California, the land of high taxes, has just proposed an additional tax for homeowners and investors.
Assembly member Chris Ward (San Diego) has introduced the California Speculation Act (AB 1771). If passed, this act would add up to an additional 25% tax on the capital gain from the sale OR exchange of residential properties within seven years of its initial purchase.
Why is this act being introduced?
It’s no secret that the affordability of real estate is very low when compared to the rest of the country. According to US News, California ranks 49th out of 50 states on the affordability index. However, housing inventory is low and home values keep rising. For those families and workers who don’t make multiple 6 figure salaries, it’s becoming extremely difficult to afford to live in California. This has been a problem for Californians for decades.
According to Assembly member Ward, institutional investors are to blame and have become the basis of this act. Ward believes institutional investors are buying homes in multiples, fixing them up, and then selling those same homes shortly afterwards at significantly inflated prices.
This isn’t a false statement, there are many corporate investors and syndication groups that flip real estate for profits. But, it doesn’t seem to necessarily be the entirety of the cause for unaffordable housing in the state.
What’s does this act propose?
There are a few different layers and components to this proposed act. So, the easiest way to understand it is by highlighting the components in the following bullets:
Any homeowner or investor selling their home within 3 years could be taxed up to 25% on the capital gain
After 3 years and up to 7 years, the tax reduces by 5% until the full 7 years has passed
The taxes collected from this act would be allocated to community investment, with 30% of the taxes collected designated for affordable housing
The tax applies to all “qualified taxpayers”
Who is exempt from this additional tax?
The act applies to all “qualified taxpayers”, but it’s important to know the list of non-qualified taxpayers, or those who are completely exempt from this additional capital gains tax.
Active duty military personnel
Property sold or exchanged due to the death of the homeowner
Is this solving the problem at hand?
This is the really big question here. The fact is, “qualified taxpayers”, who this act applies to, is really the vast majority of California homeowners.
There are many scenarios and situations that are not addressed by the act.
What if a homeowner sells their house within 7 years due to a job change?
What if the homeowner sells their home due to an illness or death in the family?
What if the homeowner found out after purchase that the neighborhood was not safe?
What if the homeowner was no longer able to afford the mortgage so they sold the home?
What if the homeowner wanted to capitalize on recent gains in the property? Is that wrong?
This list of “what-ifs” could go on and on…
Let me suggest that perhaps the real culprit might be the lack of inventory of homes for sale? California has extremely low available housing inventory, even when compared to recent history.
In addition, the state has been falling short of the needed housing builds per year by about half. To help alleviate housing price increases, there needs to be more homes being built to increase the amount of homes to go around for those looking to purchase. With low inventory, we start to see the bidding wars and multiple offers per home on the market. New housing builds will help to decrease those bidding wars because there would be enough homes to go around.
Bottom Line:
If this act is passed by a 2/3 vote on April 25th, this act would be effective starting January 1st, 2023.
Clearly, if you own a home or investment property in the state of California, this 7 year rule could add to your overall tax hit on the property. Be mindful when buying property in the state to be confident that you can be a very long-term homeowner.
It’s also important to monitor for other low inventory, high home value states. States like Hawaii, New York, and Colorado may be looking to see if they should implement a similar proposal.
As you can see, the aftermath of a passed CA Speculation Act could be much more widespread.
Disclosures: Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual. The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful. This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor.