BILL ANALYSIS Ó
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|SENATE RULES COMMITTEE | SB 209|
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THIRD READING
Bill No: SB 209
Author: Lieu (D)
Amended: 5/24/13
Vote: 27
SENATE GOVERNANCE & FINANCE COMMITTEE : 6-1, 5/1/13
AYES: Knight, Beall, DeSaulnier, Emmerson, Hernandez, Liu
NOES: Wolk
SENATE APPROPRIATIONS COMMITTEE : 5-0, 5/23/13
AYES: De León, Hill, Lara, Padilla, Steinberg
NO VOTE RECORDED: Walters, Gaines
SUBJECT : Income taxes: exclusion: deferral: qualified
small business stock
SOURCE : Author
DIGEST : This bill reenacts a recently stuck-down income
exclusion for gains when selling qualified small business stock
(QSBS), and provides that income does not include 38% of any
gain from the sale of QSBS, held for more than five years, for
taxable years beginning on or after January 1, 2008 and before
January 1, 2013.
ANALYSIS :
Existing law:
1.The United States Constitution and discriminatory taxes . The
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U.S. Constitution grants the power to Congress to "regulate
Commerce with foreign nations, and among the several states" a
provision widely known as the Commerce Clause (Article I,
Section 8). If Congress fails to regulate interstate commerce
wholly or in part, the U.S. Supreme Court has asserted
consistently that the Constitution still precludes states from
doing so, known as the "dormant" or "negative" Commerce
Clause.
2.The QSBS exclusion . As originally enacted, the Internal
Revenue Code allowed taxpayers to defer the entire gain or
exclude from income 50% of the gain from the sale of QSBS in
specified circumstances, known as the "QSB exclusion." In
1993, California enacted its own QSB exclusion, seeking to
draw more investment into California-based firms. Taxpayers
could have claimed a deferral or income exclusion on the gain
on the sale of the stock, subject to a cap, if:
At issuance, the Corporation is a "C" Corporation with
less than 50 million in aggregate gross assets,
The taxpayer acquires stock at original issue, either in
exchange for money, other property, or as compensation for
services provided to the Corporation,
The taxpayer holds the stock for five years, and
At the date of issuance, the Corporation is a qualified
small business, and during the holding period, meets the
active business requirements,
Among other requirements, to be a qualified small business, a
corporation must have 80% of its payroll located in California
at the time of issuance. To meet the active business
requirement during the holding period, a firm must continue to
have at least 80% of its payroll in California and 80% (by
value) of the assets of the corporation used in the active
conduct of a qualified trade or business in California for
substantially all of the holding period.
This bill:
1. Reenacts QSBS deferral and 38% exclusion status with the
requirement that the firm have 80% of its payroll in the
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state at issuance. Reenactment applies to the 2008-12
taxable years.
2. Makes a continuous appropriation from the General Fund to
the Franchise Tax Board (FTB) in those amounts necessary to
make payments required by this bill.
3. Requires the FTB to waive all penalties and interest for
taxes assessed and authorizes a taxpayer to enter into a
written installment payment agreement with the FTB for the
payment of any taxes due, as a result of the decision of
Cutler v. FTB, for each taxable year beginning on or after
January 1, 2008, and before January 1, 2013.
4. Requires the FTB to waive all penalties and interest for
taxes assessed and authorizes a taxpayer to enter into a
written installment payment agreement with the FTB for the
payment of any taxes due, if specified provisions of this
bill are held invalid, ineffective, or unconstitutional by a
court of competent jurisdiction for each taxable year
beginning on or after January 1, 2008, and before January 1,
2013.
5. Makes a legislative finding and declaration regarding the
public purpose served by this bill and states that its
provisions are severable.
Background
Cutler v. FTB. Frank Cutler sued the FTB when it disallowed a
1998 gain deferral for one stock that it determined did not meet
the requirement to be treated as QSBS. Cutler argued that the
FTB was wrong and the stock did meet the requirements, but even
if it didn't, the requirement discriminated against interstate
commerce in violation of the dormant commerce clause of the U.S.
Constitution. The Board of Equalization decided against Cutler,
but he paid the tax and filed suit against FTB in Superior Court
in 2009, represented by noted tax attorney Marty Dakessian.
The trial court sided with FTB because Cutler still could not
document that the corporation that issued the stock in question
met the active business requirement, and that Cutler did not
prove the law was discriminatory. However, the Second District
Court of Appeal reversed, ruling the QSB law was discriminatory
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on its face, citing Fulton:
"A regime that taxes stock only to the degree that its issuing
corporation participates in interstate commerce favors
domestic corporations over their foreign competitors in
raising capital among North Carolina residents and tends, at
least, to discourage corporations from plying their trades in
interstate commerce."
The Appeals Court added that a discriminatory tax benefit is no
different than a discriminatory tax. Cutler v. FTB. 208
Cal.App.4th 1247 (2012). The Court cited two cases where the
California Supreme Court invalidated California tax statutes as
discriminatory: Ceridian Corp. v. FTB 85 Cal.App.4th 875
(2000), that invalidated Revenue and Taxation Code Section
24410, which provided for a dividend received deduction for
dividends paid by an 80% or more owned insurance corporation to
the extent that the insurance corporation was subject to the
California gross premiums tax, and Farmer Brothers v. FTB 108
Cal.App.4th 976 (2003), that allowed for a dividend received
deduction to the extent that the dividend payor was subject to
California corporate income or franchise tax. Similar to those
cases, the Court in Cutler found the statutory scheme
discriminatory on its face, and remanded the case to the trial
court to calculate the refund, declining a refund request. The
Court also did not attempt to sever unconstitutional aspects of
the statute from the non-discriminatory ones. FTB did not
appeal.
On December 21, 2012, FTB issued notice 2012-03 stating that
because the Appeals Court held the statutory scheme of the QSB
exclusion discriminatory, the only possible remedy that FTB as
an administrative agency bound by California Constitution's
Article 3, Section 3.5 could issue that would treat all
taxpayers the same was to invalidate all QSB deferrals and
exclusions taxpayers claimed in each taxable year within the
statute of limitations, which is 2008, while allowing refund
claims for prior years. FTB updated its Web site to include new
FAQs in regards to the issue on February 28, 2013, directing
affected taxpayers to file amended returns without QSB deferrals
or exclusions back to 2008, and pay any tax due as a result.
FTB states that it started sending notices of proposed
assessment, which are essentially tax bills, on April 11th to
ensure collection before the statute of limitations expires for
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the 2008 taxable year for taxpayers who did not voluntarily
waive the statute of limitations.
FISCAL EFFECT : Appropriation: No Fiscal Com.: Yes
Local: No
According to the Senate Appropriations Committee, this bill as
amended on May 24, 2013, could result with the bill having no
aggregate net impact on General Fund revenues.
AB:nk 5/24/13 Senate Floor Analyses
SUPPORT/OPPOSITION: NONE RECEIVED
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