Transfer of Property in California for Estate Planning Purposes

The FLP has the dual benefit of allowing the survivor to fully increase the asset basis of the underlying partnership for income tax purposes after the first death and, after the survivor’s death, the limited partner’s interest still can be deducted for wealth tax purposes. The minority discount of the value of limited partnership interests allows the transferor to effectively make large annual tax-free gifts. In the case of real estate, the Expiration to Sale Clause or the Acceleration Clause of the underlying promissory note and the deed of trust guaranteeing the real estate to be transferred must be reviewed.

In addition, care must also be taken to avoid triggering the reassessment of property taxes under Proposition 13 and the Change of Ownership Rules found in Sections 60 through 69.5 of the Revenue and Taxation Code and the Real Property Tax Rules found at 18 Cal. Co. Regs. Section 62 to Section 471. Section 60 of the Revenue and Taxation Code provides that a change in ownership is a transfer of current interest in California real property, including beneficial use thereof, whose value is substantially equal to the value of the interest rate.

The transferor must submit a Preliminary Change of Ownership Form that contains sufficient information to determine whether a change of ownership has actually occurred. There are several rules that need to be addressed regarding FLP financing with real property regarding change of ownership rules. Section 63 of the Inter-Spousal Transfer Tax and Income Exclusion Code states that transfers between spouses should not be considered a change of ownership.

Property may need to be transferred from the name of one spouse to the name of both spouses before it is transferred to the FLP. This may be a good idea even though the property is technically a community property held in the name of a single spouse.

Section 63.1 of the Revenue and Taxation Code provides for a Parent-Child Exclusion with respect to the transfer of the transferor’s principal residence, as well as the transfer of the full cash value of the first million dollars of all other California real property . There is also a million dollar exclusion available to grandchildren if their qualifying grandparents are deceased on the date of purchase or transfer and the grandchild has no surviving parents on the date of the transfer of California real property .

Like the parent-child exclusion, a claim form must be filed with the county assessor’s office to claim the exemption. Section 65.1 of the Revenue and Taxation Code provides that a purchase or change of ownership during an interest assessment year with an accumulated value of less than 5% of the total value of the real property in question does not constitute a reassessment of interest if the fair value the market value of the transferred interest is less than $10,000. This exclusion begins each evaluation period. Pursuant to Section 62(a) of the Revenue and Taxation Code, no change of ownership occurs when the pro rata interest in California real property remains the same before and after transfer to the legal entity. Consequently, the property owner may transfer a de minimis interest in real property to the legal entity that will act as FLP’s general partner, as well as to each of the limited partners. The legal entity and all other potential joint tenants/limited partners can then transfer their pro rata share in the real property to the FLP and avoid reassessment using the pro rata share transfer rule.

Section 64(d) of the Revenue and Taxation Code provides that if property is transferred to a legal entity in a transaction excluded from change of ownership under the proportional interest transfer rule, the transferor’s owners are considered the original joint owners. Subsequently, if more than 50% “cumulatively” of the original co-owners’ total interest in the entity is transferred by the original co-owners, the property previously excluded from the assessment is reassessed. Transfers between spouses, transfers to qualified trusts excluded under Section 62(d) of the Revenue and Taxation Code, and proportionate transfers excluded under 62.82 are not to be cumulative or counted in determining a change of ownership for purposes of transfers of more than 50%.

Copyright (c) 2011 Jeffrey Matsen