Extra cost is “another negative factor” for LA commercial deals
Thinking about selling a commercial property? Do it now.
That’s the advice brokers are giving to their clients across the board after the city of Los Angeles passed a new transfer tax that would apply to all commercial and residential properties that sell for more than $10 million.
“If you plan on selling in the near future, if you can avoid the tax, you’re going to want to avoid it,” said Newmark’s Kevin Shannon.
On April 1, sellers of commercial property will face an additional 4 percent tax on any sales above $5 million, according to an L.A. ordinance on track to pass as a ballot proposition. Any sales above $10 million will face a 5.5 percent tax. Any revenues generated by the taxes will skirt the city’s general fund and go straight into a fund for affordable housing development and rent relief measures.
The ULA measure is a terrible law
And the spec home part isn’t even the worst part. In Development deals, taxes are functionally paid up front, lowering existing land values
So that one-story strip mall is going to stay. Owner won’t sell to tear down & build housing
— Bobby Fijan (@bobbyfijan) November 17, 2022
Commercial brokers, developers, and investors interviewed by TRD shared a similar sentiment of frustration for the proposed tax. Though advertised colloquially as a “mansion tax,” the tax is set to have a profound effect on the commercial industry, with brokers suggesting it will lead to pricing reductions across the board, as interest rates have already dragged down valuations.
“It’s a perfect storm,” Travis Traweek, a broker at Stepp Commercial, said. “People already want to leave L.A., with the eviction moratorium, interest rates, and rent control issues.”
“Bit of a spike”
Brokers don’t expect transactions to dry up completely after that April 1 deadline, though the number of deals are already on the decline, given rising interest rates.
“If they’re not transacting, they’re out of business,” Tony Azzi at Marcus & Millichap said of investment firms. “They can’t sit on the sidelines.”
But commercial investors may start to look elsewhere to transact. Multifamily investors, for example, may look to other cities in L.A. County, or even Orange or Riverside counties, where rents have dramatically increased over the last couple of years, Azzi said.
Though sellers will be able to avoid the tax if they sell a property before the April 1 deadline, any investor has to underwrite that extra cost into their calculations, since they’ll have to pay it when they want to cash out of the asset.
“It’s a drag on all values,” Shannon said. “It makes it harder to transact.”
The city of L.A. may see a “little bit of a spike” in transactions just before the transfer tax is implemented, but it’ll be muted, given it’s hard to get a deal done in the current rate environment, Shannon added.
But, there’s precedent for an uptick in transactions ahead of a new transfer tax. In 2019, the state of Washington implemented its own real estate excise tax — 3 percent on any sales above $3 million. Ahead of that transfer tax, Seattle saw “record velocity,” Shannon said.
“I suspect there might be a higher than average amount of sales in the city of L.A. in the first quarter than prior years,” said Patrick Schlehuber, who runs acquisitions at industrial REIT Rexford Industrial Realty, though it might not be a perfect comparison, given industrial sales have been robust since the pandemic started.
