BILL ANALYSIS Ó Senate Appropriations Committee Fiscal Summary Senator Kevin de León, Chair SB 434 (Hill) - Personal Income and Corporation Taxes: Hiring Credits: Enterprise Zones, LAMBRAs, Manufacturing Enhancement Areas and Targeted Tax Areas Amended: May 7, 2013 Policy Vote: G&F 5-2 Urgency: No Mandate: Yes Hearing Date: May 20, 2013 Consultant: Robert Ingenito This bill does not meet the criteria for referral to the Suspense File. Bill Summary: SB 434 would make substantial changes to Enterprise Zone (EZ) hiring credits, vouchers and disclosure requirements. Fiscal Impact: The Franchise Tax Board (FTB) estimates that implementing this bill would lead to increased General Fund revenues of $120 million in 2013-14, $220 million in 2014-15, and $260 million in 2015-16. In addition, FTB indicates that the bill's other changes to hiring credits within Manufacturing Enhancement Areas (MEAs), Targeted Tax Areas, and Local Agency Military Base Recovery Areas (LAMBRAs) would likely lead to additional revenues; however, they cannot be estimated at this time. FTB anticipates that the deterrents in this bill with respect to the new penalty for violating the prohibition on charging contingency fees would likely result in minor penalty revenue increases (General Fund). Some penalties would be assessed after enactment, but would decline in subsequent years as taxpayers and tax preparers become aware of the new law. FTB would incur implementation costs related to changes to the department's forms, the creation of a searchable database, and staff training. The additional costs are unknown (pending the resolution of FTB implementation concerns), but likely exceed $50,000 annually (General Fund). Background: Enterprise Zones (EZs) are geographic areas designated by the State that provide for substantial tax incentives for business activities conducted within their SB 434 (Hill) Page 1 borders. Cities and counties apply to the Department of Housing and Community Development (HCD) for zone designation based on unemployment rates, participation in subsidized meal programs, median resident income, recent plant closures, gang activity, and certain other socio-economic characteristics. Statutory authority allows for the creation by HCD of up to 42 zones for a 15-year period. Currently, the State has 40 designated zones; two zones were allowed to expire in 2012. EZs are widespread throughout the State and result in various tax benefits for virtually all types of industries. As a result of the various incentives granted by the Legislature through the EZs and other similar programs, the annual revenue impact on the state is on the order of $750 million and growing. The most significant EZ incentive is the hiring credit. Employers inside an enterprise zone may claim a tax credit of 50 percent of the wages paid to a qualified employee in the first year, 40 percent in the second year, 30 percent in the third year, 20 perent in the fourth year, and 10 percent in the fifth year, up to 150 percent of the minimum wage. Businesses or consultants submit applications to qualify employees to zone managers, who grant the firm or consultant a voucher certifying eligibility if the employee qualifies. The firm then claims the credit on its tax return. Qualified employees include individuals: Eligible for job training programs. Eligible for most social welfare programs. Economically disadvantaged. A "dislocated worker," as defined. A disabled individual who is eligible or enrolled in a state rehabilitation plan. Service connected veteran. Ex-offender. Member of a federally recognized Indian tribe. Taxpayers engaged in a trade or business within an EZ may take a credit equal to the sales or use tax paid during the taxable year in connection with the purchase of qualified property. Qualified property includes specified machinery and machinery parts, data processing and communications equipment, and motion picture manufacturing equipment central to production and SB 434 (Hill) Page 2 postproduction. The total cost of qualified property that may be taken into account for purposes of claiming this credit may not exceed $1 million for PIT filers and $20 million for CT filers. Moreover, the qualified property must be used by the taxpayer exclusively in an EZ. Proposed Law: SB 434 would make significant changes to the hiring credit within the EZ program, while maintaining the current number of designated zones, beginning on January 1, 2014 as follows: In order to qualify for any credit, the taxpayer must have experienced an increase in total jobs throughout the State from one year to the next. The credit percentages in the bill drop to 10 percent in the first year; 30 percent in the second year; 50 percent in the third year; 30 percent in the fourth year and 10 percent in the fifth year. Prohibits taxpayers from a temporary agency, as defined by the National Association of Industry Classification Codes (NAICS) from receiving the hiring credit. Requires taxpayers that move into an Enterprise Zone to provide an "offer of transfer" to its employees with comparable compensation. Taxpayers must provide the hiring credit voucher certification annually. SB 434 requires the FTB to compile a list of the hiring credit vouchers claimed and number of new jobs created for each taxable year. Retro-vouchering. Beginning on January 1, 2014, taxpayers may only amend a return to claim the hiring credit for one year. With respect to LAMBRA's and MEAs, the bill would require a net new jobs calculation and would change the credit percentages; all other provisions are unchanged. The percentages are: 10 percent in the first year, 10 percent in the second year, 30 percent in the third year, 40 percent in the fourth year and 50 percent in the fifth year. Prohibits a person from charging a contingency fee, as defined, for services rendered in connection with a tax credit relating to an enterprise zone, a LAMBRA, a SB 434 (Hill) Page 3 manufacturing enhancement area, or a targeted tax. The governmental entity responsible for administering the tax shall impose a penalty equal to the amount of the contingency fee or $5,000, whichever is greater, for persons who fail to comply. The bill would sunset the hiring credit for LAMBRAs, MEAs, Targeted Areas, and EZs on January 1, 2019. Related Legislation: SB 133 (DeSaulnier, 2013) would limit the size of a specified enterprise zone. AB 28 (V. Perez, 2013) would make various six programmatic/fiscal changes improvements to geographically-targeted economic development area programs, relating to cost, transparency and accountability. Staff Comments: The Legislative Analyst reports that in 2010, the hiring and sales tax credits resulted in $698 million of reduced corporation and personal income tax revenues. This amount has grown at an average annual rate of 18 percent since 2000, about six times faster than the rate of the state budget over the same period. The number of EZs is expected to decline as authorizations expire. Two EZs, Watsonville and Antelope Valley, were allowed to expire in 2012. The 2013-14 May Revision also proposes to reform the EZ program. Its summary document notes that "in its current form, it fails to encourage the creation of new jobs and instead rewards moving jobs from one part of the State to another." The proposal would be revenue-neutral.