California’s documentary transfer tax (“DTT”) applies to transfers of interests in legal entities owning real property following the state supreme court’s denial of the taxpayer’s petition for rehearing in 926 N. Ardmore Ave. LLC v. County of Los Angeles.
Pursuant to a recent California Supreme Court decision, California taxpayers transferring ownership interests in a legal entity may have one more tax to worry about. In its June 29 opinion, the California Supreme Court held that the documentary transfer tax (DTT) may apply to a written instrument conveying an interest in a legal entity that owns real property, even if the real property is not directly referenced in the written document and the document is not recorded. The opinion received criticism for significantly expanding the application of the tax, and the taxpayer filed a petition for re-hearing, which was supported by amici. On August 9, however, the court denied that petition, and thus, the original opinion stands.
California’s DTT is not a property tax or a recordation fee, but rather an excise tax on the privilege of transferring real property by means of a written instrument. The tax, if adopted by a city or county, applies to “each deed, instrument, or writing by which lands, tenements, or other realty… shall be granted, assigned, transferred, otherwise conveyed to, or vested in, the purchaser or purchasers, or any person or persons” where the consideration exceeds $100. Cal. Rev. & Tax Code § 11911. The party conveying or transferring title generally is responsible for the payment of the tax. Cal. Rev. & Tax Code § 11912. The tax is imposed on the consideration paid or value of the real property being transferred (less the value of any liens or other deductions) at the rate of $1.10 per $1,000.
The court in Ardmore considered whether the DTT applied to a transaction involving the transfer of interests in a legal entity that owned real property. The property was owned by an LLC established to acquire and hold the property, an apartment building. The LLC had two members: an administrative trust, and a limited liability limited partnership (the Partnership). The Partnership was owned by four separate trusts. The four trusts that owned the Partnership and the administrative trust that was a member of the LLC all benefited the same individual, Gloria Averbrook.
In 2009, three of the trusts that owned the Partnership transferred their interests to two new trusts, each of which benefited one of Gloria’s two sons. After the 2009 transfers, the property in question was beneficially owned, through the various trusts, by three individuals: Gloria and her sons.
Although the transfers were contained in written documents, these transfers did not mention the real property or its location, and were not recorded. The LLC filed a statement regarding the transfers pursuant to Cal. Rev. & Tax Code § 480.2(a), and received a supplemental property tax assessment, which the LLC did not dispute. Two years later, the LLC received notice from the Los Angeles County Recorder demanding payment of the DTT on the basis of the change in ownership under the property tax law.
The court conceded that the statute provided no clear answers – it could be read to support both the county’s and the taxpayer’s positions. However, the court claimed, the ambiguity was eliminated when the statute was considered “in context;” that is, read in conjunction with Cal. Rev. & Tax Code § 11925 and the federal documentary stamp act upon which California’s DTT was based, both of which included an exemption for transfers of certain partnership interests. According to the court, this exemption was superfluous if the DTT did not also apply to transfers of interests in legal entities other than partnerships. The court then examined a number of federal precedents and concluded that “the critical factor in determining whether the [DTT] may be imposed is whether there was a sale that resulted in a transfer of beneficial ownership of real property.” The court concluded that the change in ownership rules in California’s property tax law, despite being enacted as part of Proposition 13 more than a decade after the DTT and contained in a separate section of California’s tax code, fit squarely into this framework. Thus, the DTT would apply any time there was a transfer of interests in a legal entity resulting in a change in ownership within the meaning of Cal. Rev. & Tax Code §§ 64(c) – (d), as long as it was evidenced by a written instrument reflecting a sale of the property for consideration. Accordingly, the court held that written documents evidencing the transfer of beneficial ownership – but not the property itself – was sufficient to trigger the application of the DTT.
Under Ardmore, transfers resulting in a change in beneficial ownership of real property are likely to be subject to the DTT, unless an exemption applies. Additionally, in the wake of the case, a number of cities and counties have amended their ordinances to explicitly apply to legal entity changes, including San Francisco (city and county), Santa Clara County, and the City of Oakland. Others, including Ardmore defendant Los Angeles County, now include disclosures on their websites. Taxpayers owning interests in real property located in California contemplating selling that property should carefully review the ordinances and publications of the local jurisdictions to determine whether that locality has adopted (through amendment or policy statement) the Ardmore application, but should be aware that if a locality has enacted the DTT generally, the court’s holding authorizes the imposition of the DTT even if a city or county has not amended its code. Additionally, property owners should carefully evaluate transfers of legal entities owning real property to determine if a change in beneficial ownership has taken place. If the transfer results in a change in beneficial ownership under property tax law, the DTT may apply.