A Simple Explanation of Taxable Possessory Interest

Posted by Geoffrey Moore on Friday, July 2nd, 2021 at 10:30am.

Man calculating possessory interest for property in Palm Springs

If you’re a homeowner or potential homeowner in California, taxable possessory interest is something you should know about, as chances are it will affect you. 

While it may sound like an intimidating topic, we’ll have you caught up to speed in no time with a little simple clarification. 

It’s actually pretty simple: broken down, it’s just how much those on a long term lease owe to the people who own the property. But since so much property in California is owned by the BIA (Bureau of Indian Affairs), even homeowners can be subject to these taxes. 

This is an important topic for anyone looking for Palm Springs real estate, as this could easily affect potential buyers. 

Read on to find out more about possessory interest in Palm Springs and if it could affect you.

What is Possessory Interest?

First of all, let’s look at possessory interest. 

This is simply the right of anyone to use land for long term use, but doesn’t include ownership of the land. 

For example, anyone who engages in a long-term lease on a piece of property and pays rent for the ability to use it has possessory interest.  

What About Taxable Possessory Interest?

Taxable possessory interest is a determined figure of how much is owed to the owner of the land based on the benefit to the possessor. 

This is often used to calculate how much a privately owned property such as a restaurant or a ski resort is required to pay the government for its use of federal property for financial gain.

However, in California, it can affect homeowners as well.

What Palm Springs Properties Does it Affect?

All Indian and private lease land in California is subject to taxation on the possessory interest in the home. 

This is because in California, much of the land is owned by the BIA in trust for various Indian tribes and individuals.

How is Taxable Possessory Interest Calculated?

Taxable possessory interest is calculated based on a capitalization rate.

The capitalization is the rate at which taxable possessory interest is calculated. 

In California, the capitalization rate may only be raised a maximum of 2% per year, and is calculated on an established base year value based upon three possible factors:

  • It’s value upon creation

  • Changes in ownership

  • Completion of new construction

What Does This Mean for Palm Springs Home Owners?

Different properties can have different capitalization rates (or may not be subject to any taxable possessory interest), so be sure to talk to your real estate agent when looking at properties to see if this will affect your yearly cost. 

Here's a Real-World Client Example:

A client purchased a condo in July, 2019 for a total sale price of $157,000. This sale price represented the leasehold interest transferred; for taxation purposes, the county is required to value the full bundle of rights, including those delineated through the land lease. The State of California assesses "property rights" as opposed to ownership, thus there is the inclusion of a value for what is known as "possessory interest". This value is calculated by capitalizing the annual income stream in question to arrive at a current value, in this case the annual land lease amount paid to the land owner.  The annual lease payment at the time of purchase was $2,172.  The would result in a possessory interest of $27,150, which is calculated using an 8% capitalization rate ($2,172 / .08 cap rate = $27,150).  So the total assessed value of the property would be $184,150.  

The relevant property tax laws are R&T Code sections 61, 107-107.9, 480.6, and property tax rules 20-28. In addition, most land leases include a clause that the lessee is responsible for taxes on the land. To learn more, you may also visit https://www.asrclkrec.com/taxable-possessory-interest.

Get the most knowledgeable property know-how with your Palm Springs real estate expert, Geoffrey Moore. Contact me today to find out more! 

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