BILL ANALYSIS                                                                                                                                                                                                    



                                                                  AB 1173
                                                                  Page  1

          Date of Hearing:   May 24, 2013

                        ASSEMBLY COMMITTEE ON APPROPRIATIONS
                                  Mike Gatto, Chair

                  AB 1173 (Bocanegra) - As Amended:  March 21, 2013 

          Policy Committee:                              Revenue and  
          Taxation     Vote:                            9-0

          Urgency:     No                   State Mandated Local Program:  
          No     Reimbursable:              

           SUMMARY  

          This bill reduces the excise tax penalty from 20% to 5% on an  
          amount deferred under a nonqualified deferred compensation  
          (NQDC) plan that is not subject to a substantial risk of  
          forfeiture and does not meet the requirements of Internal  
          Revenue Code (IRC) Section 409A (Section 409).  

           FISCAL EFFECT  

          The Franchise Tax Board (FTB) estimates revenue losses of $4.7  
          million in fiscal year (FY) 2013-14, $3.2 million in FY 2014-15,  
          and $3.4 million in FY 2015-16.

           COMMENTS  
           
          1)Purpose  .  The author notes the relevant provisions of federal  
            law were created after Enron executives accelerated  
            nonqualified deferred compensation payments as the company was  
            going bankrupt.  Federal law is meant to prevent powerful  
            executives from manipulating the timing of their compensation.  
             According to the author, Treasury regulations have, however,  
            interpreted Section 409 broadly and California's entertainment  
            industry has been adversely affected by Section 409A.  Movie  
            studios often enter into agreements with actors, directors,  
            producers and writers whereby the talent provides services in  
            one year with a right under the agreement to receive  
            compensation in a later year, upon the occurrence of one or  
            more events (e.g., a film achieving a specified level of box  
            office receipts).  The author explains arrangements like these  
            may be considered deferred compensation plans, potentially  
            covered under Section 409A and be subject to an increase of  








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            the federal income tax rate by an additional 20%.

            The author contends, California's automatic incorporation of  
            the federal pension rules doubles the potential tax liability  
            in Section 409A, by imposing an additional 20% penalty under  
            California income tax law, resulting in potential taxes,  
            interest and penalties that potentially exceed 100% of the  
            total payments received.

           2)Support  .  Supporters, including the California Chamber of  
            Commerce and a broad representation of business interests,  
            argue doubling the federal tax penalty on employees who have  
            the least knowledge and ability to influence compliance is  
            neither logical nor fair.  No other state imposes such an  
            onerous penalty for Section 409A violations.  While the  
            additional 20% federal penalty amounts to more than 50% of the  
            top federal tax rate, the California 20% penalty tax amounts  
            to 200% of the top California tax rate for residents other  
            than millionaires.
                
            3)Background  .  AB 1173 lowers the potential tax penalty rate  
            from 20% to 5% for nonqualified deferred compensation plans  
            subject to Internal Revenue Code Section 409A (Section 409A).   
            In general, Section 409A requires that the timing of the  
            nonqualified deferred compensation payments be established in  
            advance of when the services are performed.  If these payments  
            do not meet strict limitations, Section 409A increases the  
            federal income tax rate by an additional 20%.  Adopting the  
            same penalty as the federal government is not in line with  
            state penalty practices.  For example, existing federal tax  
            law imposes a 10% withdrawal penalty on early distributions  
            made from certain qualified deferred compensation plans.   
            California imposes a similar penalty but at the rate of 2.5%,  
            which is roughly 25% of the federal penalty.
                
            4)California's Conformity  .  AB 1122 (Corbett), Chapter 35,  
            Statutes of 2002, conformed California to several provisions  
            of the Economic Growth and Tax Relief Reconciliation Act of  
            2001 relating to pension and retirement accounts.   
            Specifically, California has conformed to Subchapter D of  
            Chapter 1 of Subtitle A of the IRC, which contains IRC  
            Sections 401 through 420.  When Congress enacted Section 409A  
            as part of the American Jobs Creation Act of 2004, California  
            automatically conformed to those provisions.  In doing so,  
            California imposed its own 20% penalty, without legislative  








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            approval, on amounts deferred under a NQDC plan not meeting  
            specified requirements.

           5)There is no registered opposition to this bill.
           


           Analysis Prepared by  :    Roger Dunstan / APPR. / (916) 319-2081