Localities Keep Eye on Property Tax Ruling
One thing on which most Californians can probably agree is that there isn’t much give remaining in the state’s system of public revenues. The sales tax rate in some counties approaches the level of a church tithe, our top income tax rate of 9.3% supposedly forces all our wealthy businesspersons to flee to Idaho, and people who question our property tax structure are hustled into the village square and clapped in the stocks. Don’t even talk to me about the car tax.
So it will be interesting to see how our leaders in Sacramento respond if an Orange County appeals court decides to hack $10 billion more out of the budgets of counties, cities and school districts.
Next week the court is scheduled to hear an appeal from a trial judge’s ruling that assessors in Orange County -- and by extension all 58 California counties -- have been up to something unconstitutional in the way they’ve been judging property values. The case at hand, a class action covering taxpayers in Orange County, was brought by Robert Pool, a Seal Beach homeowner and lawyer who discovered in 1998 that the county had raised the assessed value on his home by 4% over the year before -- twice the maximum inflation permitted by Proposition 13.
At the heart of the Pool case is a practice known as “recapture,” which comes into play when a property has been reassessed downward. Taxpayers customarily apply for these reassessments when their properties unexpectedly decline in value, as after a fire or natural disaster. When the structures are repaired or rebuilt, the assessments are restored to their original value, or more -- the original baseline assessment is “recaptured,” so to speak.
The collapse of the California property market in the early 1990s added another blight to the list. Homes, especially in Southern California, declined in value by half or more while a business recession cleared tenants out of skyscrapers and other commercial buildings. Thousands of property owners stranded with inflated assessed values applied for reductions based on market prices, encouraged by politicians such as former Los Angeles County Assessor Kenneth P. Hahn, who appeared on local television to urge homeowners to apply for reductions.
Assessors treated the market collapse the same way as any other disaster: as temporary. They awarded homeowners lower valuations because of the market slump, but they kept an eye on a figurative trend line starting with each property’s base value as defined by Proposition 13 -- either its 1975 assessed value or, if sold after 1978, the sale price -- and inflated it by the permissible 2% a year. When they judged that market prices had recovered enough to cross that trend line, they reassessed the property owner at the higher value.
Their argument is that while Proposition 13 limited annual increases in valuation to 2%, they’re permitted to bring their assessments up to the trend line whenever they believe market prices have recovered, the way an assessment can be restored on a fire-damaged home once it has been rebuilt. That might mean that a property owner sees a reduction or no increases for several years, followed by a big jump -- the assessors’ position is that the valuation would still be within the permissible trend.
That’s what happened to Pool. The assessed valuation of his Seal Beach house remained flat the year after he bought it in 1995. For 1997-98, however, the county assessor judged that the home had appreciated enough to absorb two years’ inflation, and hit him with a 4% increase.
Pool challenged the reassessment and won a refund of about $100. Things might have ended there, with assessors all over the state following their merry instincts, if Orange County had not decided to sue its own assessment appeals board, and Pool as well, over the issue.
As a dumb move, this might go down in state history next to the day that someone in the Gray Davis administration said, “Let’s raise the car tax -- no one ever even notices that!”
Even though he’s a property tax attorney by trade, Pool says he had no intention of making a further issue of the reassessment. “The county had a chance to let this die on the vine,” he told me. “But when they sued my wife and me, I decided I might as well make it interesting.” He won class certification covering all Orange County property owners in his situation. In April, Santa Ana Superior Court Judge John M. Watson ruled recapture a violation of Proposition 13.
Lobbyists for local government are plainly uneasy about the appellate hearing. “We see this as a real time bomb,” says Steve Szalay, executive director of the California State Assn. of Counties.
State tax authorities estimate that $10 billion in already-collected property taxes might have to be refunded if Watson’s ruling survives the appeals court and a further appeal to the state Supreme Court, all of which could take more than a year.
As has become customary with such disasters, the biggest hit would be suffered by local school boards, which receive 53 cents of every dollar collected in property tax statewide. (The actual percentage varies by county.)
The fiscal carnage produced by such a result would make the three-act comedy produced in Sacramento by Gov. Arnold Schwarzenegger’s $4-billion rollback of the car tax look like a three-minute blackout sketch.
Its only bright side would be that it would further underscore the absurdity of the state revenue system, in which taxes are collected at various governmental levels having no relationship to the levels at which they’re spent, and most of the state government’s spending is aimed at shoring up revenues lost to anti-tax fashions of the day. As readers might recall, during the recall campaign the financial wizard Warren E. Buffett was about to point out the shortcomings of these policies as they apply to the property tax, but his political sponsor, then-candidate Schwarzenegger, stuffed a sock in his mouth.
Szalay says attorneys for the local governments are confident that the appeals judges will uphold recapture, as state courts have done in numerous prior challenges, most of which were dismissed before trial. The municipalities’ position, as embodied in a joint friend-of-the-court brief filed by the county association and the League of California Cities, is that it’s unreasonable to assume that Proposition 13 or its cousin, 1978’s Proposition 8, require a taxable value to be based permanently on the lowest value a property reaches during ownership.
Recapture is well-established in state law and produces “reasonable results,” they say: “Taxpayers get a ‘break’ during those periods when events cause the value of their property to drop below the value at acquisition.” Any other interpretation would allow a homeowner in a fire or earthquake zone to pocket a long-term windfall from a temporary disaster by rebuilding a shack as a palace and paying a fraction of the fair tax burden.
But that confidence reminds me of the Monty Python bit where the grim reaper interrupts a high-toned dinner party. (“It’s a Mr. Death or somebody, he’s come about the reaping.” “Well, ask him in.”) If cities, counties and school districts were corporations, they’d be required to set aside a sizable portion of their liability as reserves. But they’re not, and nobody has that much cash to sequester in a reserve account anyway. “Assessors are doing their assessments, while the boards are spending money,” says Pat Leary, a tax and revenue policy expert at the association of counties.
The assessors say their policies have been backed by decades of interpretation by the state Board of Equalization and the Department of Finance, but there’s no guarantee that the courts won’t find that those agencies have habitually misapplied an ambiguous law.
For now, there isn’t anything the local and state governments can do but wait for the next ruling. They may have briefly considered writing a more precise policy into the revenue laws, but no one’s eager to bring tax policy before a restive California electorate at the moment.
“If you were going to clarify the law, you’d have to go back to the voters,” Leary says, “and why would you do that, unless you had to?”
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Golden State appears every Monday and Thursday. Michael Hiltzik can be reached at
