June 3, 2024

In November 2022, Los Angeles voters approved Measure ULA, implementing a real estate transfer tax on property sales over $5 million and reallocating the revenue generated to fund affordable housing initiatives in Los Angeles. The measure took effect on April 1, 2023 amidst much fanfare and debate. Now, over a year later, the real estate industry is feeling the full weight of this controversial tax.

The Numbers Don’t Lie

This “mansion tax” applies to high-value property sales in the City of Los Angeles, not just luxury homes. The tax is typically paid by the seller in addition to the existing city and county transfer taxes. Critics of this tax worried that it would dampen the high-end real estate market and make the city less attractive for wealthy individuals and investors, and one year later, that is evident.

“The transaction volume declined by a staggering 80% or more versus a range of 41 to 61% for all other SoCal markets that were not impacted by the ULA tax," said Alen Nazarpour, tax principal at HCVT.

This steep drop-off is causing luxury homeowners and investors to hit the pause button. "Most of the contractors, developers and real estate brokers are kind of pausing to see the outcomes of the lawsuits that are being brought into the courts against the ULA," Nazarpour explained. The mere threat of paying an additional 4-5.5% transfer tax on multi-million dollar properties is prompting many to rethink their plans.

Revenue Failing to Materialize 

Measure ULA was pitched as a solution for funding affordable housing and services for the unhoused. However, the revenue numbers so far have been anticlimactic compared to projections. At the end of the first year, Measure ULA brought in about a quarter of the city’s estimates: $215 million compared to the projected $600 million to $1.1 billion each year.

It's little wonder that legal challenges are mounting to overturn the tax measure. "Currently there are two main challenges being brought in front against the ULA," Nazarpour noted. "The Howard Jarvis Taxpayers Association and the Taxpayer Protection and Government Accountability Act (Taxpayer Protection Act), both trying to overturn ULA." While the former’s claim was dismissed by a Los Angeles County superior court judge, they have vowed to appeal the decision.

A Glimpse at Potential Workarounds 

With the future of ULA uncertain pending these legal actions and a statewide ballot measure in November 2024, some property owners are exploring potential workarounds to avoid the tax.

Some of the strategies being considered include splitting ownership between spouses, gifting to children, or restructuring assets into partnerships or LLCs. However, Nazarpour cautions on the timing for those looking to pursue this kind of workaround, encouraging taxpayers to plan well in advance and to consult with their tax advisors regarding the tax ramifications of such restructuring plans.

The recommended approach? "We're pausing to see what's going to happen to this program," Nazarpour shared regarding clients' mindset. Rushing into an untested workaround could expose transactions to scrutiny and additional taxes.

Slowing the Market Churn 

Beyond just depressing luxury home sales, Measure ULA is also grinding the typical real estate turnover to a halt. "It's not only if you sell your property, but even if you exchange via a 1031 exchange, you're going to be subject to the ULA tax." This has severely curtailed the appetite for transactions among investors who regularly cycle properties.

The cooling effect ripples further when you consider the integral role real estate plays in the LA economy and tax base. "LA is a big real estate market. A lot of developers, investors - they're going to object that,” said Nazarpour. “Some may even make moves to leave the region.”

For now, the wise approach is to hit pause and reassess after the legal dust settles. Once there is clarity, buying and selling activity should normalize.