BILL ANALYSIS                                                                                                                                                                                                    Ó




                                                                  SB 506
                                                                  Page A
          Date of Hearing:  June 27, 2011

                     ASSEMBLY COMMITTEE ON REVENUE AND TAXATION
                                Henry T. Perea, Chair

                    SB 506 (Simitian) - As Amended:  June 21, 2011


          Majority vote.  Fiscal committee.  

           SENATE VOTE  :  39-0
           
          SUBJECT  :  State finance:  warrants

           SUMMARY  :  Revises the statutory provisions that allow any 
          taxpayer named as a payee on a registered warrant (RW) to 
          satisfy certain tax liabilities by issuing a check that cannot 
          be cashed until the RW is redeemable.  Specifically,  this bill  :

          1)Provides that, if the state issues a RW to pay principal or 
            interest on a "state bond" that is held in book entry form by 
            a securities settlement system, the bond's beneficial owner 
            shall be deemed to be the taxpayer permitted to submit a check 
            to pay taxes owed.

          2)Allows the bond's beneficial owner to submit a check to the 
            appropriate state agency in payment of a tax liability.  Such 
            a check must be accompanied by evidence of bond ownership and 
            such other information as the State Controller prescribes.  

          3)Bars the state from cashing the beneficial owner's check until 
            the RW is payable.   

          4)Bars any beneficial owner who submits such a check from 
            receiving interest accruing on the RW after the date of the 
            check's submission.  Moreover, the beneficial owner must 
            promptly repay the state any interest accruing on the RW after 
            the date of submission that may be paid to or ultimately 
            received by the beneficial owner.  

          5)Provides that, upon submitting such a check to the state in 
            payment of a tax liability, the beneficial owner shall not be 
            permitted to sell, transfer, or assign its beneficial 
            ownership of the "state bond " until the RW has been redeemed 
            by the state and the beneficial owner has repaid any interest 









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            received that is attributable to the period after the check's 
            submission.

          6)Defines a "state bond" as any general obligation bond or 
            revenue anticipation note issued by the state.  

          7)Authorizes the State Controller to promulgate implementing 
            regulations.

          8)Specifies that no state entity shall take any action that 
            would materially adversely impair, limit, or restrict the 
            rights of a beneficial owner of a state bond, as set forth in 
            Government Code (GC) Section 17280.1, or any successor 
            provision, as that provision was in effect when the person or 
            party became a beneficial owner of the state bond, until the 
            state bond is fully paid.  

          9)Makes other conforming changes to the GC.  

           EXISTING LAW  :

          1)Allows any taxpayer named as a payee on a RW to satisfy their 
            liability for certain taxes by issuing a check in an amount no 
            greater than the RW, exclusive of any interest thereon.  In 
            such cases, the state may not present the check for payment 
            until the RW is payable upon its presentation to the State 
            Treasurer.  These provisions apply only to liabilities for 
            personal income taxes and bank and corporation taxes.  İGC 
            Section 17280.1(a)] 

          2)Precludes any taxpayer who submits a check pursuant to the 
            above provisions from receiving interest on the RW from the 
            date the check is submitted.  İGC Section 17280.1(b)]  

          3)Provides that, if a tax liability is paid with a RW that is 
            redeemable at the time the tax liability is paid, specified 
            interest shall be credited to the taxpayer's account.  İGC 
            Section 17280.2]  

           FISCAL EFFECT  :  Unknown

           COMMENTS  :   

          1)The author has provided the following statement in support of 
            this bill:









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               Some major corporations in California are currently 
               precluded from investing in California debt because 
               California debt does not meet the companies' investment 
               criteria.  A remedy to this problem exists in current law 
               but the statute needs to be updated.  

               In the past, ownership of bonds was in a paper form.  Now, 
               those documents are in electronic form.  This bill defines 
               the beneficial owner of a registered warrant, issued for 
               the principal or interest due on a state bond that is held 
               in book entry by a security settlement system, to be the 
               taxpayer who is permitted to submit the check in payment of 
               existing taxes.  

               The original statute was drafted during a time when most 
               bond owners had paper certificates showing that they own 
               the bonds.  As advancements have been made, electronic 
               systems have been created so that the owner no longer has a 
               "coupon" to clip. 

               While this is a technical issue the clarification will 
               remove an impediment so that California corporations can 
               invest in California bonds in the unlikely event that a 
               registered warrant is ever issued for its bond obligation, 
               the corporation can use the warrant to offset tax 
               liabilities.  

          2)Proponents state:

               Due to concerns over the state's fiscal condition, many 
               Fortune 500 companies are limited in their ability to 
               invest in California state-issued bonds.  Corporate 
               treasuries are bound by strict investment criteria to 
               ensure good returns to shareholders at a minimum risk.  SB 
               506 will help to improve the attractiveness of these 
               investments by allowing warrants to be used to pay taxes, 
               providing greater investment certainty.  This process will 
               provide the security necessary for these firms İto] invest 
               in California debt, thereby bringing potential new buyers 
               to market.    

          3)Committee Staff Comments:

              a)   RWs  :  In normal times, the state issues warrants to 









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               satisfy its obligations to vendors, contractors, hospitals, 
               workers, and other entities.  Warrants are the government 
               equivalent of checks, and are issued by the State 
               Controller.  During periods of serious cash shortfalls, 
               however, the state may have to issue RWs.  This occurs 
               when, after ranking all of the state's obligations and 
               setting aside money that must be set apart for higher 
               ranking obligations, the State Controller determines that 
               there are insufficient funds to pay a warrant.  In such 
               cases, a warrant is registered, and the state promises to 
               pay the face value as soon as money is available.        

              b)   When did the State Controller last issue RWs?  :  On June 
               24, 2009, the State Controller announced plans to issue RWs 
               in an effort to manage the state's cash crisis.  To ensure 
               the General Fund's ability to make priority status 
               payments, the State Controller's Office began issuing RWs 
               (also known as IOUs) on July 2, 2009, for all General Fund 
               payments without priority status under the Constitution, 
               federal law, or court order.  These RWs earned interest at 
               a rate of 3.75% as determined by the State Pooled Money 
               Investment Board.  

              c)   RWs and tax liabilities  :  Since 1983, state law has 
               allowed any taxpayer named as a payee on a RW to satisfy 
               their liability for certain taxes by issuing a check in an 
               amount no greater than the RW, exclusive of any interest 
               thereon.  In such cases, the state may not present the 
               check for payment until the RW is payable upon its 
               presentation to the State Treasurer.  These provisions 
               currently apply only to liabilities for personal income 
               taxes and bank and corporation taxes.  

              d)   What would this bill do  ?:  This bill provides that, in 
               the unlikely event the state issues RWs to pay interest or 
               principal owed on state bonds, the beneficial owners<1> of 
               those bonds will be able to satisfy certain tax liabilities 
               by issuing a check, which the state may not cash until the 
               RWs are redeemable.  

             --------------------------
          <1> While not explicitly defined in this bill, the term 
          "beneficial owner" describes a situation where specific property 
          rights in equity belong to a person even though legal title to 
          the property belongs to another (i.e., a financial intermediary 
          holding bonds for another's benefit).  








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              e)   Arguments in support  :  Many companies are apparently 
               reluctant to invest in California bonds, given concerns 
               over the state's creditworthiness.  If the state were ever 
               forced to issue RWs to pay bondholders, this bill would 
               enable the beneficial bond owners (and not the financial 
               intermediaries who may hold legal title) to use the RWs to 
               satisfy existing tax liabilities.  Proponents argue that 
               this assurance will incentivize additional investment in 
               California debt.  

              f)   Unintended consequences?  :  

               i)     Given existing concerns over the value of 
                 California's bonds, the Senate Governance and Finance 
                 Committee questioned whether the state should "put into 
                 practice a statutory process that assumes bondholders 
                 will be paid in warrants, something that's never happened 
                 before and could only come to pass in apocalyptic 
                 circumstancesİ.]"  The analysis further states, "The 
                 measure may give current and future investors in the 
                 state's debt caution when they see that the state is 
                 explicitly creating a process not to pay in the 
                 accustomed medium of cash."  Proponents of this bill, 
                 however, counter that existing law already contemplates 
                 the issuance of RWs to pay state bonds.  Specifically, 
                 they point to GC Section 17280, which provides in full:

                    If at any time it is necessary to register warrants 
                    for the payment of principal and interest on State 
                    bonds, warrants so registered have a prior lien in the 
                    order of their issuance on any money thereafter 
                    received into the General Fund, and shall be paid 
                    before any other warrants regardless of the prior 
                    issuance of the latter.  

               ii)    Committee staff fully appreciates that this bill is 
                 designed to alleviate the concerns of certain 
                 corporations that are hesitant to invest in California 
                 bonds.  Nevertheless, it seems highly improbable that the 
                 state would ever attempt to satisfy its bond payment 
                 obligations by issuing RWs.  If California were to reach 
                 this "apocalyptic" scenario, allowing large companies to 
                 satisfy their corporate tax liabilities through RWs would 
                 only exacerbate an already dire situation.  Then again, 
                 proponents note that this bill really only clarifies that 









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                 beneficial bond owners (and not the financial 
                 intermediaries who hold legal title) shall be able to 
                 take advantage of existing tax payment provisions for RW 
                 recipients.  Absent this bill, if the state were to issue 
                 RWs to the financial intermediaries directly, they could 
                 conceivably use the RWs to satisfy their own tax 
                 liabilities.    

              g)   Open questions and conflicting legislation  :  Currently, 
               the special tax payment provisions available to RW 
               recipients only apply to personal income tax and 
               corporation tax liabilities.  Earlier this year, however, 
               this Committee heard AB 1044 (Butler), which would expand 
               these provisions to cover taxes, fees, and surcharges paid 
               to the State Board of Equalization (BOE), provided certain 
               conditions are met. 

               AB 1044 would also delete the somewhat cumbersome 
               provisions requiring the submission of a check.  Instead, 
               AB 1044 would allow entities to satisfy tax and fee 
               liabilities by simply submitting the original RW, signed on 
               the reverse side by the payee and endorsed as payable to 
               the agency to which the liability is owed.  

               Finally, AB 1044 would codify apparent tax agency practice 
               by precluding those who submit a RW from receiving interest 
               on the warrant except in cases where the warrant is 
               redeemable at the time of its submission.  

               AB 1044 was voted out of this Committee on a 9-0 vote on 
               May 2, 2011, and is currently pending in the Senate 
               Governance and Finance Committee. 

               SB 506 seeks to amend two of the very same code sections 
               amended by AB 1044 - GC Sections 17280.1 and 17280.2.  SB 
               506, however, is inconsistent with AB 1044 in the following 
               three respects:

               i)     SB 506 retains the check submission procedures 
                 outlined in current law, while AB 1044 provides for the 
                 endorsement of the original RW.  This inconsistency could 
                 potentially be resolved by allowing beneficial bond 
                 owners to submit checks (because they may not have 
                 physical possession of the RW) and by requiring all other 
                 taxpayers to endorse their original RW.  









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               ii)    SB 506 repeatedly provides that a taxpayer shall not 
                 be entitled to any interest accruing on the RW "after the 
                 date the taxpayer İsubmits] the check . . . ."  The 
                 logical inference is that the taxpayer is, in fact, 
                 entitled to interest for the period from the RW's 
                 issuance to its submission.  AB 1044, however, eases tax 
                 agency administration by providing that a taxpayer shall 
                 only be entitled to interest on a RW if the RW is 
                 redeemable when presented.  

               iii)   Finally, while AB 1044 would extend the special tax 
                 payment provisions to taxes and fees owed to the BOE, SB 
                 506 retains the provisions limiting eligible liabilities 
                 to personal and corporation tax liabilities.  SB 506 
                 does, however, modify GC Section 17280.1 to provide that 
                 checks shall be submitted "to the appropriate state 
                 agency responsible for collection of İthe] tax . . . ."  
                 Given that one agency, the Franchise Tax Board, is 
                 charged with collecting both personal and corporation tax 
                 liabilities, this language may lead to inadvertent 
                 confusion on the part of some taxpayers, unless the bill 
                 is, in fact, expanded to other tax liabilities.  

              h)   Double-referral  :  This bill was double referred with the 
               Assembly Committee on Banking and Finance, which passed the 
               bill out on a 9-0 vote on June 20, 2011.  For additional 
               discussion of this bill, please refer to that committee's 
               analysis.  

           REGISTERED SUPPORT / OPPOSITION  :

           Support 
           
          Apple Inc. 
          Cisco Systems, Inc. 
          eBay Inc. 
          Google Inc. 
          Oracle Corporation
          Qualcomm Inc. 
          TechAmerica
          TechNet 
           
            Opposition 
           









                                                                  SB 506
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          None on file

           Analysis Prepared by  :  M. David Ruff / REV. & TAX. / (916) 
          319-2098