BILL ANALYSIS                                                                                                                                                                                                    

                                                                  AB 1956
                                                                  Page  1

          Date of Hearing:  April 14, 2008

                               Charles Calderon, Chair

                   AB 1956 (Calderon) - As Amended:  March 24, 2008

          Majority vote.  Fiscal committee.

           SUBJECT  :  State Board of Equalization:  sales and use taxes:   
          digital property report

           SUMMARY  :  Requires the Board of Equalization (BOE) to submit a  
          report to the Legislature on transactions involving digital  
          property within California.  Specifically,  this bill  :

          1)Contains legislative findings noting that:

             a)   The Sales and Use Tax (SUT) Law, which BOE administers,  
               imposes a tax on the gross receipts from the sale in this  
               state of, or the storage, use, or other consumption in this  
               state of, tangible personal property (TPP).  

             b)   BOE is authorized to prescribe, adopt, and enforce rules  
               and regulations relating to the administration and  
               enforcement of the SUT Law.  

             c)   Under BOE's current regulations, policies, and  
               practices, the electronic transmission of information that  
               does not involve the transfer of TPP is not taxable under  
               the SUT Law.   

             d)   The increased use and sophistication of the Internet and  
               electronic equipment like personal computers, cellular  
               telephones, and devices that store, organize, and play  
               audio and visual files has, in turn, increased the amount  
               of transactions in this state involving the electronic  
               transmission of information and "digital property" that is  
               received by a consumer through remote telecommunications  
               from a seller. 

             e)   "Digital property" includes, but is not limited to,  
               products like music, movies, and books, which, if delivered  
               in a tangible storage media, would be subject to taxation  
               under the SUT Law. 


                                                                  AB 1956
                                                                  Page  2

             f)   It is imperative that California's tax laws reflect  
               these developments in the types of transactions between  
               consumers and sellers.  

          2)Provides that, within 60 days of this bill's effective date,  
            BOE shall submit to the Legislature a report on transactions  
            involving digital property within California that includes the  

             a)   A draft of a proposed regulation that would provide that  
               sales of digital property are subject to taxation under the  
               SUT Law;

             b)   The revenue impact of the proposed regulation; and, 

             c)   Changes required to administer the proposed regulation.

          3)Exempts the adoption, amendment, or repeal of a regulation  
            authorized by this bill from the rulemaking provisions of the  
            Administrative Procedure Act.  

           EXISTING LAW  :

          1)Taxes the sale or use of TPP in California, absent a specific  

          2)Defines TPP as personal property that may be seen, weighed,  
            measured, felt, or touched, or which is in any other manner  
            perceptible to the senses.  

          3)Authorizes BOE to prescribe, adopt, and enforce rules and  
            regulations to administer the SUT Law.  

          4)Requires, as a general rule, that all regulations issued by  
            state agencies be adopted pursuant to the Administrative  
            Procedure Act, unless specifically exempted by statute.  

           FISCAL EFFECT  :  Enactment of this bill would have no direct  
          effect on the state's revenues.  However, BOE estimates that, if  
          it were to adopt a regulation subjecting digital property  
          transfers to the SUT Law, state and local revenues could  
          increase by approximately $114 million annually.  The basis for  
          this estimate includes charges for digitally transmitted goods  
          like newspapers, periodicals, books, music, video games, movies  


                                                                  AB 1956
                                                                 Page  3

          and software, which would no longer be excluded from application  
          of the SUT Law.  

           Proposition 98 Fiscal Effect  :  None  

           COMMENTS  :

          1)The author notes, "AB 1956 directs BOE to examine digital  
            property sales in California and to report back to the  
            Legislature.  The [SUT] Law was developed in the industrial  
            age and its application should be modernized to conform with  
            the realities of the 21st Century economy.  In today's  
            technological age, it makes no sense to tax CDs and DVDs and  
            exempt the same products sold in digital form.  It places  
            brick and mortar businesses, like independent music stores, at  
            a competitive disadvantage."  The author goes on to note,  
            "Every year, consumers are driving up the popularity of  
            digital downloads, while sales of CDs go down.  Digital music  
            sales tripled from 2004 to 2005.  Last year alone, 29 million  
            people bought music online --  an increase of 5 million people  
            from 2006.  Nationwide, digital music downloads total $2.6  
            billion.  If sales tax were imposed on these music downloads  
            alone, California would collect an additional $20 million in  
            revenue annually."

          2)Proponents note, "The sales of digital property such as music,  
            books, and movies has increased dramatically in recent years.   
            The vast majority of this material is sold to customers over  
            the Internet.  These products are essentially the same as  
            their tangible personal property counterparts that are sold  
            and taxed in California-based brick-and-mortar stores."   
            Supporters also note, "[I]t is important for the State of  
            California to examine the growth of this potential sales tax  
            base and the economic impact of a regulation that would make  
            taxation of this base consistent with tangible personal  
            property that is currently taxed."  

          3)Opponents note, "[I]t is irresponsible when California is  
            facing a $15 billion budget deficit to advocate for new taxes  
            which, in this case, will increase sales taxes on digital  
            media businesses.  These taxes will be borne out ultimately by  
            consumers in the form of higher prices.  This deficit will not  
            be solved by taking the easy way out and continuing to place  
            more regulatory burdens on citizens, but only by taking a hard  
            look at the cuts we must make to balance the budget and make  


                                                                  AB 1956
                                                                  Page  4

            California prosperous again."  

          4)BOE states that:

             a)   Its legal staff is generally responsible for drafting  
               any proposed regulation necessary to clarify the laws that  
               BOE administers.  Once BOE staff prepares a proposed  
               regulation, it is distributed to various interested parties  
               for their input.  Staff then meets with those parties to  
               identify and resolve any issues.  After a series of  
               meetings, BOE staff prepares discussion papers that  
               highlight any unresolved issues, and submits those papers,  
               along with the proposed regulation, to BOE's Business Taxes  
               Committee for review.  This committee then makes a  
               recommendation regarding whether BOE should authorize  
               publication of the proposed regulation.  If BOE votes to  
               authorize publication, BOE holds public hearings on the  
               proposed regulatory action, and considers written and oral  
               testimony provided by interested parties and BOE staff.  

             b)   Any action by BOE to tax retail transfers of digital  
               media would substantially deviate from existing precedent  
               and would place a significant burden on BOE to provide a  
               reasonable basis for the interpretive change.  

             c)   It would incur some administrative costs in drafting the  
               proposed regulation, notifying interested parties, holding  
               public hearings, and preparing discussion and issue papers.  
                These costs would be absorbable.  

          5)Committee staff note that:

             a)   Currently, BOE has two regulations interpreting how the  
               SUT Law applies to digitally transmitted property.   

               i)     Regulation 1502 interprets how the SUT Law applies  
                 to sales of specified data processing services.  This  
                 regulation provides that the sale or lease of a  
                 prewritten program is not a taxable transaction if the  
                 program is transferred by remote telecommunications from  
                 the seller's place of business, to or through the  
                 purchaser's computer, and the purchaser does not obtain  
                 possession of any TPP, such as storage media, in the  
                 transaction.  Likewise, the sale of a prewritten program  


                                                                  AB 1956
                                                                  Page  5

                 is not a taxable transaction if the program is installed  
                 by the seller on the customer's computer except when the  
                 seller transfers title to or possession of storage media,  
                 or installation of the program is a part of the sale of  
                 the computer.  

               ii)    Regulation 1540, in turn, discusses the application  
                 of tax to electronically transmitted works of art.   
                 Specifically, this regulation provides that a transfer of  
                 electronic artwork in tangible form is a sale.  However,  
                 a transfer of electronic artwork from an advertising  
                 agency or commercial artist to the client or to a third  
                 party on the client's behalf that is not in tangible form  
                 is not a sale of TPP, and the charges for the transfer  
                 are not subject to tax.  

             b)   BOE also has a substantial body of annotations  
               summarizing the conclusions reached in selected rulings of  
               BOE's legal staff that state that charges for remote  
               transfers of electronic data via a telecommunications  
               network are not taxable because there is no transfer of  

              This interpretation appears to be at odds with that reached  
              by a number of other states.  BOE reports that many states  
              already tax digital downloads.  These states include  
              Alabama, Arizona, Colorado, Hawaii, Idaho, Indiana,  
              Kentucky, Louisiana, Maine, New Jersey, New Mexico, South  
              Dakota, Texas, Utah, Washington, and West Virginia, as well  
              as the District of Columbia.  Moreover, the Streamlined  
              Sales Tax Project's (SST's) April 15, 2002 Tangible Personal  
              Property Issue Paper noted that, as of that date, at least  
              four states (Idaho, Louisiana, Texas, and Washington)  
              appeared to tax them on the theory that they are TPP.   

             c)   While there appears to be little guidance from  
               California courts on this issue, the Court of Appeal in  
                Searles Valley Minerals Operations, Inc. v. State Board of  
               Equalization  (2008), 160 Cal.App.4th 514, recently held  
               that electricity is TPP for purposes of the SUT Law.  In  
               its decision, the court noted:

                    Despite the obvious implications of the language of  
                    section 6016, [BOE] contends that its decision in  In  
                    the Matter of the Appeal of PacifiCorp  [citations  


                                                                  AB 1956
                                                                  Page  6

                    omitted] and other authorities require the conclusion  
                    that electricity is not [TPP] within its purview.   
                    However, [BOE's] reliance on its cited authorities is  

               In reaching its conclusion that electricity is TPP, the  
               court cited the decision in  Roth Drug, Inc. v. Johnson   
               (1936), 13 Cal.App.2d 720, 734, which defined TPP as "that  
               which is visible and corporeal, having substance and body  
               as contrasted with incorporeal property rights, such as  
               franchises, chooses in action, copyrights, the circulation  
               of a newspaper . . . and the like."  Thus, the Searles  
               Valley  court held that, "Based on the unambiguous language  
               of section 6016 and the evidence presented below, we  
               conclude that electricity is [TPP] for purposes of the  
               Sales and Use Tax Law."  It would seem to Committee staff  
               that digital downloads are more akin to electricity than  
               franchises, chooses in action, or copyrights, which are  
               clearly intangible in nature.  

             d)   A number of this bill's opponents claim that AB 1956  
               imposes "a sweeping new tax on 'digital property'" while  
               "ignoring California's Constitutional requirement that  
               California voters approve new taxes."  Not so.  AB 1956  
               does not impose any new tax.  It merely directs BOE to  
                draft  a proposed regulation subjecting digital property to  
               the state's SUT.  While any such regulation would, under  
               the terms of this bill, be exempt from the provisions of  
               the Administrative Procedure Act, BOE's lengthy study and  
               review process would still apply.  Moreover, BOE would have  
               complete discretion whether to adopt any such draft  

             e)   Opponents also state that, "By not limiting or precisely  
               defining the types of digital property subject to tax, the  
               regulation potentially imposes a new tax on all  
               electronically delivered products and goods."   
               Specifically, opponents note, "Legislation is currently  
               pending in Nebraska (LB 916) to impose tax on specified  
               digital products using the SST definitions; similar  
               legislation was recently enacted in Indiana (SB 233).   
               These two states utilized definitions that were jointly  
               developed by states and vendors of digital goods.  In both  
               states the legislation imposes tax on specified digital  
               products - a phrase that is defined to include 'digital  


                                                                  AB 1956
                                                                  Page  7

               audio works' (e.g., digital music), 'digital audiovisual  
               works' (e.g., digital movies), and 'digital books' (e.g.,  
               digital books).  These three discrete categories provide  
               vendors of digital products with certainty and clarity  
               regarding their tax collection responsibilities.  While  
               industry members still opposed the Indiana and Nebraska  
               legislation for policy reasons, the specified digital  
               products approach taken is preferable to that employed by  
               AB 1956."  This argument overlooks the fact that, even if  
               BOE were to adopt a regulation subjecting all digital  
               products to taxation, the Legislature would have full power  
               to exempt certain digital products prior to or after the  
               enactment of BOE's regulation. 

             f)   Opponents argue that taxing digital downloads would  
               "cause a significant decline in the state's tax base due to  
               decreased business activity and sizable loss of employee  
               base in the state, resulting in significant costs to the  
               state's budget rather than generating any new revenues."   
               They offer no evidence, however, for this assertion.  


          American Federation of State, County and Municipal Employees,  
          California Professional Firefighters
          California State Association of Counties 
          California Tax Reform Association  
          California Teachers Association
          Peace Officers Research Association of California

          Accounting Options
          AGx Technologies, Inc.
          Alight LLC
          American Vanpac Couriers, Inc.
          B Chem Engineering
          B.W. Implement Company
          C & H Clubs, Inc.
          Cadence Design Systems, Inc.
          California Alliance for Consumer Protection


                                                                  AB 1956
                                                                  Page  8

          California Bankers Association
          California Broadcasters Assn.
          California Business Roundtable
          California Cable & Telecommunications Association
          California Cascade Industries
          California Chamber of Commerce (behalf of itself and 106  
          business/employer organizations) 
          California Log Cabin Republicans
          California Manufacturers and Technology Association
          California Retailers Association
          California Taxpayers Association
          CAM Contractors, Inc.
          Cato Research Ltd. 
          CEM Group, Inc.
          Classic Installs, Inc.
          CMA Insurance Services
          Coastal Cardiology
          Corinthian House Residence, Inc. 
          Corona Chamber of Commerce
          Creativity, Inc
          CTIA - The Wireless Association
          Data Builders, Inc.
          Dependable Cleaning 
          Ditch Witch Equipment Co., Inc.
          DMAF Consulting  
          DRYKEF, Inc. 
          Einstein Industries, Inc.  
          Electronic Data Systems Corp.
          Elite Control, Inc. 
          EMC Planning Group, Inc. 
          Entertainment Software Association
          Esquire Plaza
          Evapco, West
          Facilitec West
          Flo-Kem, Inc. 
          Fox Entertainment Group, Inc.
          Fuller Sound/CSS Music/ D.A.W.N.
          Fullerton Chamber of Commerce
          G. A. Gertmenian & Sons
          Galaxy Desserts
          Gale Banks Engineering
          Genica Corporation 
          Greater Bakersfield Chamber of Commerce
          Green Way Building Group, Inc.
          Growers' Refrigeration and Geneva Refrigerated Truck Service


                                                                  AB 1956
                                                                  Page  9

          Harvey Titanium, Ltd.
          Heal Staffing, Inc.
          Help Me 2 Learn Company
          Hermosa Beach Chamber of Commerce and Visitors Bureau
          HR Jungle
          Howard Jarvis Taxpayers Association
          Humboldt Community Access & Resource Center (HCAR)
          Innovative Maintenance Solutions, Inc.
          Irvine Sensors Corporation
          JMR Electronics
          KASL Consulting Engineers
          Kirker Glass, Inc.
          Knight Transportation
          Laminating Company of America
          Lawyers Against Lawsuit Abuse
          La-Z-Boy West
          Live Oak Associates, Inc.
          Lodi Grading & Paving, Inc.
          LTG Associates, Inc.
          Manheim Central California
          Medical Benefits Administration, Inc.
          Microsoft Corporation
          Milpitas Chamber of Commerce
          Mission Lodge
          Morehouse Foods, Inc.
          Motion Pictures Association of America, Inc.
          Nagel Landscaping
          Napa Chamber of Commerce
          New Horizons
          NLB Corporation
          Ogletree's Inc. 
          Otto B Clean Equipment & Supply's
          Oxnard Chamber of Commerce
          Palm Desert Chamber of Commerce
          Pandora Data System, Inc.
          Pasadena Service Federal Credit Union
          Peabody Engineering & Supply Inc.
          Pier 39
          Plan-It Interactive
          Quality Metal Fabrication, LLC
          Rare Service Heating & Airconditioning, Inc.
          Reasons to Believe 
          Remote Visions, Inc. 


                                                                  AB 1956
                                                                  Page  10

          Risse Mechanical
          RPP & Van Kleeck General Contracting, Inc.
          SCP Insurance Service, Inc. 
          Santa Clara Chamber of Commerce
          Seawright Custom Precast, Inc
          Shachihata Inc. (USA)
          Sierra Pine Rocklin
          Smart Pumps, Inc.- dba -Smart Products, Inc.
          Sony Pictures Entertainment
          St. John's Retirement Village
          Stephen P. McGee, Law Offices of
          Stewart Heating & Air, Inc. 
          Superior Communications
          Tension Envelope Corp
          The Klabin Company 
          The Maynard Group
          The Spice Hunter
          Time Warner Cable, Inc.
          Tink, Inc.
          Troll Systems 
          Troy Sheet Metal Works
          VLSI Research Inc.
          Ware Malcomb
          Way Financial
          Western Jet Aviation, Inc.
          William-Sonoma, Inc.
          Z Gallerie
          ZL Technologies, Inc.
          35 Individuals

          Analysis Prepared by  :  M. David Ruff / REV. & TAX. / (916)