How Will Tax Reform Impact California’s Housing Market?

Earlier this month in a Wall Street Journal op-ed, economist Arthur Laffer posited that high-income homeowners will flee California and New York as a result of the recent tax reform. Laffer isn’t alone. Many economists and real estate experts have suggested that the tax reform severely impacts coastal homeowners, who typically have higher property values. Paul Wassgren, a real estate partner at DLA Piper, however, disagrees that there will be any significant negative impact from the tax reform. Actually, Wassgren says that the benefits to companies could potentially offset the increased costs. We sat down with Wassgren for an exclusive interview to talk about the impacts of the tax reform in California.

GlobeSt.com: Why are you optimistic that California won’t see any significant negative impacts from the recent tax reform?

Paul Wassgren: The reason that I am optimistic that the tax reform passed by the recent administration will be favorable not only to California but generally throughout the United States is based on the fact that people and their migration tendencies will track employment opportunities far more than taxes. I think those economic studies are pretty well rehearsed. One recent example is that in the early 2000s, we did see some people from California leave communities like Los Angeles in favor of cities like Las Vegas, but it wasn’t because they were trying to avoid state income tax. It was because they were finding better opportunities of employment and general economic opportunities in Las Vegas at that time. That obviously changed in 2008 and 2009, when we saw a great influx of people into California from those jurisdictions. The tax code hadn’t changed. I just don’t believe that people are going to be leaving, and certainly not in large numbers. Art Laffer, for example, claims that 800,000 people will leave California. That is meaningful, even in California with our robust population.

If we track human behavior, it isn’t economically rational, as some classical economists would assert. I think the employment opportunities in California remain so robust and will benefit from the tax reform. Apple, for example, has announced that it is going to repatriate hundreds of billions of dollars that they had stashed overseas, pay a one-time tax rate, and use a lot of that money to invest in projects in the United States. Apple has been a huge employer in Northern California, and companies like that in the tech space have long found that the California workforce will be difficult to replace. That is not a business model that can exist in the same way in a jurisdiction like Nevada.

Globest.com: Laffer and others believe that high-income residents will leave the state as a result of the increase in property taxes. What is your response?

Wassgren: I am not sure that it is the lower income residents. They don’t pay that much in taxes and the state level, they are not really assessed. It is a graduated scale, so if you don’t earn much, you don’t pay much. These are also not people that own homes or businesses that occupy large commercial properties. If people were to leave, it would be middle and upper income residents. Those people have businesses, and they probably aren’t going to relocate those businesses. So, the impact wouldn’t be on the commercial side. Many may try to keep their homes and try to navigate into a low-tax income jurisdiction, like Nevada, Texas or Washington with a secondary home.

GlobeSt.com: With both home prices and rental rates rising rapidly, will the tax plan put more pressure on lower-income residents and encourage an exodus of this demographic out of California?

Wassgren: Affordability is probably at or near an all-time low, meaning that prices are at or near an all-time high. Rents are going up just as real property prices are going up. People, however, are not economically rational in a way that some economists forecast. What I have observed is that lower income folks will cram into smaller spaces. Instead of having a three-bedroom apartment, a family may squeeze into two bedrooms. There are ways to adjust that don’t require moving across state lines. There are also more affordable places in California, like the Inland Empire. So, people are probably forced to deal with a longer commute. Undoubtedly, some people will move to more affordable markets, but overall, I would be shocked if the numbers that Art Laffer is claiming are realized. I also don’t think that we are going to see a crash in real estate prices, either commercial or residential. I think things are going to continue to be robust until something unforeseen in the economic expansion is temporarily derailed.

GlobeSt.com: Some research estimates that California homeowners will pay $6,000 more in property taxes. You mentioned the tax plan will benefit companies that can potentially pass those proceeds onto workers. Will this be enough to offset the increase in property tax fees?

Wassgren: There are elements of a trickle down, and I know some on the left will criticize that concept. There are several large publically traded companies that have announced programs that will benefit their employee base. So, there is definitely some positive impact for a large number of people. Of course, as businesses do well, they are prepared to invest more in their workforce. I do believe that in the trickle-down benefits of tax reform. So, there will be some offset, but will it be enough to compensate for the $6,000 on average? Probably not. But, will homeowners pack up move across state lines to avoid $6,000? Some will, but most won’t.

GlobeSt.com: Is there any talk of tax reform at the state level to ease the impacts on homeowners?

Wassgren: There is a lot of talk about some of these jurisdictions like California and New York that are so impacted by the change of states implementing a legislative change to soften the impact, and I would love to see that happen in California, where we could tweak our own internal tax code so that we are not impacted so severely. It has been discussed, and it is easier to do in some jurisdictions than others. I think that California is likely to look at that much more seriously. The state doesn’t want people to leave on account of taxes, and undoubtedly, the taxes are getting a little high.