On April 1, a so-called mansion tax went into effect in the city of Los Angeles. Real estate agents for wealthy clients are advising them to sell before the start of the transfer tax, but the market in L.A. is soft, creating challenges. Many brokerages also warn their agents to be cautious about giving financial or legal advice to avoid the tax.
The tax is 4% on homes that are above $5 million. For homes above $10 million, the rate goes up to 5.5%. Supporters of the tax say that it should raise around $1 billion a year to put toward solving the homeless crisis in the city and creating more affordable housing options.
It’s also known as the ULA tax, and it’s levied on a seller as a transfer tax when they sell a home or any real property trading for $5 million or above. This tax is added on top of a current 0.45% transfer tax. The tax is based on the sale price, not the profit. If you’re taking a loss, you still have to pay the tax.
Real estate agents in Los Angeles have expressed concerns, saying this new tax comes at a time when there are already complications in the market, including inflation, banking issues, and interest rates. The tax has contributed to dramatic reductions in price for many homes when sellers want to offload them quickly.
Potential homebuyers are coming in with cash offers and trying to close fast, but often doing so at big discounts. It’s hard to predict the impact of the tax on any particular piece of property, but on a regional level, it will almost certainly lower the prices that sellers can get.
Essentially, for homes over $5 million, there will be downward pressure because owners will have the threat of a higher tax bill on their minds.
In Los Angeles last year, the sales of homes that were $5 million and above totaled nearly $2.5 billion.
Based on that information, when combined, sellers would have seen a mansion tax bill reaching almost $131 million. Sellers of homes between $5 million and $10 million would have accrued an average tax bill of $43,000.
The sellers of homes that were $10 million and up would have had an average tax bill of $1.2 million.
In the fourth quarter of 2022, completed sales of single-family luxury properties in L.A. declined 13% compared to the third quarter. Looking at a year-over-year comparison, the completed sales of single-family luxury L.A. properties were down more than 51%, according to a Douglas Elliman report.
Tax professionals have been working with clients to try and identify potential loopholes, including splitting deals into two transactions. One part of the deal would be for the land and the other for the structures it contains to keep the amounts paid under the threshold triggering the tax.
Some have also floated the idea of separate buyers or trusts to buy properties with a plan for tenancy in common, where separate owners have shares of a property. The escrows would close within a few days of each other instead of at the same time.
Most who work in real estate in L.A. are very concerned about the tax and its effects on individual buyers, sellers, and developers. When developers slow their work in the city, it will have a ripple effect on the economy, including construction crews, architects, and plumbers.
On the other end of that argument, proponents of the new tax say that it will create a construction boom, but it will be geared toward affordable housing options. A research paper that was released by the authors of Measure of ULA said the tax has the potential to create 43,000 new construction jobs.
While time will tell what the long-term results of the tax are, in the short-term, we see a flurry of activity as sellers try to avoid this new tax, but it’s also leaving some buyers hesitant to purchase luxury properties in the city knowing they’ll owe a big tax bill too if they ever decide to sell.
