California’s Self-Inflicted Wounds
Last month Los Angeles’ so called Mansion Tax went into effect. This tax, supported by 57% of voters was intended to help the city’s problem with homelessness. Instead, this tax is likely to crush sales of properties worth over $5M, and devastate transactions in properties over $10M. While this transfer of wealth is called the Mansion Tax, the name is a complete misstatement of what the tax actually is.
To give readers a very tangible understanding of this new tax, we’ll share some math. If a property trades for $10M, the tax historically would have been 0.45% or $45,000. But with the new tax in place, that transaction comes with an additional 5.5% tax, bringing the total to $595,000. A “Mansion Tax” sounds like a tax on the very very rich, but many of the transactions that will be affected will be in other types of commercial real estate including multifamily. It does not matter if the property owner has made money with this property or not, that tax is levied regardless. There may have been some good intentions here, but as is so often the case with changes in tax law, the result is likely to have the opposite of the intended result.
San Francisco, Santa Monica, and Culver City have all enacted similar taxes and with these in mind, its easy to understand why there has been an exodus from California and why some investors have been handing the banks the keys as interest rates have moved higher. These new taxes are an obvious headwind to valuation in the sunshine state, and this headwind makes an already difficult change in demand for office space, and commercial investment in general, almost impossible to sell as attractive to outsiders.
California should be the biggest beneficiary of reshoring, but instead, they’ve scared investors off. By default, real estate values have been damaged dramatically. We’ve started to see degradation in office, but any large transaction will be affected going forward.
Sources: CoStar, Trepp, Market Watch, S&P Global, S&P Global
