BILL ANALYSIS Ó
AB 1369
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Date of Hearing: May 27, 2011
ASSEMBLY COMMITTEE ON APPROPRIATIONS
Felipe Fuentes, Chair
AB 1369 (Gatto) - As Amended: May 18, 2011
Policy Committee: Revenue and
Taxation Vote: 8-0
Urgency: No State Mandated Local Program:
No Reimbursable:
SUMMARY
This bill disallows deductions for expenses attributable to
income derived by a taxpayer from specified illegal activities.
Specifically, this bill:
1)Expands existing law by denying deductions for expenses,
including deductions for costs of goods sold, attributable to
the taxpayer's gross income directly derived from certain
criminal profiteering activities.
2)Describes the criminal profiteering activities to include any
act or omission punishable under the "California Control of
Profits of Organized Crime Act" of Penal Code (PC) Section
186.2, dealing with a controlled substance enumerated in the
Health and Safety Code and unlawful referrals (insurance
fraud) specified in the Insurance Code.
3)Specifies that a prior, final determination by a court of
competent jurisdiction in any criminal proceedings, or any
proceeding in which the state, county, city, or other
political subdivision was a party on the merits of the
legality of the taxpayer's activities, is required in order
for this bill's provisions to apply.
4)Takes effect immediately as a tax levy.
FISCAL EFFECT
The Franchise Tax Board (FTB) estimates that this bill would
result in an annual gain of $50,000 in fiscal year (FY) 2010-11,
$150,000 in FY 2011-12, $250,000 in FY 2012-13, $350,000 in FY
AB 1369
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2013-14, and $450,000 in FY 2014-15.
COMMENTS
1)Purpose . The author states this bill would allow FTB to deny
a deduction for expenses, including costs of goods sold or
derived from criminal profiteering activity or illegal profits
against insured property and insurers. This bill expands the
definition of illegal activities subject to the disallowance
of claimed expenses or the cost of goods sold. The proponents
of this bill argue that fraudulent claims "account for a
significant portion of all claims received by insurers, and
cost billions of dollars annually," and that those who commit
insurance fraud "should not be able to profit from a tax
deduction for expenses attributed to income derived from their
criminal activities."
2)Background . Existing federal law provides that all income,
from whatever source derived, is included in a taxpayer's
gross income, including income obtained from illegal business
activities, actual crimes or unethical or immoral business
practices. A taxpayer is allowed to deduct from the gross
income all ordinary and necessary business expenses, including
expenses attributable to an illegal business. Notwithstanding
the general rule, illegal payments such as bribes and
kickbacks are not deductible, nor are losses from illegal
activities allowed if there is a clear public policy that
supports denying the deductions. Special rules apply in the
case of business activities involving drug trafficking. In
those cases, all deductions are expressly disallowed.
State law is similar to federal law but goes further, denying
deductions from gross income if the income is directly derived
from illegal activities relating to lotteries, gaming, or
horse racing. Similar restrictions apply to disallow
deductions, including cost of goods sold, from gross income
for other specified illegal activities including pimping or
pandering, larceny, obscene matter, robbery, burglary, illegal
sales of controlled substances, embezzlement and indecent
exposure.
3)Support . On December 4, 2002, FTB voted 2-0 to support the
language included in this bill, with the Director of Finance
abstaining. Tax evasion cases prosecuted on behalf of the FTB
in recent years highlighted the need to expand the denial of
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deduction to other criminal activities. In cases involving
crimes against the elderly and insurance fraud, FTB
investigators were required to allow deductions for expenses
directly related to the income from the illegal activity to
determine taxable income. State attorneys prosecuting the
cases were frustrated and concerned about the limited nature
of California's existing disallowance provisions. Absent
specific inclusion of the crime charged in the list of crimes
for which deductions are denied, the penalties available to
prosecutors could be limited.
4)Related Legislation . AB 1746 (Revenue and Taxation
Committee), introduced in the 2007-08 legislative session, is
almost identical to this bill. AB 1746 failed passage on the
Assembly Floor on a 46-1 vote.
5)There is no registered opposition to this bill .
Analysis Prepared by : Roger Dunstan / APPR. / (916) 319-2081