BILL ANALYSIS Ó
SENATE GOVERNANCE & FINANCE COMMITTEE
Senator Lois Wolk, Chair
BILL NO: SB 414 HEARING: 5/8/13
AUTHOR: Knight FISCAL: Yes
VERSION: 2/20/13 TAX LEVY: Yes
CONSULTANT: Grinnell
PERSONAL INCOME TAXES AND CREDITS: STEM TEACHERS
Enacts tax credits for aerospace employers paying wages and
reimbursing tuition.
Background and Existing Law
California provides various tax credits designed to provide
incentives for tax-payers that incur certain expenses, such
as child adoption, or to influence behavior, including
business practices and decisions, such as research and
development credits and Geographically Targeted Economic
Development Area (GTEDA) credits. The Legislature
typically enacts such tax incentives to encourage taxpayers
to do something, but for the tax credit, they would not
otherwise do.
California has two tax credits that reward employers for
hiring employees, subject to restrictions. The GTEDA
hiring credits allow employers within enterprise zones and
similar economic development areas to claim may claim a tax
credit of 50% of the wages paid to a qualified employee in
the first year, 40% in the second year, 30% in the third
year, 20% in the fourth year, and 10% in the fifth year, up
to 150% of the minimum wage. Additionally, the New Jobs
Credit allows a credit of $3,000 for each additional
employee hired by a business with less than 30 employees
measured on a full-time equivalent basis.
Federal law allows individuals to claim tax credits of up
to $2,500 per year for tuition, fees, and materials in the
first four years of postsecondary education, known as the
American Opportunity Credit, and the Lifetime Learning
Credit of up to $2,000 per year for similar expenses
incurred in undergraduate and graduate education regardless
of how long the taxpayer has been enrolled.
SB 414 - 2/20/13 -- Page 2
The aerospace industry in California began with a few
aircraft builders around World War I, and then vastly
expanded in the mobilization for World War II, ac-cording
to the National Aeronautical and Space Administration.
After that, the industry grew in the cold war to encompass
a wide range of activities, including military and civilian
aircraft, reconnaissance and communications satellites,
strategic missiles, and space exploration. By the 1980s
about 40% of the American missiles and space business
resided in southern California, as did about one-third of
the aerospace engineers, and the industry as a whole there
employed close to a half-million people
One of the region's strongest selling points for aerospace
was its environment: the clear blue skies and ample open
spaces that were ideal for testing new air-craft.
California also was home to a variety of other related
industries, particularly petroleum, as well as to top-notch
research universities and a large labor pool.
However, in 1985, defense spending peaked at $557 billion
(in constant fiscal 2009 dollars) and then began a downward
trend. When the Soviet Union collapsed in December 1991,
the Cold War came to an end, accelerating the decline of
U.S. defense budgets, and causing significant change in the
aerospace industry: in the next decade, more than 50 major
defense companies consolidated into only six. According to
the Employment Development Department's Labor Market
Information Division, employment in Aerospace Product and
Manufacturing declined almost by half from 139,300 in 1993
to 70,800 in 2013, although almost all of the decline
occurred before 2004. Additionally, defense spending is
expected due to fall due to the implementation of the
"sequester."
Proposed Law
Senate Bill 414 adds two credits against the Personal
Income Tax and the Corporation Tax for employer payments of
wages, and tuition reimbursement for employees working
directly in the aerospace industry or for a contractor who
does:
A credit equal to 50% of the amount of tuition
reimbursement the employer provides a full-time
employee. The tuition must be paid by the employee to
SB 414 - 2/20/13 -- Page 3
the University of California or the California State
University, and cannot include the costs of books,
fees, or room and board. The taxpayer may only claim
the credit in the first four taxable years in which he
or she employs the employee, who must have completed
an undergraduate or graduate engineering program in
the last year.
A credit equal to 10% of the qualified wages an
employer pays an employee that received a degree from
a public or private college within California, or 5%
of wages if the degree was awarded by an out-of-state
university to the employee, with a maximum of $12,500.
The taxpayer may only claim the credit in the first
five taxable years in which he or she employs the
employee, who must be employed on a full-time basis.
Taxpayers may carry over both credits for four years.
Franchise Tax Board may make rules, guidelines, or
procedures necessary to implement the bill, but the bill
provides that the Administrative Procedures Act doesn't
apply to any rules FTB issues.
State Revenue Impact
According to the Franchise Tax Board, SB 414 results in
revenue losses of $19 million in 2013-14, $26 million in
2014-15, and $37 million in 2015-16.
Comments
1. Purpose of the bill . According to the author,
"Aerospace industry jobs in California reduced by more than
6,000 between 2005 and 2010. In contrast, Washington State,
home of the second highest number of aerospace and defense
jobs behind California, increased by 16,026 jobs. Rather
than incentivizing the creation of these high skill and
high wage positions, California has, during this same
period (2005-2010), increased the collection of state
business income and gross receipts taxes by more than $109
million. Many aerospace businesses in California also have
footprints in competitor states. With the added financial
and regulatory burdens on an industry with astronomical
operational costs, businesses are choosing the less
expensive option and expanding in Washington, Texas,
SB 414 - 2/20/13 -- Page 4
Florida, and Arizona. With the unemployment rate in
California hovering nearly 2% above the national average,
and the expiration of an enterprise zone which formally
benefited many aerospace businesses in the Antelope Valley,
California must take drastic steps to create incentives for
companies to remain and thrive in California. This bill
strikes the perfect balance between two of the greatest
challenges facing California today, higher education costs
and a struggling economy. Students that might otherwise
find the challenges of completing a four year engineering
or mathematics degree too overwhelming will now by
encouraged to complete their education. These students will
be more willing to continue investing in their education if
a future employer is incentivized to reimburse a portion of
those costs. In addition, these students will have the
security of knowing a vast number of jobs in the exciting
and innovative field of aerospace will available upon their
graduation."
2. Sure, but will it work ? Tax benefits directed at
specific industries do two things: First, they reward
behavior that would have occurred without the subsidy,
so-called "deadweight loss." Some aerospace product
manufacturers won't employ more persons, pay higher wages,
or reimburse more tuition because of the tax benefit,
instead increasing returns to capital in amount equal to
the amount of the tax credit. In these instances, the
state receives no marginal benefit, and transfers wealth
from purposes it would otherwise spend money on for
government purposes to the manufacturer. Second, the bill
may compel additional employment, wage payments, and
tuition reimbursement; the incentive will lower production
costs at the margin in an amount necessary for producers to
choose to make products in California instead of somewhere
else. The Committee may wish to consider how much
additional employment SB 412 will spur versus its
deadweight loss, assuming that California wants to enter
into zero-sum tax competition with other states.
Second, enacting a new exemption requires cuts in state
spending in education, public safety, or other health and
human service programs that benefit the public at large,
that match the foregone revenue due to SB 412. The
Committee may wish to consider whether the foregone revenue
resulting from this manufacturing incentive is worth the
tradeoff of cuts in spending or taxes on other activities
SB 414 - 2/20/13 -- Page 5
that it necessitates.
3. Performance measures . Most bills granting tax benefits
set forth an economic indicator or series of economic
indicators that its author expects will improve as a result
of a tax credit. For example, bills heard by the Committee
exempting manufacturing equipment from the sales tax have
used:
Increased employment for manufacturing, research
and development, and associated industries,
Siting for new and expanded manufacturing and
research and development facilities in this state,
Capital investment in manufacturing equipment and
all other tangible personal property.
The now-expired Manufacturer's Investment Credit sunset in
2003 due to its failure to meet necessary levels of
employment in the manufacturing sector the Legislature
required be met for the credit to continue. However, SB
414 doesn't set forth the indicators that it expects to
change as a result of the credit: aerospace product
manufacturing employment, wage levels, amounts of tuition
reimbursement, or similar indicators from associated
industries. Additionally, the measure doesn't have a
sunset. The Committee may wish to consider how the state
can determine the success or failure of SB 414's credits
without compelling any performance standards and a sunset
requirement.
4. The angel of death . In Cutler v. FTB . 208 Cal.App.4th
1247 (2012), the Second District Court of Appeal ruled that
California Qualified Small Business Stock (QSB) deferral
and exclusion discriminated against interstate commerce in
violation of the dormant commerce clause of the United
States Constitution. The Court ruled that the QSB
exclusion unfairly treated interstate commerce by providing
a substantial benefit to taxpayers who buy stock in
corporations that maintain 80% of its payroll in California
during the period of time the taxpayer holds the stock,
citing decisions by the United States and California
Supreme Courts striking down taxes and tax benefits as
discriminatory that legislatures have enacted to help
in-state businesses. Because of Cutler, any tax incentive
for companies that incur expenses in California but not in
other states, such as SB 414, may violate the Constitution
and carry with it the risk that Courts may order refunds
SB 414 - 2/20/13 -- Page 6
requiring the state to retroactively and prospectively
grant the same incentives for investments California
taxpayers make in other states. The Committee may wish to
consider deferring action on new tax incentives until
Courts or Congress give states further direction regarding
what's allowed and what's not with in-state tax incentives,
and further determine the state's refund risk.
5. Hiring credits . Economists generally favor broad based
taxes at low rates to spread the costs of providing public
services broadly throughout the economy. A hiring credit
is counter to the economic theory and is therefore by its
nature inefficient; generally, employers should only employ
so many individuals at such a wage that allows them to meet
the demand for their product or service at the lowest cost,
and hiring credits at their best subsidize overemployment.
Economists agree that if the state does have a hiring
credit, it makes more sense to focus on harder to hire
individuals, such as the long-term unemployed, and applied
on a statewide basis to any industry willing to hire an
eligible person. The Committee may wish to consider
whether hiring credits are a wise investment, and whether
SB 414's focus on aerospace is better suited toward the
long-term unemployed.
6. Technicals . Franchise Tax Board and committee staff
recommend replacing the bill's references to "person and
entity" with "taxpayer" and "qualified taxpayer," and
change "net tax, as defined in Section 17039" with "tax, as
defined in Section 23036."
Support and Opposition (05/02/13)
Support : Antelope Valley College Division of Mathematics,
Antelope Valley Hispanic Chamber of Commerce; Antelope
Valley Union High School District, Science, and
Engineering, City of Lancaster, BOE Member George Runner,
Greater Antelope Valley Association of Realtors.
Opposition : None received.