Real Estate purchase question RE: tax basis

[IBWino]

My mother in-law is trying to relocate to be closer to us and has made a cash offer for a house. She raised an interesting question regarding the determination of tax basis for this home that I wasn't sure how to answer. The two scenarios are:

A) The seller pays the real estate agent's commission. For example, if the buyer pays $600K for the home, then I think the property tax basis would be $600K, because the commission comes out of the seller's proceeds. In this case, if the commission is 5%, the seller would net $570K.

B) The buyer pays the real estate agent's commission. In this case, the seller agrees to take $570K for the same home, and the buyer agrees to pay the real estate agent a commission of $30K. In this case, the buyer still pays $600K total, but wouldn't the property tax basis be $570K?

She plans to consult her attorney, but I thought it was interesting and was curious if anyone here had any experience or opinions regarding this.

Regards,
Wino

 

[Taxman59]

B) The buyer pays the real estate agent's commission. In this case, the seller agrees to take $570K for the same home, and the buyer agrees to pay the real estate agent a commission of $30K. In this case, the buyer still pays $600K total, but wouldn't the property tax basis be $570K?

She plans to consult her attorney, but I thought it was interesting and was curious if anyone here had any experience or opinions regarding this.

No, your Mother paid $570 plus $30k for the home, so her tax basis is $500k in either case. The $30 k is a cost to acquire and as such is added to the $570 paid to the Seller.

 

[RoyDornoch]

Your mom's acquisition costs (legal fees, brokerage fees, recording fees, transfers tax if applicable, etc.) are added to the purchase price to form the basis. So, it doesn't matter which party pay them from that perspective. However, depending on your state, it may affect your new assessed value for real estate taxes (in a positive way) if your purchase price is $570k rather than $600k. Another sub-issue is whether it is your broker that you are paying (which is not consideration paid to the seller) or the selller's broker (which is consideration to the broker and which some takes require be disclosed in an affidavit of total consideration paid to the seller). It is advisable to ask a local lawyer or other professional knowledgeable as to local law. Finally, if furnishing are included some folks purchase these "outside" of the real estate transaction so as not to include that added value in the new assessment.

 

[IBWino]

Thanks for the responses.

The home in question is in California, which currently doesn't tax services. I understand that the commission might be considered taxable income for the seller, but I don't understand why it would be included in the property tax assessment. It's a service and not directly part of the property.

-Wino

 

[Another Reader]

The assessor is going to look at the stated purchase price on the PCOR (preliminary change in ownership report) submitted at the time the deed is recorded. That will likely show the same price as the stamps show. If there is no notation about buyer-paid commission, the rebuttable presumption is the stated purchase price represents market value. The assessor would have to show the $570k is significantly different that market value to enroll a different assessed value.

 

[CaliKid]

Thanks for the responses.

The home in question is in California, which currently doesn't tax services. I understand that the commission might be considered taxable income for the seller, but I don't understand why it would be included in the property tax assessment. It's a service and not directly part of the property.

-Wino

I think people above were giving you info about income tax basis and you, I believe, are asking about property tax assessment. I think it is very likely the assessor will pick up the $570k number and that will be the prop 13 baselline. Is what it is.

The commission would be taxable income to the Realtor.

California does not have a sales tax on services.

We thus are talking about income taxes (capital gains tax), property taxes, income taxes (realtor) and sales tax. Hopefully your MIL doesn't have over $5.45m because then could be some estate tax too!

 

[IBWino]

Another Reader,
Thanks. FYI, I also ran across IRS publication 551 that states that settlement costs including sales commission are included in the basis. My guess is that California probably follows this for property tax assessments.

Thanks to everyone for taking time to comment.

Regards,
Wino

 

[IBWino]

Hi CaliKid,
Yes, you are correct. I'm referring to the basis used for property taxes, and not the basis for future capital gains taxes.

So you think it is possible that the commission would not be included in the basis for property taxes? So far, I haven't been able to determine this definitively through my various internet searches.

Regards,
Wino

 

[Another Reader]

The commission will not likely be included in the base year value if it is not explicitly stated on the PCOR. The assessor will not know about the commission arrangements otherwise. What the IRS does is not relevant.

 

[pb4uski]

I'm not so sure that your structuring will sidestep the appraisal like you are hoping for. If the property tax appraiser has knowledge of the $30k they would likely adjust the value to $600k... the sales price is what the seller received and they received $570k in cash and the seller received the benefit of the buyer paying the seller's obligation to the real estate agent of $30k.

Now I'll concede that the way you are structuring the transaction the assessor may not know about the $30k so you may get away with it, but if they do find out about it they will likely include it in the appraised value.

I'm guessing that you are not the first to try this dodge.

 

[Another Reader]

Here's a recent version of the PCOR from the Contra Costa County website. It's a state prescribed document. It looks like it has been modified since last I looked at one.

http://ca-contracostacounty.civicplus.com/DocumentCenter/Home/View/27019

 

[rodi]

My stepmom was in a similar situation when she sold her place to move to an independent/assisted living community. The buyer (over age 55) needed to keep the sales price under the sales price of the home she was selling - because she wanted to transfer her prop13 tax rates. (The buyer was moving to the area to care for her mother who lived a few blocks away.) This price was close - but lower than my stepmom wanted... But the buyer offered to pay the realtor fees, the taxes/transfer fees, etc... My stepmom netted the price she wanted - and the buyer was able to transfer her historic tax rate.

 

[pb4uski]

Here's a recent version of the PCOR from the Contra Costa County website. It's a state prescribed document. It looks like it has been modified since last I looked at one.

http://ca-contracostacounty.civicplus.com/DocumentCenter/Home/View/27019

If the buyer fills it out correctly then they will know about the $30k.

PART 3. PURCHASE PRICE AND TERMS OF SALE
Amount, if any, of real estate commission fees paid by the buyer which are not included in the purchase price

 

[Another Reader]

The information provided to the assessor on residential sales is the amount of the transfer tax from the deed and the PCOR. The PCOR form is a lot more detailed than it used to be 10 or 15 years ago, probably because of this exact issue. Lots of abuse likely in Prop 60/90 base year value transfers, as in the case Rodi described.

 

[CaliKid]

Hi CaliKid,
Yes, you are correct. I'm referring to the basis used for property taxes, and not the basis for future capital gains taxes.

So you think it is possible that the commission would not be included in the basis for property taxes? So far, I haven't been able to determine this definitively through my various internet searches.

Regards,
Wino

I do not know what the tax assessor will do but my point is they will or they won't and you pay it if they do. Not a big deal.

 

[IBWino]

My stepmom was in a similar situation when she sold her place to move to an independent/assisted living community. The buyer (over age 55) needed to keep the sales price under the sales price of the home she was selling - because she wanted to transfer her prop13 tax rates. (The buyer was moving to the area to care for her mother who lived a few blocks away.) This price was close - but lower than my stepmom wanted... But the buyer offered to pay the realtor fees, the taxes/transfer fees, etc... My stepmom netted the price she wanted - and the buyer was able to transfer her historic tax rate.

This is a similar situation. My mother in-law is 80 and fairly frail, so she is trying to relocate closer to make it easier for us to help her. She's owned her existing home for more that 30 years, so the property taxes on it are fairly low. It was appraised at slightly more than the home she wants to purchase, but she won't be ready to put it on the market for a few more months.

The thought was that she might offer to pay a lower price plus the commission for the new property, and thus lower its property tax basis. This would reduce the risk that her current property sells for less than the new property, which would disallow the property tax basis transfer.

I decided to call the county assessor and pose the above scenario. She was very nice, but basically stated that the property's assessed value was based on market conditions for the area and independent of the actual sales price, commissions, etc. She said that in some cases the actual assessment could be higher than the purchase price, and for us to not rely on that as the basis.

Thanks again for all of the comments and opinions.

Regards,
Wino

 

[IBWino]

If the buyer fills it out correctly then they will know about the $30k.

I just check our county's PCOR, and it is identical, so you're right, they will know about it.

If her current property sells for less than the new property, her property taxes would increase from approximately $1000/yr to $6000/yr. She's on a fixed income, but she thinks she can still afford the higher tax rate, so it's probably not a show-stopper.

-Wino

 

[Another Reader]

Is your MIL moving within the same county (Prop 60) or between counties (Prop 90)? Prop 90 only applies to a few counties, as participation is optional for the receiving county. I assume you have already verified the applicability if MIL is moving from another county.

What the staff member told you was a CYA for those few situations where the stated purchase price is not accepted as fair market value. Unless things have changed recently, the Revenue and Taxation Code states there is a rebuttable presumption that the purchase price is the fair market value for a residential property that transfers in an arms length, open market transaction. Tough to rebut the presumption and IIRC the difference has to be more than a certain percentage.

The reality is that in most assessor's offices, the purchase price of residential properties is automatically enrolled. Only a small percentage of sales ever land on an appraiser's desk. The purpose of the PCOR is to verify the actual purchase price and determine if a review by an appraiser is needed.

 

[Another Reader]

One more thing to consider. If she sells first, her purchase price can be higher by up to 5 percent the first year after the sale and 10 percent during the second year. Escrow has to close within two years for the base year value transfer to apply.

 

[IBWino]

Is your MIL moving within the same county (Prop 60) or between counties (Prop 90)? Prop 90 only applies to a few counties, as participation is optional for the receiving county. I assume you have already verified the applicability if MIL is moving from another county.

What the staff member told you was a CYA for those few situations where the stated purchase price is not accepted as fair market value. Unless things have changed recently, the Revenue and Taxation Code states there is a rebuttable presumption that the purchase price is the fair market value for a residential property that transfers in an arms length, open market transaction. Tough to rebut the presumption and IIRC the difference has to be more than a certain percentage.

The reality is that in most assessor's offices, the purchase price of residential properties is automatically enrolled. Only a small percentage of sales ever land on an appraiser's desk. The purpose of the PCOR is to verify the actual purchase price and determine if a review by an appraiser is needed.

Thanks, that makes a lot of sense. The new property is in the same county, 30 miles closer to us than her current residence, and actually on the same city block as our house. This is the main reason she wants to buy it now. Not many homes in her price range have appeared on the market in our immediate neighborhood.

I agree with your comments regarding fair market value. The new house is in good shape, but it needs exterior painting, and possibly a new roof within the next few years.

Regards,
Wino

 

[IBWino]

One more thing to consider. If she sells first, her purchase price can be higher by up to 5 percent the first year after the sale and 10 percent during the second year. Escrow has to close within two years for the base year value transfer to apply.

That's good to know, but as I mentioned above, it's a rare opportunity to get her close to us (within walking distance) and it seems too good to pass up. Having her that close would greatly improve her's and our circumstances. She's mentally very sharp and strong willed, but physically frail and may not be able to drive soon. As it is, my wife already takes her to do most of her shopping, doctor's appointments, etc.

Best Regards,
Wino

 

[pb4uski]

....If her current property sells for less than the new property, her property taxes would increase from approximately $1000/yr to $6000/yr. She's on a fixed income, but she thinks she can still afford the higher tax rate, so it's probably not a show-stopper.

-Wino

Every time I hear these stories I am glad that I don't live in California or any other jurisdiction that jerks taxpayers around like you describe.... an increase like that is nuts if the property values are similar. Around here and much of the country, property taxes are based on a fair value but other mechanisms are used to make taxes more affordable for residents, veterans, low-income residents, etc.

 

[Another Reader]

And there is yet another twist. If MIL transfers her base year value and DW inherits the property, DW can transfer the base year value to her, using Prop 58, the parent to child exclusion. My father transferred his 1975 base year value when he moved between counties to be closer to me. When he died, I inherited the property and the 1975 base year value. I haven't verified this, but it might be possible to move into that property, put a homeowner's exemption on it for a couple of years, and transfer the 1975 base year value again.

I think I just heard pb4uski collapse in an apoplectic fit....

 

[RobbieB]

California is #17 / 50 best property tax states in the country

 

[Another Reader]

California is #17 / 50 best property tax states in the country

Even better than #17 if you have an old base year value. I'll bet your property taxes are very low as well.