In April 2012 the California Franchise Tax Board ended up with a good dose of egg on its face. Just before the official end of the filing season, they rescinded a plan that would have required California taxpayers to provide information justifying property tax deductions starting on 2012 income tax returns. They also removed all material on their website that limits the deductibility of real estate taxes to those imposed on an "ad valorem" basis, meaning taxes based on the assessed value of the property.
THE GOOD NEWS FOR ALL U.S. TAXPAYERS: Contrary to the instructions for Form 1040 Schedule A Itemized Deductions, and guidance shown elsewhere in IRS publications, we now have it in writing that deductible real property taxes are NOT limited to taxes based on the assessed value of the property. IRS Chief Counsel could find no statutory legal basis for that assertion.
Thank you Franchise Tax Board! As a California taxpayer, I am not happy that you spent time and money on this failed initiative, nor that your efforts will likely result in reduced, rather than enhanced, state tax revenue, as you intended. On the other hand, I am pleased to have this new authoritative guidance.
This major capitulation by the Franchise Tax Board comes as a result of Information Letter 2012-0018*, drafted by the Office of the Chief Counsel of the Internal Revenue Service in response to an FTB inquiry. The letter states that assessments on real property based on anything other than the assessed value of the property may be deductible if they are levied for the general public welfare by a proper taxing authority at a like rate on owners of all properties in the taxing authority’s jurisdiction.
To me this validates the deductibility of parcel taxes (now prevalent in California) and most other fixed charges that are widely levied. The wording of the letter also supports the position that portions of Mello-Roos payments may be deductible by homeowners in communities that issue Mello Roos bonds to finance capital improvements, but apparently only assessments where "the taxpayer can show they were imposed to repair, maintain, or meet interest charges." Good luck with that.
Determining the deductibility of real property taxes is still a challenge, but it just got a lot easier. The main charges I commonly see on property tax bills that I still do not believe qualify as deductible taxes are charges covering utilities, such as sewer and garbage service.
Many taxpayers out there have always deducted 100% of their property tax bill and this new information says that you may be okay to keep doing that. On the other hand, if you only deducted part of your property tax bill on your just-filed 2011 income tax return, you may want to consider correcting that on an amended tax return. You could even go back and correct other open years (currently 2009 and 2010), if the tax savings makes it worth doing.
Refer to this Franchise Tax Board guidance for special instructions aimed at expediting the processing of California amended tax returns.
*This IRS letter is dated February 6, 2012 and was posted on the IRS website in March. According to an April 17 article in the San Francisco Chronicle, the Franchise Tax Board says they never received the letter and learned of it on April 5 when a legislative analyst discovered the letter online.
Last updated 30 May 2012