2003- CA Prepay 3.5% Tax on Inv. RE Sales. - Posted by Glen SoCA

import · November 19, 2002, 5:39pm

Posted by Glen SoCa on November 20, 2002 at 17:45:40:

Hi John-

Thanks for the response. I have one more question, please.

I want to make sure that I’m not confusing the minimum $800 franchise tax fee, and the $800 fee to create an LLC in California. The two fees are only coincidentally the same amount, right?

I think I need educate myself a little on LLC’s.

Glen

import · November 19, 2002, 5:39pm

2003- CA Prepay 3.5% Tax on Inv. RE Sales. - Posted by Glen SoCA

Posted by Glen SoCA on November 19, 2002 at 18:39:39:

Governor Gray Davis signs AB 2065 requiring 3 1/2% of total sales price, (not gain) upon sale of investment property for immediate prepayment of taxes. Private home sales under $100,000 excluded. CA corporations excluded. No interest payed to seller for overpayment of taxes withheld. Money snatched at close of escrow.

3.5% of a $300,000 property equals $10,500 escrowed at the Franchise Tax Board. For the unincorporated seller this means losing on average 1/2 years interest. At 20% interest, figuring a good return on investment in RE, that’s $1,050 for an average 6 months. Not to mention the immediate reduction of cash flow of $10,500 for immediate investment. In a very skinny deal, you could owe more in prepayment taxes at the close of escrow than you receive at settlement.

I see new business opportunity for incorporation attorneys. Polite party discussion of selling the vacation cabin will revolve around starting an LLC in California. Pay $800 (in CA)for an LLC (money goes to the State…) plus attorney fees, to prevent interest theft and hold on to your investment cash a while longer.

Tax prepayment may also drive down the prices which investors can pay for a home they’ll rehab and flip as it their cashflow will be delayed…penalizes both the seller and rehabber.

I’m not an attorney. I don’t know just what the ramifications of AB 2065 will be for investors and lay sellers in California. But it does seem to walk like a duck.
And it doesn’t pass the smell test.

http://www.redding.com/top_stories/business/20021117topbus029.shtml

http://www.chronwatch.com/featured/contentDisplay.asp?aid=512

import · November 19, 2002, 6:46pm

Re: 2003- CA Prepay 3.5% Tax on Inv. RE Sales. - Posted by John W - CA

Posted by John W - CA on November 19, 2002 at 19:46:31:

Don’t forget the added LLC fee imposed on gross revenues in CA. Your hypothetical $300K property will cost you an additional $900 in LLC fees, bringing your total effective tax to $1,700.

John

import · November 19, 2002, 5:53pm

Re: 2003- CA Prepay 3.5% Tax on Inv. RE Sales. - Posted by Kristine-CA

Posted by Kristine-CA on November 19, 2002 at 18:53:19:

Glen: my understanding was that all investment properties under 100K are exempt from this withholding–not sure what you meant by “private home sales” as primary residence sales are exempt from this withholding.

Seems to me that the end property buyer bears the cost of this, not the property seller. On a flip, a property will be marked up accordingingly to cover closing costs–which now include withholding for the seller. So sellers will be adding it to the costs of selling: marketing and/or agents, escrow, title, and now withholding. So very skinny deals are now really stupid. If we can’t figure out how to conquer 3.5%, we don’t know how to deals anyway.

And remember, it is withholding. If you owe it, you owe it and if you don’t you will be getting it back. I don’t think it’s much to worry about.
Sincerely, Kristine

import · November 19, 2002, 10:08pm

Re: 2003- CA Prepay 3.5% Tax on Inv. RE Sales. - Posted by Glen SoCa

Posted by Glen SoCa on November 19, 2002 at 23:08:18:

John-

I didn’t know that. Can you elaborate on that please? The $900.00 in my hypothetical sales price of $300,000 came up to .003%. Is that correct?

Thank you,

Glen

import · November 19, 2002, 9:59pm

Re: 2003- CA Prepay 3.5% Tax on Inv. RE Sales. - Posted by Glen SoCa

Posted by Glen SoCa on November 19, 2002 at 22:59:09:

Kristine-

Thanks for the correction. I misread the this portion of the article, “The new law doesn’t apply to principal residences and withholding is not required if the total sales price is $100,000 or less.”

I can imagine that some sellers will attempt to add their withholding to the sales price, but that may be a hard sell, the buyer paying the sellers taxes. The withholding though payed on the entire sales price will probably be less than the ultimate tax paid on the profit, at a passive investment tax rate of 18%. I’m using unincorporated sellers.

You bring up a good point. “If you owe it, you owe it.” Not paying tax on the profit immediately has given the seller trade credit in a way, delaying payment of taxes, using the taxes/cash owed to the government interest free. I guess AB 2065 corrects that. I’d like to run this by John Hire.

The rehabber will probably benefit most from this AB 2065, their argument being the prepay cuts in to their cash flow resulting in reducing their normal assignment purchase price, by 3.5% of the total anticipated sales price. Or about $3,500 on $100,000 house, or the amount of the wholesalers assignment fee.
But as you mentioned, “If we can’t figure out how to conquer 3.5%, we don’t know how to deals anyway.”

Glen

import · November 20, 2002, 9:12am

Re: 2003- CA Prepay 3.5% Tax on Inv. RE Sales. - Posted by John W - CA

Posted by John W - CA on November 20, 2002 at 10:12:54:

Hi Glen,

The LLC fee in CA is not a percentage, but a sliding scale based on gross revenues. The fee schedule for 2002 was/is:

Total revenue…Fee
250K - >500K…900
500K - >1M…2,500
1M - >5M…6,000
5M+…1,790

Each tier is in addition to the preceeding tiers. Consequently, the maximum fee could be 11,190 along with a minimum franchise tax of 800 for a total of 11,990. Remember, the LLC fee is IN ADDITION to the minimum franchise tax. Granted, the fee won’t come into play much, unless you do business in a high priced area.

John