September 17, 2009

Taxation Committee
Legislative Committee

The following is for study only and has NOT been approved by the Taxation Committee, Legislative or Executive Committees or the Board of Directors.

Issue
Should C.A.R. sponsor or support legislation to require that REO sales be used consistently across the state when county assessors determine a property’s reassessed value?

Action
Optional

Options
1. Do Nothing. Leave the situation as it stands with regard to individual county assessors determining the extent to which they do or do not consider REO sales as comparable sales for purposes of reassessment.
2. Sponsor legislation specifying the extent to which REO sales can be considered when determining reassessed value.
3. Support legislation, if introduced, specifying the extent to which REO sales can be considered when determining reassessed value.
4. Other

Status/Summary
Foreclosures this year will cause over 70 million nearby homes to decline in price by an average of $7,200 per home. While neighborhood foreclosures can impact the appraised value of a home, there appears to be some confusion as to whether such foreclosures can also impact assessed value. Some county assessors consider local REO sales when reassessing residential property for purposes of property taxation while others believe they are prohibited by law from doing so. Needless to say, the lower the assessed value of a residential property, the lower the property taxes that the homeowner will have to pay on that property.

Discussion
According to the Center for Responsible Lending foreclosures this year will cause over 70 million nearby homes to decline in price by an average of $7,200 per home nationwide (Note: It’s likely that the figure for California would be higher). Overall, the Center estimates that the loss in property value could reach $500 billion. While neighborhood foreclosures can impact the appraised value of a home, it appears to be an open question as to whether such foreclosures can also impact assessed value of the home. Some county assessors consider to some extent local REO sales when reassessing residential property for purposes of property taxation while others believe they are prohibited from doing so. Needless to say, the lower the assessed value of a residential property, the lower the property taxes that the homeowner will have to pay on that property.

Under Proposition 13, reassessment of property occurs upon a change of ownership. Property taxes are levied at the rate of 1% of the assessed value and that can increase annually by 2%. In addition, Proposition 8 adopted in 1978, allows for a reduction in assessed value when a property suffers a decline in value. According to the Board of Equalization (BOE), a “decline in value occurs when the current market value of real property is less than the current assessed (taxable) factored base year value …” (Note, however, that Proposition 8 reassessments are not limited to the 2% annual inflation adjustment. Proposition 8 reassessments can be increased up to the adjusted base year value as market conditions dictate and only at the point that the assessed value matches the adjusted base year value does the 2% annual inflation cap again go into effect.) County assessors are supposed to automatically reassess a residential property when there has been a decline in value; however, it’s ultimately the homeowner’s responsibility to apply for reassessment.

The provides that for real property purchased in an open market transaction, the price paid for the property is rebuttably presumed to be its market value and, thus, assessed value. However, according to a longstanding BOE opinion letter, “it is clear that ‘forced sales’, like execution or foreclosure sales, fall short of meeting the … conditions necessary to establish an open market transaction. Further, we have long held that the price paid at execution and/or foreclosure sales does not equal fair market value.” The letter goes on to say: “By definition, an execution or foreclosure sale is a ‘forced sale’ to cover liens or debt within a limited time, and is therefore characterized by ‘nonmarket conditions,’ including but not limited to, the requirements/complexities of the foreclosure proceedings and the seller’s (creditor’s) need for cash in a hurry. Such ‘nonmarket’ forces do not shape market value, and cannot be used by the appraiser to formulate an opinion of the property’s highest and best use.” However, given the recent rash of foreclosures that have occurred across the state, even BOE staff acknowledged to C.A.R. staff that if there are several foreclosures in the immediate neighborhood of a home, that the REO sales should be included in the reassessment.

As a result, it is not surprising that an informal survey of county assessors conducted by C.A.R. staff revealed a broad range of practices across the state with regard to the extent to which REO sales are used as comparable sales for purposes of reassessment. For example, one assessor stated that they are prohibited by law from including such sales. On the other hand, another assessor stated that “if the majority of sales in a neighborhood are REO’s, we have to recognize their effect on the market.” So, clearly, there is a lack of consistency across the state with regard to how homes are being reassessed both under Propositions 13 and 8. (Note: If REO sales should be included in residential property reassessments, it is not clear the extent to which such sales should be included. In other words, should REO sales be treated the same as regular sales or should they be “discounted” to some extent?)