BILL ANALYSIS Ó
AB 1399
Page A
( Without Reference to File )
CONCURRENCE IN SENATE AMENDMENTS
AB 1399 (Medina and V. Manuel Pérez)
As Amended August 22, 2014
Majority vote. Tax levy
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|ASSEMBLY: | |(May 16, 2013) |SENATE: |35-0 |(August 27, 2014) |
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(vote not relevant)
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|COMMITTEE VOTE: |9-0 |(August 29, 2014) |RECOMMENDATION: |concur |
|(Rev. & Tax.) | | | | |
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Original Committee Reference: J., E.D. & E.
SUMMARY : Establishes the California New Markets Tax Credit Program
(Program), with the stated purpose of stimulating private sector
investment in lower income communities, as specified.
The Senate amendments delete the Assembly version of this bill, and
instead:
1)Contain the following legislative findings:
a) While many areas of California have recovered from the
economic and community development impacts of the 2006
Financial Crisis and the 2010 global recession, Californians
in a number of communities and neighborhoods are still
experiencing their lingering effects. In some cases, this has
resulted in small and medium businesses in low-income areas
lacking sufficient access to capital and technical assistance.
Given that California has many needs and limited resources,
moneys from the private sector are necessary to fill this
capital and investment gap.
b) Initially enacted in 2000, the Federal Government
established the New Markets Tax Credit (NMTC) Program, which
uses a market-based approach for expanding capital and
technical assistance to businesses in lower income
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communities. The federal program is jointly administered by
the Community Development Financial Institutions Fund (CDFI
Fund) and the Internal Revenue Service. The NMTC Program
allocates federal tax incentives to community development
entities (CDEs), which they then use to attract private
investors who contribute funds that can be used to finance and
invest in businesses and develop real estate in low-income
communities.
c) Through the 2013-14 funding round, the CDFI Fund had
awarded approximately $40 billion in NMTC in 836 awards
including $3 billion in American Recovery and Investment Act
of 2009 awards and $1 billion of special allocation authority
to be used for the recovery and redevelopment of the Gulf
Opportunity Zone.
d) The federal NMTC totals 39% of the original investment
amount in the CDE and is claimed over a period of seven years
(5% for each of the first three years, and 6% for each of the
remaining four years). Any investment by any taxpayer in the
CDE redeemed before the end of the seven-year period will be
recaptured.
e) Fourteen states in the United States (U.S.) have adopted
state programs using the NMTC model including Alabama,
Florida, Illinois, Nevada, and Oregon. While some of the
programs substantially mirror the federal program, others vary
in both the percentage of the credit and some of the policies
that form the foundation of the credit. One of the reasons
cited for establishing state-level programs is to make a state
more attractive to CDEs, which results in increasing the
amount of federal NMTCs being utilized in the state. Further,
several studies, including a January 1, 2011, case study by
Pacific Community Ventures, showed that for every dollar of
foregone tax revenue, the federal NMTC leverages $12 to $14 of
private investment.
2)Require the California Alternative Energy and Advanced
Transportation Financing Authority (CAEATFA) to determine the
amount of the $100 million in exclusions not granted in the
assigned calendar year under Public Resources Code (PRC) Section
26011.8. An amount equal to that amount shall be granted in the
subsequent calendar year through the Program.
3)Require the California Competes Tax Credit Committee (Committee)
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and the Governor's Office of Business and Economic Development
(GO-Biz) to administer the Program.
4)Allow, for taxable years beginning on or after January 1, 2015,
and before January 1, 2027, a credit in an amount determined in
accordance with Internal Revenue Code (IRC) Section 45D, as
modified. For a taxpayer holding a "qualified equity investment"
on that investment's "credit allowance date", the credit shall
equal a percentage of the amount paid to a "qualified CDE" for
such investment at its original issue. The applicable percentage
shall be:
a) 0% with respect to the first two "credit allowance dates";
b) 7% with respect to the third "credit allowance date"; and,
c) 8% with respect to the remainder of the "credit allowance
dates."
5)Modify the federal definition of a "qualified CDE" to include
only those qualified CDEs (and their subsidiaries) that have
entered into an allocation agreement with the CDFI Fund of the
U.S. Treasury Department, with respect to credits authorized by
IRC Section 45D, that includes California within the service area
and is dated on or after January 1, 2012.
6)Modify the federal definition of a "qualified active low-income
community business" as follows:
a) Allows the services of employees of a service-based
qualified active low-income community business to be performed
outside the low-income community. "A service-based qualified
active low-income community business" is defined as a business
that primarily earns revenue through providing intangible
products and services and leases or owns real property in the
low-income community that is used for the operation of the
business;
b) A qualified active low-income community business shall not
include any business that derives, or projects to derive, 15%
or more of its annual revenue from the rental or sale of real
estate, subject to certain exceptions;
c) A qualified active low-income community business shall only
include a business that, at the time the initial investment is
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made, has 250 or fewer employees and is located in one or more
California low-income communities;
d) A qualified active low-income community business shall only
include a business located in specified census tracts based on
poverty and unemployment rates;
e) A qualified active low-income community business shall not
include any business that operates or derives revenues from
the operation of a country club, gaming establishment, massage
parlor, liquor store, or golf course;
f) A qualified active low-income community business shall not
include a sexually oriented business, as defined; and,
g) A qualified active low-income community business shall not
include a charter school.
7)Provide that the aggregate amount of qualified equity investments
that may be allocated in any calendar year under the Program
shall be an amount based upon any unused portion of the $100
million in exclusions, authorized under Revenue and Taxation Code
Section 6010.8, as determined by CAEATFA and reported to the
Committee, not to exceed an amount based upon a credit of $40
million.
8)Require the Committee to limit the allocation of investments that
may be designated to a cumulative total amount based on credits
of no more than $200 million.
9)Require GO-Biz to establish a process for the recapture of
credits. Specifically modifies federal law to add the following
events triggering a credit recapture:
a) The qualified CDE fails to invest at least 15% of the
qualified equity investment in a qualified low-income
community business in consultation or partnership with either
of the following:
i) A qualified CDE that has not received a federal NMTC
allocation on or after January 1, 2012, as specified; or,
ii) A nonprofit organization certified by GO-Biz, as
specified.
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b) The qualified CDE made an investment without performing a
revenue impact assessment that satisfies this bill's
requirements.
10)Provide that enforcement of each of the recapture provisions
shall be subject to a six-month cure period. Specifically,
recapture shall not occur until the qualified CDE gives notice of
potential noncompliance to GO-Biz and is afforded six months to
cure the noncompliance.
11)Provide that in cases where a qualified CDE fails to send the
required notice of potential noncompliance or GO-Biz has
information from the annual report or other sources indicating
that the entity is in potential noncompliance, GO-Biz shall send
the notice, and the date GO-Biz sends the notice shall begin the
six-month cure period.
12)Provide that if a qualified CDE makes a capital or equity
investment or a loan with respect to a qualified low-income
building under the state Low-Income Housing Tax Credit Program,
the investment or loan is not a qualified low-income community
investment under the Program.
13)Require GO-Biz to adopt guidelines necessary or appropriate to
carry out its responsibilities with respect to the allocation of
the qualified equity investments and recapture of credit. The
adoption of these guidelines shall not be subject to the
rulemaking provisions of the Administrative Procedure Act
(Government Code Section 11340 et seq.).
14)Require GO-Biz to establish and impose reasonable fees upon
entities that apply for an allocation that, in the aggregate,
defray the cost of reviewing applications.
15)Require GO-Biz to adopt an allocation process that does all of
the following:
a) Creates an equitable distribution process that ensures that
low-income community populations across the state are engaged
and have an opportunity to benefit from the Program;
b) Sets minimum organizational capacity standards that
applicants must meet to receive an allocation, as specified;
c) Considers the qualified CDE's prior qualified low-income
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community investments under IRC Section 45D;
d) Considers the qualified CDE's prior qualified low-income
community investments under the Program;
e) Does not require the qualified CDE to identify the
qualified active low-income community businesses in which the
qualified CDE will invest in an application for qualified
equity investment allocation; and,
f) Does not disqualify a low-income community investment for
the single reason that public or private incentives, loans,
equity investments, technical assistance, or other forms of
support have been or continue to be provided.
16)Provide that GO-Biz shall begin accepting applications on or
before May 15, 2015, and shall award authority to designate
qualified equity investments annually through 2019, to the extent
that allocations are available under PRC Section 26011.9.
17)Provide that, in the 2015 awards cycle, the Committee shall
award authority to designate qualified equity investments to
qualified CDEs in the order applications are received by the
Committee.
18)Provide that, in the 2016 to 2019 award cycles, at least 60% of
the authority shall be awarded in the order applications are
received by the Committee.
19)Require the Committee to award up to 40% of the authority in the
2016 to 2019 award cycles to qualified CDEs on a competitive
basis using blind scoring and a review committee comprised of
community development finance practitioners.
20)Authorize an approved applicant to transfer all or a portion of
its certified qualified equity investment authority to its
controlling entity or any subsidiary qualified CDE of the
controlling entity, provided the applicant and the transferee
notify the Committee within 30 calendar days of such transfer.
The transferee shall be subject to the same rules, requirements,
and limitations applicable to the transferor.
21)Provide that a qualified CDE shall only make a qualified
low-income community investment that demonstrates a positive
revenue impact on the state over a 10-year period against the
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aggregate tax credit utilization over the same 10-year period, as
specified.
22)Require a qualified CDE that issues qualified equity investments
to submit a report to GO-Biz within the first five business days
after the first anniversary of the initial credit allowance date
that provides documentation as to the investment of at least 85%
of the purchase price in qualified low-income community
investments in qualified active low-income community businesses
in California.
23)Include additional reporting requirements.
24)Provide that a taxpayer allowed a credit under the Program for a
qualified equity investment shall not be eligible for any other
state credit with respect to that investment.
25)Provide that GO-Biz and the Committee shall only make authority
awards in a calendar year in which the Legislature appropriates
funds in the California New Markets Tax Credit Fund, which this
bill creates.
26)Provide that this bill shall take immediate effect as a tax
levy.
27)Sunset the credit provisions on December 1, 2028.
28)Declare that the provisions of this bill are severable.
EXISTING LAW :
1)Allows various tax credits under both the Personal Income Tax Law
and the Corporation Tax Law. These credits are generally
designed to encourage socially beneficial behavior or to provide
relief to taxpayers who incur specified expenses.
2)Establishes the Committee, which has specified duties in regard
to tax credits for economic development.
3)Imposes an annual tax on the gross premiums of an insurer, as
defined, doing business in this state at specified rates.
4)Allows a credit equal to 20% of each qualified investment into a
community development financial institution that is certified by
the California Organized Investment Network (COIN). The
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aggregate amount of qualified investments is generally capped at
$50 million for each calendar year. Thus, the statewide total
for all credits allowed under the program is capped at $10
million per year (i.e., 20% of $50 million).
AS PASSED BY THE ASSEMBLY , this bill authorized GO-Biz, and its
director, to expend specified economic development funds previously
administered by the Business, Transportation and Housing Agency.
FISCAL EFFECT : Assuming future implementing legislation, the
Franchise Tax Board indicates that this bill will result in a
General Fund (GF) revenue loss of $1.5 million in fiscal year (FY)
2016-17, $5.4 million in FY 2017-18, and $10 million in FY 2018-19.
COMMENTS : The author has provided the following statement in
support of this bill:
Small businesses create jobs in our communities and
are key economic drivers within California's $2
trillion economy. Central to their success is
accessing debt and equity financing. Small businesses
rely on adequate short-term (working capital) and
long-term debt, as well as, equity financing to build
and expand facilities, purchase new equipment,
replenish inventories, and market their services.
While financial institutions routinely extend working
capital and long-term debt to larger businesses,
smaller size businesses located in historically
underserved areas are often bypassed.
AB 1399 creates a $200 million state New Markets Tax
Credit Program for the purpose of attracting federal
New Market Tax Credit activities in order to stimulate
economic development and investment in lower income
areas of California. For a $200 million investment,
these lower income communities will gain access to
over $500 million in capital.
What is a "tax expenditure"? Existing law provides various
credits, deductions, exclusions, and exemptions for particular
taxpayer groups. In the late 1960s, U.S. Treasury officials began
arguing that these features of the tax law should be referred to as
"expenditures" since they are generally enacted to accomplish some
governmental purpose and there is a determinable cost associated
with each (in the form of foregone revenues).
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How is a tax expenditure different from a direct expenditure? As
the Department of Finance notes in its annual Tax Expenditure
Report, there are several key differences between tax expenditures
and direct expenditures. First, tax expenditures are reviewed less
frequently than direct expenditures once they are put in place.
This can offer taxpayers greater certainty, but it can also result
in tax expenditures remaining a part of the tax code without
demonstrating any public benefit. Second, there is generally no
control over the amount of revenue losses associated with any given
tax expenditure. Finally, it should also be noted that, once
enacted, it takes a two-thirds vote to rescind an existing tax
expenditure absent a sunset date. This effectively results in a
"one-way ratchet" whereby tax expenditures can be conferred by
majority vote, but cannot be rescinded, irrespective of their
efficacy, without a supermajority vote.
This bill: This bill would enact a new tax expenditure program
modeled after the federal NMTC, with the stated purpose of
stimulating private sector investment in lower income communities.
The federal NMTC: Congress established the federal NMTC program as
part of the Community Renewal Tax Relief Act of 2000 to encourage
investment in low-income communities that have traditionally lacked
access to capital. The federal NMTC program provides taxpayers
(e.g., individual investors, financial institutions, corporations,
etc.) a credit for investing in economically distressed
communities. Specifically, the credit is allowed for a taxpayer's
qualified equity investment in a CDE, which must be a corporation
or partnership. The CDE's primary mission must be serving, or
providing investment capital for, low-income communities or
low-income persons, as certified by the Secretary of the Treasury.
The taxpayer's federal NMTC totals 39% of the qualified equity
investment made in the CDE, but is spread over a seven-year period
as follows:
a) A 5% credit for the year the qualified equity investment is
purchased and for the first two years thereafter (i.e., 15%
for the first three years); and,
b) A 6% credit for years four through seven (i.e., 24% for the
subsequent four years).
In recent years, private investors have claimed more than $1
billion in NMTCs annually.
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The federal NMTC program is administered by the CDFI Fund within
the U.S. Treasury. The CDFI Fund allocates tax credit authority to
CDEs that apply for and obtain allocations.<1> These CDEs, in
turn, enable private investors to obtain credits in exchange for
equity investments with the CDEs. The CDEs then invest the raised
capital in qualified low-income community investments, which
include investments in operating businesses and residential,
commercial, and industrial projects. While the range of projects
financed by CDEs varies, roughly 50% of NMTC investments have been
used for commercial real estate projects.
The federal NMTC program expired in 2013, but legislation has been
introduced to extend it, and the President requested a permanent
extension in his FY 2015 budget proposal.
How would the Program differ from the federal NMTC? The Program
would differ from the federal NMTC in numerous respects, including
the following:
a) Different credit percentages over the seven-year period:
While the proposed state credit, like the federal credit,
totals 39% of the taxpayer's investment in a qualified CDE,
the state credit would be spread out over the seven-year
period as follows:
i) 0% for the year the investment is purchased and the
following year (i.e., 0% for the first two years);
ii) A 7% credit for the third year; and,
iii) An 8% credit for years four through seven (i.e., 32%
for the subsequent four years).
It is Committee staff's understanding that this "back-loading"
of the credit percentages is designed to reduce the Program's
upfront cost to the GF.
b) Modified definition of a qualified active low-income
community business: This bill modifies the definition of a
"qualified active low-income community business" in several
respects. For example, under federal law, a substantial
----------------------------
<1>
In the 11 allocation rounds since 2003, the CDFI Fund has made
allocations to CDEs totaling $40 billion.
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portion of the services performed for such a business by its
employees must be performed in a low-income community. This
bill arguably dilutes that requirement for "service-based"
qualified active low-income community businesses.
Specifically, this bill allows the services of employees of a
service-based business to be performed outside the low-income
community. The business would, however, be required to lease
or own real property in the low-income community for the
operation of its business.
In some respects, however, this bill's definition of a
"qualified active low-income community business" is more
restrictive than the federal definition. For example, under
this bill, any business that derives 15% or more of its annual
revenue from the rental or sale of real estate would generally
be excluded from the definition. In addition, the state
definition is limited to businesses that, at the time the
initial investment is made, have 250 or fewer employees.
Does California have any similar tax credit programs? While
California does not conform to the federal NMTC, state law does
allow a 20% credit for each "qualified investment" in a CDFI
certified by COIN. The aggregate amount of qualified investments
is generally capped at $50 million for each calendar year.<2>
Thus, the statewide total for all credits allowed under the program
is capped at $10 million per year (i.e., 20% of $50 million).
Unlike the federal NMTC, the "qualified investment" in the CDFI
must be at least $50,000, be for a minimum duration of 60 months,
and may consist of either an equity investment or a deposit or loan
that does not earn interest.
Existing law defines a "CDFI", in turn, as a private financial
institution located in California that has community development as
its primary mission, and that lends in urban, rural, or
reservation-based communities in this state. Specifically, a
"CDFI" may be a community development bank, a community development
loan fund, a community development credit union, a microenterprise
fund, a community development corporation-based lender, or a
community development venture fund.
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<2> State law provides that if the aggregate amount of qualified
investments made in a calendar year is less than $50 million, the
difference may be carried over to the next year, and any succeeding
year during which the credit remains in effect, and added to the
aggregate amount authorized for those years.
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The existence of California's stand-alone CDFI tax credit raises
some interesting issues. Namely, California already has a tax
credit program specifically designed to encourage private
investment in underserved markets. Given this fact, does it makes
sense to establish a second tax credit program with the same goal?
If this bill were enacted in its present form, California would
have two similar tax credit programs, administered by two separate
entities, with an unclear level of coordination between the two.
Additional economic development tools currently available: Just
last year, California dramatically restructured its tax-based
economic development strategy. Specifically, the state phased out
the oft-criticized Enterprise Zone program and replaced it with
three new tools. First, the state adopted a new hiring credit
designed to increase employment in former Enterprise Zones and
areas with high unemployment and poverty. Second, the state
authorized GO-Biz to allocate credits based on specified factors,
including the number of jobs the taxpayer will create or retain,
and the extent of unemployment or poverty in the area in which the
taxpayer's project or business is proposed or located. Finally,
the state enacted a sales and use tax exemption for purchases of
manufacturing equipment made by specified taxpayers.
Government Accountability Office report: A recent report issued by
the U.S. Government Accountability Office (GAO) found that better
controls and data are needed to ensure the effectiveness of the
federal NMTC program. Specifically, the report noted that the
financial structures of NMTC investments have become increasingly
complex and less transparent over time. This increased complexity,
in turn, was attributed to the combining of the NMTC with other
federal, state, and local government funds. The GAO's survey of
CDEs determined that approximately 62% of NMTC projects received
other federal, state, or local government support from 2010 to
2012. The report acknowledged that combining public financing from
multiple sources can fund projects that would otherwise not be
economically viable. At the same time, however, this combination
raises questions about whether the subsidies are unnecessarily
duplicative. In addition, the report found that, "in some cases
the complexity of the structures may be masking rates of return for
NMTC investors that are above market rates." The GAO specifically
pointed to a U.S. Treasury report that found an investor apparently
earning a 24% rate of return, which is significantly above market
rates. In that case, the investor leveraged the NMTC by using
other public funds to increase the base for claiming the credit.
The report found that the U.S. Treasury does not currently have
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controls to limit the risk of unnecessary duplication in government
subsidies or above market rates of return. The report found that,
"[w]ithout such guidance and controls the impact of the NMTC
program on low-income communities could be diluted." The GAO also
found that the data on equity remaining in low-income community
businesses after the seven-year credit period were unreliable
because, in part, reporting instructions are unclear. Similarly,
data on NMTC project failure rates were unavailable.
Thus, the GAO recommended that the U.S. Treasury issue further
guidance on how other government programs can be combined with
NMTCs. The GAO also recommended the implementation of adequate
controls to limit the risks of unnecessary duplication and
above-market rates of return. Finally, the GAO also recommended
the collection of more complete and accurate data on, among other
things, the equity remaining in businesses after seven years, along
with loan performance.
Proposed credit percentages: As noted above, the proposed state
credit, like the federal credit, totals 39% of the taxpayer's
investment in a qualified CDE. Thus, this bill would allow a
taxpayer to obtain combined federal and state credits equal to 78%
of the taxpayer's investment, even in cases where the federal
credit alone would be sufficient to render a low-income community
investment economically feasible. Thus, this credit may, in some
cases, reward taxpayer behavior that would have taken place even
without a state subsidy, resulting in so-called "deadweight loss."
FTB legal concerns: The FTB notes the following in its staff
analysis of this bill:
This bill would restrict the NMTC to investments in
California. This bill could raise constitutional
concerns under the Commerce Clause of the United
States Constitution because it could appear to
improperly favor in-state activity over out-of-state
activity. On August 28, 2012, (Cutler v. Franchise
Tax Board), the Court of Appeal issued a unanimous
opinion holding that California's Qualified Small
Business Stock statutes were unconstitutional.
Specifically, the Court of Appeal held that the
statutory scheme's requirement of a large California
presence in order to qualify for an investment
incentive discriminated against interstate commerce,
and therefore violated the federal dormant commerce
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clause. While no court decision has yet invalidated,
as a general matter, state income tax credits that
provide an incentive for in-state activity, i.e.,
property placed in service in the state, employees
employed in the state, etc., targeted tax credits such
as the NMTC in California may be subject to
constitutional challenge.
Federal law allows states to impose a
non-discriminatory franchise tax on federal
securities. This bill would allow a credit for
investment in entities that make loans to entities
engaged in a trade or business in low-income
communities. The credit provides an indirect subsidy
by encouraging these loans over investments in federal
securities and providing more favorable tax benefits
for making the loan instead of holding federal
securities. As a result, this tax benefit could be
considered to result in discrimination against
investments in federal securities and thus a violation
of the federal prohibition of discriminatory state
taxation of federal securities.
Analysis Prepared by : M. David Ruff / REV. & TAX. / (916)
319-2098
FN: 0005584