The children (and aunts, uncles and second cousins) of Prop. 13

It must have seemed like 1978 all over again. Property taxes on Lorraine Steinhart’s Sherman Oaks home were a manageable $1,105.79 in 2000, then nearly quintupled the next year to $5,492. Quite a jump for a 73-year-old retiree.

Tax shocks like that are what moved Californians overwhelmingly to adopt Proposition 13, the landmark initiative that capped property taxes at 1% of the assessed value at the time the property was acquired (or as of 1975, for people who already owned their homes) and limited annual increases to 2%. Before Prop. 13, an unexpected jump in real estate prices was a mixed blessing. Sure, homeowners could make a mint by selling but, in the meantime, the rise in their homes’ value meant an often unexpected and unmanageable increase in property taxes. It was especially rough on seniors who lived on fixed incomes. A five-fold jolt of the kind Steinhart faced could have literally taxed them out of their homes.

But Prop. 13 was more than two decades old in 2001, when Steinhart got walloped over her special circumstances. At issue is a difference of opinion ostensibly between her and Los Angeles County Tax Assessor Rick Auerbach — but more globally between taxpayer advocates and tax-starved local governments, and between Prop. 13 hard-liners and would-be reformers — over the key definition of a “change in ownership.” Under the initiative, taxable value is recalibrated when ownership changes in order to take into account the property’s rising value. That makes it possible for identical homes on the same street to be taxed at drastically different rates, depending on when the ownership last changed. You may have to pay $10,000 in property taxes on the million-dollar house you bought this year, while I pay only $1,000 or so on its twin next door because I bought it years ago when it was worth about $90,000.

So did ownership change when the house passed to Steinhart from her sister under terms of a trust? Steinhart said no, and a state appeals court sided with her on Sept. 28. Last Tuesday, the county Board of Supervisors voted to seek state Supreme Court review [see last page of document]. The justices must decide whether to consider the case or let things stand as they are.

The dispute is not some ultimate judicial showdown over Prop. 13 — opponents already lost that one in the 1992 U.S. Supreme Court case of Nordlinger v. Hahn. It is, rather, part of a continuing dialogue, sometimes civil, sometimes otherwise, about the property tax revolt and whether it could and should be expanded or whether, and how, it could be partly rolled back.

The crux of the Steinhart case is that she didn’t own her house in fee simple — legal real estate terminology for absolutely and completely. Her sister, Esther Helfrick, transferred her house to a living trust and specified that on her death, Steinhart would have the right to live there for the rest of her life.

The house was assessed for tax purposes at a value of $96,638 in 2001, when Helfrick died. Auerbach considered Steinhart’s accession to the property a change in ownership and reassessed it at $499,000 — not at all surprising, given the Southern California real estate market, even in those dot.com-bust years.

Steinhart paid what she was billed but filed a claim for a refund, asserting no change in ownership had taken place because she didn’t really own the property. She had a life estate only, she argued, and could not sell or otherwise recoup the value of a full ownership interest in the home. The county rejected her claim, and two years ago Steinhart filed suit.

An aside here: California law contains special exemptions that allow some people to transfer property to others without it being considered a change in ownership for property tax purposes. Start with spouses: a wife could transfer her house to her husband, or more commonly, transfer the house she owns separately to herself and her husband jointly, without it being revalued. Not much controversy there. Californians would not want to punish spouses for transferring property between them, even — perhaps especially — in a divorce proceeding.

But California recognizes domestic partnerships, so shouldn’t the exemption apply to those couples as well? As of 2006, it does. Gov. Arnold Schwarzenegger signed into law Senate Bill 565 by Carol Migden, treating domestic partners who registered with the secretary of state as though they were married for purposes of Prop. 13.

Can the Legislature even do that? County assessors, seeing the loss of even more tax money, sued the state Board of Equalization for adopting a rule that was the forerunner of Migden’s measure. The 3RD District Court of Appeal upheld the rule and the law on Oct. 2.

So if there are exemptions for married couples (and now for domestic partners), should the same principle apply to transfers of property from a parent to a child? How about from a child to a parent? California voters thought so in 1986, when they approved Proposition 58. The parent-child exclusion was a huge expansion of Prop. 13 although it applies only to property used as a principal residence. Other property gets the parent-child exclusion only up to the first million dollars in value.

What if the child died and the grandparent wants to will the house to his or her grandchild? Shouldn’t the grandchild get the special exclusion that children get? That made sense to California voters in 1996, when they passed Proposition 59.

How about foster children? Don’t they count? They do now. Schwarzenegger just signed into law Assembly Bill 402, which extends the parent-child exemption to foster children.

But think of those children, grandchildren and foster children, stuck in their parents’ houses for decades, unable to move without losing the very valuable benefit of a 1975 valuation for tax purposes. When they get old, shouldn’t they be able to move out and take their 30-year-old valuation with them, and apply it to their new property?

Could never happen, you say. Which means you must not have been around in 1986 to vote yes on Proposition 60. That measure allows a homeowner 55 or older to sell his or her principal residence and buy a new one of equal or lesser market value in the same county within two years, and be treated (for property tax purposes) as though there was never any sale. Of course, you can only use this exclusion once. Unless you later become severely and permanently disabled, in which case you can use it a second time.

But wait. To get the tax break you have to be stuck in the same county forever? Not fair! What if you’re in Modoc County, which is really small, and you want to live near the kids in Orange County? Shouldn’t you be able to do that and still pay taxes as if you’re living in a house you bought in 1975? Yes! Voters in 1988 passed Proposition 90, which extends the value transfer to sales in counties that adopt implementing ordinances.

Each extension of Prop. 13 makes a certain amount of sense, but in their aggregate they form a continuing nightmare for county tax assessors. Hard-line Prop. 13 defenders claim the law is under constant assault from people who would chip away at it through reforms like a split roll, which would reassess commercial property separately under the theory that businesses and investors weren’t meant to enjoy the same tax protections as aging homeowners. In fact, voters, the Legislature and the courts are moving in the other direction, expanding property tax protections and exemptions. Good thing for county assessors that there’s no special exemption for siblings — yet.

That leads us back to Lorraine Steinhart, whose case may be heading to the state Supreme Court. With no sibling exemption, Steinhart must rely on her claim that the life estate she was left by her sister was not a change in ownership.

Drafters of Prop. 13 didn’t define “change in ownership,” leaving the niceties and nuances to the Legislature and the courts. The Revenue and Tax Code specifies that ownership changes when a life estate terminates, but doesn’t change when it is granted — if the person granting it gets the property back when the estate is ended. But it doesn’t cover Steinhart’s situation — she was still living, but her sister was gone and wouldn’t be getting back the property on Steinhart’s death. The key question is whether the value of the life estate would be equivalent to the full value of the property.

Since 1979, California’s elected tax appeals board, the Board of Equalization, has treated grants of life estates as changes of ownership. Last February, the board voted to file an amicus brief supporting Auerbach, the Los Angeles county assessor, against Steinhart.

In its ruling, the Court of Appeal called Steinhart’s legal interest in her home sufficiently “ephemeral” that she cannot be deemed an owner. It remains to be seen whether the Supreme Court will agree — or whether the Legislature, or voters, will extend the growing body of transfer exemptions to life estates. Or to sisters.