasers to avoid reassessment even if 100% of a company changes hands. A business may avoid a major reappraisal of the property of an acquired entity by simply structuring the acquisition in a way that prevents any of the separate purchasers from receiving more than 50% ownership in the acquired entity. Thus, if multiple individuals or entities acquire another entity, in a single transaction, but none of the purchasers acquires more than 50% interest in the entity, then a reappraisal of the property held by the acquired entity is not required. The statutory provisions implementing Proposition 13 were intended to ensure that, when an entity or person acquires a business entity, a reassessment of the acquired entity's real property is triggered, especially in cases when 100% of ownership has changed. It is unlikely that the idea of enabling multiple, affiliated purchasers of a corporation, each acquiring less than a 50% ownership interest, to completely avoid a reappraisal of the corporation's underlying property was contemplated by the voters when approving Proposition 13, or by the Legislature when enacting R&TC Section 64 that sets forth the definition of "change in ownership." The Proposed Solution. According to the sponsor, this bill is designed to close this obvious and egregious loophole in the law by providing that, when 100% of the ownership interests in a legal entity holding real property are sold or transferred in a single transaction, the property must be reassessed, no matter how many purchasers take ownership of the entity and regardless of whether any one legal entity acquires more than 50% of the ownership interest. Under current law, only if a particular transaction results in a change in control of a legal entity (i.e. one legal entity or individual acquires more than half of the ownership interest in the legal entity) would the property owned by that legal entity be subject to reassessment. Analysis Prepared by : Oksana Jaffe / REV. & TAX. / (916) 319-2098 FN: 0004907