BILL ANALYSIS
AB 692
Page 1
CONCURRENCE IN SENATE AMENDMENTS
AB 692 (Charles Calderon)
As Amended August 26, 2009
Majority vote
-----------------------------------------------------------------
|ASSEMBLY: |51-17|(May 11, 2009) |SENATE: |22-12|(September 1, |
| | | | | |2009) |
-----------------------------------------------------------------
Original Committee Reference: REV. & TAX.
SUMMARY : Specifies the circumstances when a federal regulation
or federal administrative guidance is considered to be "in
conflict with" the provisions of the Personal Income Tax (PIT)
Law and Corporation Tax (CT) Law
The Senate amendments delete the legislative findings and
declarations in this bill and add double-jointing language to
avoid chaptering out problems with AB 1580 (Revenue and Taxation
Committee) pending in the Senate.
EXISTING FEDERAL LAW allows a corporate taxpayer to carry
forward a net operating loss (NOL) for 20 years, or carry it
back for two years, to reduce future or past taxable income, as
long as the corporation's legal identity is maintained. After
certain asset acquisitions in which the acquired corporation
goes out of existence, the acquired corporation's NOL carry
forwards, generally, are inherited by the acquiring corporation.
However, in order to limit tax-motivated acquisitions of loss
corporations, the use of those NOLs and other carry forwards may
be subject to special limitations. Generally, the acquiring
corporation may use the acquired corporation's losses in the
amount equal to the value of the acquired corporation, measured
by the value of its stock immediately before the acquisition,
multiplied by the long-term tax exempt rate, a base interest
rate computed by the Internal Revenue Service (IRS).
EXISTING STATE LAW conforms to the Internal Revenue Code (IRC)
either by reference to federal law as of a "specified date" or
by stand-alone language that mirrors the federal provision.
Currently, certain provisions of the PIT Law and CT Law are
conformed to the IRC as of January 1, 2005, unless otherwise
provided. Where state law conforms to federal law, Revenue and
Taxation Code (R&TC) Sections 17024.5 and 23051 provide that
AB 692
Page 2
temporary and final regulations issued by the United States
(U.S.) Treasury Department apply to California, unless the
regulations conflict with state law or state regulations. Even
though the R&TC is silent with respect to other federal
administrative guidance and pronouncements, such as IRS notices,
Franchise Tax Board (FTB) has consistently followed such
guidance.
AS PASSED BY THE ASSEMBLY , this bill specified the circumstances
when a federal regulation or federal administrative guidance is
considered to be "in conflict with" the provisions of the PIT
Law and CT Law. Specifically, this bill :
1)Contained various legislative findings and declarations
regarding the issuance and repeal of the IRS Notice 2008-83,
2008-42 Internal Revenue Bulletin 905, relating to the
treatment of deductions under IRC Section 382(h) following an
ownership change.
2)Provided, expressly, that federal administrative guidance
regarding an interpretation of a provision of the IRC that was
applicable to the PIT Law or CT Law apply as administrative
guidance issued by the FTB, but only to the extent that the
guidance "does not conflict with" the PIT Law or CT Law,
whichever was applicable, or with regulations issued by the
FTB.
3)Defined "federal administrative guidance" as federal revenue
rulings, notices, revenue procedures, announcements, or other
published administrative guidance promulgated by the
Commissioner of Internal Revenue or the Chief Counsel of the
IRS. Specified that "federal administrative guidance"
excluded private letter rulings or any other administrative
guidance issued by the Commissioner or the Chief Counsel of
the IRS with respect to a particular taxpayer.
4)Provided that the phrase "conflict with this part" included,
but was not limited to, any temporary or final federal
regulation or any federal administrative guidance that, except
as otherwise provided, constituted a substantive change in
federal law that was inconsistent with the statute or statutes
to which such advice related or was beyond the scope of the
Secretary of the Treasury's authority.
5)Specified that, unless otherwise specifically provided,
AB 692
Page 3
federal regulations or any federal administrative guidance do
not apply for purposes of PIT and CT laws prior to the
applicable date, as provided.
FISCAL EFFECT : According to the Franchise Tax Board (FTB) legal
staff concluded that Notice 2008-83 has no legal effect for
purposes of California tax laws and, therefore, FTB staff
estimates that this bill will have no revenue impact with regard
to Notice 2008-83. The provision authorizing FTB to make a
determination with respect to certain federal income regulations
or other administrative guidance may impact PIT or CT revenue in
the future. However, the impact of that provision cannot be
estimated at this point.
COMMENTS : According to the author, this bill is also needed to
ensure that, in the future, the Legislature's authority to enact
laws is not impinged by any federal notice or guidance of
doubtful legal authority and that General Fund (GF) revenues are
protected.
The proponents believe that this measure is necessary to protect
California's GF from losing desperately-needed tax revenue.
Proponents argue that, while the FTB has already taken
regulatory action to address this issue, this bill will bolster
FTB's efforts and will provide heightened legal assurances to
the FTB's actions against any legal challenges.
IRC Section 382, originally added to the IRC in 1954 and
completely re-written in 1986, was enacted to limit
tax-motivated acquisitions of loss corporations. Prior to the
enactment of IRC Section 382, corporations with large losses
were attractive to buyers with large taxable income simply
because the acquired corporation's losses could be used to
reduce the buyer's taxable income and, effectively, the cost of
acquisition. The limitations currently in place preclude a
buyer from using the NOLs and built-in losses of the acquired
entity at a rate that is faster than the rate at which the
acquired corporation could have used them if it had sold its
assets and invested the proceeds in tax-exempt governmental
obligations. Built-in losses are also subject to special
limitations because they are economically equivalent to
pre-acquisition NOL carry forwards. If "built-in losses were
not subject to limitations, taxpayers could reduce or eliminate
the impact of the general rules by causing a loss corporation
(following an ownership change) to recognize its built-in losses
AB 692
Page 4
free of the special limitations" and "then invest the proceeds
in assets similar to the assets sold." (General Explanation of
the Tax Reform Act of 1986, Joint Committee on Taxation, p. 298,
May 4, 1987). The purpose of this IRC Section 382 limitation is
to make losses a neutral factor in a corporate acquisition.
Generally, IRS administrative pronouncements are issued without
much notice from the public, but the issuance of Notice 2008-83
created quite a controversy. The questions were raised
regarding the circumstances under which Notice 2008-83 was
issued and the Treasury Department's legal authority to
substantively change a 22-year old tax law that limits the use
of losses by banks following acquisitions. Some current and
former congressional staff members, as well as many tax
attorneys, concluded that the Treasury Department had no
authority to issue Notice 2008-83 (See, e.g., A Quiet Windfall
for U.S. Banks, by Amit R. Paley, Washington Post, Page A01,
November 10, 2008). It was reported, however, that days after
the tax rule was changed, "Wells Fargo moved to acquire Wachovia
Corp., whose losses on loans could reach more than $70 billion,"
and "PNC Financial Services Group, which recently acquired
National City Corp, could receive as much as $5 billion in tax
savings." Bush's tax breaks for banks could cost California $2
billion, Evan Harper, Los Angeles Times, November 11, 2008.
Congress put the controversy to rest when it enacted the Act,
which President Obama signed on February 17, 2009. The Act
clearly states that Notice 2008-83 was inconsistent with the
congressional intent in enacting IRC Section 382 and that the
Treasury Department's legal authority to prescribe Notice
2008-83 was doubtful. Therefore, the Act repealed Notice
2008-83, but grandfathered in the acquisitions that occurred
prior to January 16, 2009. Notice 2008-83 is also effective for
acquisitions that occurred after January 16, 2009, if any
ownership change was pursuant to a written binding contract
entered on or before that date, or under a written agreement
entered into on or before that date, if the agreement was
described on or before January 16, 2009, in a public
announcement or in a filing with the Securities and Exchange
Commission required by reason of such ownership change.
Even though Notice 2008-83 was repealed by Congress as of
January 16, 2009, a few bank acquisitions that took place prior
to that date still qualify for the preferential tax treatment
bestowed on them by the U. S. Treasury Department, albeit
illegally. Thus, for federal tax purposes, Notice 2008-83
AB 692
Page 5
applies retroactively for all open years; apparently, it was
done to protect the reliability of guidance letters, generally,
and to avoid punishing taxpayers that relied on Notice 2008-83.
No such problems exist for California. The FTB did not issue
that Notice 2008-83 and, even though as a practical matter, FTB
has consistently followed federal administrative guidance in the
past, including notices, there was no reason for taxpayers to
rely on Notice 2008-83 for California tax purposes because it
was clearly indefensible as a matter of substantive law. If
California were to conform to the policy articulated by the IRS
in Notice 2008-83, or were to allow the notice to apply
retroactively it would, in effect, be using state revenue to
help fund federal bank bailouts that took place before January
16, 2009.
Federal and state laws are very complex and taxpayers are often
overburdened with, if not overwhelmed by, the differences in
California and federal tax laws. Generally, conformity to
federal law improves taxpayer compliance and reduces
administrative costs incurred by tax agencies in auditing
taxpayers. The issuance of Notice 2008-83, however, highlighted
the risks of conforming to federal law and federal
administrative guidance and pronouncements. When, on those rare
occasions, a federal agency unwittingly exceeds its authority to
interpret existing federal law, California may suffer disastrous
consequences and lose revenues, without ever being consulted on
the matter. This bill expressly provides that federal
administrative guidance regarding an interpretation of a
provision of the Internal Revenue Code that is applicable to the
PIT Law or CT Law applies as administrative guidance issued by
the FTB, but only to the extent that the guidance "does not
conflict with" the PIT Law or CT Law, whichever is applicable,
or with regulations issued by the FTB. The phrase "in conflict
with" includes, but is not limited to, any federal regulation
or administrative guidance that constitutes a substantive change
in federal law that is inconsistent with the statute to which
such advice relates or is beyond the scope of the Secretary of
the Treasury's authority. By allowing FTB to make that type of
a determination with regard to federal administrative
interpretations of law to which California conforms, this bill
will provide additional safeguards against future "Notices
2008-83".
AB 11 (De Leon), introduced in the 2009-10 Regular Legislative
Session, clarifies that IRS Notice 2008-83 does not apply for
AB 692
Page 6
purposes of state income tax laws. AB 11 passed the Assembly
Floor with a vote of 75-0 and was transmitted to the Senate.
Analysis Prepared by : Oksana Jaffe / REV. & TAX. / (916)
319-2098
FN: 0002481