Will California Prop. 15 Affect Commercial Property Values?

On Nov. 3, 2020, voters will decide about the California Schools and Local Community Funding Act, which will end Prop 13 protection for most of California’s commercial real estate. 

 This voter initiative, if passed, will require all California commercial real estate — with some exceptions — to be assessed at current market value.

 This means industrial and commercial properties, except the ones zoned as commercial agriculture, will be taxed based on their fair market value. This proposal to assess taxes on industrial and commercial properties at market value, while at the same time assessing taxes on residential properties based on the purchase price, is called a split roll. The change from the purchase price to the current market value will become effective at the beginning of the fiscal year 2022-2023.

 How it Will Work 

Most industrial and commercial real property will be assessed at current fair market value rather than being based on acquisition value. Industrial and commercial real property is defined as any real property that is used as industrial or commercial property, or vacant land not intended for residential use or for commercial agricultural production.

The following exclusions apply: (a) residential property, (b) mixed use property at least to the extent of its residential portion, and (c) small value properties (under certain criteria). Also, properties that are already exempt from real property tax, such as libraries, museums, and government-owned property – will be excluded. The act also makes it very clear that Prop 13 treatment will be unchanged for residential property.

Regardless of the benefits of the act, it will come at a heavy cost, and it will, unfortunately, not be borne just by the commercial real estate owners. The businesses that occupy the commercial property and their customers will, one way or another, also have to pay the property tax increase since most commercial real estate leases have clauses where a tenant is responsible for the increase in property tax.

So businesses will feel the negative effects, and of course, they will have to do what they can to adjust – which may mean closures, less wages, fewer employees, less rented space, higher prices, etc. It could also make some companies decide to relocate out of state.   To try to keep these companies here, landlords may have to reduce their rent, which in turn will dramatically reduce the value of their properties, causing major issues with commercial loan refinances (most commercial loans have balloon payments in ten years) and possibly large amounts of foreclosures.  If numerous enough, these foreclosures may affect the banking industry, much as they did during the Savings and Loan Crisis in the 1990s.

If there’s one advantage to this, it’s that any disruption also creates an opportunity for smart investors to take advantage. For example, since commercial property could become less valuable overnight, residential property can become more attractive.

For now, strong forces are supporting the act. And strong forces will almost certainly resist against it, since some very big companies have a lot of money at stake.

Do you need help understanding what this new act means for you? For more information, you can reach us at info@cbi-commercial.com.