BILL ANALYSIS                                                                                                                                                                                                    

                            Senator Lois Wolk, Chair

          BILL NO:  SB 1372                     HEARING:  4/24/14
          AUTHOR:  DeSaulnier                   FISCAL:  Yes
          VERSION:  4/21/14                     TAX LEVY:  Yes
          CONSULTANT:  Grinnell                 

                          CORPORATION TAXES: TAX RATES

          Replaces a publicly traded corporation's current tax rate  
          with a ratebased on a ratio between its top paid employee  
          and the median compensation it pays. 

                           Background and Existing Law  

          A multistate firm generates profits based on its operations  
          in many states, and has a right under the U.S. Constitution  
          to divide income between these states for tax purposes, a  
          process known as "apportionment," to ensure that no state  
          taxes more than its fair share of that firm's income.  In  
          California, C-Corporations pay 8.84% of apportioned net  
          income in corporation tax, with banks paying 2% more,  
          regardless of whether the firm is publicly traded.

          Economic data shows increasing inequality in wage income  
          between executives, especially CEOs, and employees.   
          According to the Bureau of Labor Statistics, real earnings,  
          or wages before inflation, are lower than in 2008, flat  
          over the last decade, and below its peak in 1973.  The  
          Economic Policy Institute states that individuals in the  
          bottom 70% of the wage scale have stagnant or declining  
          wages since 2002, while wages for the 95th percentile have  
          steadily grown during the same period.  Meanwhile, surveys  
          of executive compensation among publicly traded firms show  
          continued growth: The USA Today states that CEOs employed  
          this year and last year by S&P 500 companies had total  
          compensation growth of 13% in 2013.  Concerned about this  
          increasing inequality, the author wants to change the  
          corporation tax rate for publicly traded companies to  
          reflect the ratio between top executive compensation and  
          median worker compensation.

                                   Proposed Law  


          SB 1372 (DeSaulnier) - 4/21/14 -- PageB

          Starting in the 2015 tax year, Senate Bill 1372 changes the  
          corporation tax rate for publicly traded corporations,  
          including wholly owned subsidiaries, according to a ratio  

               The greater of the chief operating officer or highest  
               paid employee's pay for the calendar year before the  
               current taxable year, over 
               The median compensation of all employees' employed by  
               the taxpayer in the United States.

          |                              |                             |
          |If the compensation ratio is: |The applicable tax rate is:  |
          |                              |                             |
          |Over zero but not over 25     |7% upon the basis of net     |
          |                              |income                       |
          |                              |                             |
          |Over 25 but not over 50       |7.5% upon the basis of net   |
          |                              |income                       |
          |                              |                             |
          |Over 50 but not over 100      |8% upon the basis of net     |
          |                              |income                       |
          |                              |                             |
          |Over 100 but not over 150     |9% upon the basis of net     |
          |                              |income                       |
          |                              |                             |
          |Over 150 but not over 200     |9.5% upon the basis of net   |
          |                              |income                       |
          |                              |                             |
          |Over 200 but not over 250     |10% upon the basis of net    |
          |                              |income                       |
          |                              |                             |
          |Over 250 but not over 300     |11% upon the basis of net    |
          |                              |income                       |
          |                              |                             |
          |Over 300 but not over 400     |12% upon the basis of net    |
          |                              |income                       |


          SB 1372 (DeSaulnier) - 4/21/14 -- PageC

          |                              |                             |
          |Over 400                      |13% upon the basis of net    |
          |                              |income                       |

          The bill defines compensation differently for the  
          executives and for employees.  Employee compensation is  
          calculated according to the Internal Revenue Code's  
          provisions for Social Security Taxes, and includes almost  
          any kind of compensation paid by the taxpayer to the  
          employee, such as wages, benefit contributions, the value  
          of stock options and deferred compensation.  For  
          executives, it's calculated based on the Summary  
          Compensation Table the firm reports to the Securities and  
          Exchange Commission, and includes salary, bonus, grants of  
          stock options and stock appreciation rights, long-term  
          incentive plan awards, pension plans, and employment  
          contracts and related arrangements.

          Additionally, for taxpayers required to file a combined  
          report, the chief operating officer or highest paid  
          employee can include any person in any firm included on the  
          report.  For firms that reduce employment on a full-time  
          equivalent basis in the United States by more than 10% over  
          the previous year, and increase contracted employees or  
          foreign full-time employees for the same period, the bill  
          additionally increases the rate from the table above by  

          The taxpayer must furnish a detailed compensation report to  
          the Franchise Tax Board (FTB).  FTB may prescribe rules and  
          regulations to implement the bill that are exempt from the  
          Administrative Procedures Act.  The measure defines several  
          terms, and prescribes a methodology for measuring full-time  

                               State Revenue Impact
          According to the Franchise Tax Board, SB 1372 results in  
          revenue gains of $100 million in 2014-15, $320 million in  
          2015-16, and $340 million in 2016-17.



          SB 1372 (DeSaulnier) - 4/21/14 -- PageD

          1.   Purpose of the bill  .  According to the author, "SB 1372  
          provides an incentive to corporations to reduce the  
          disparity in the amount of money they pay their CEO and the  
          amount they pay their average worker. SB 1372 creates a  
          corporate tax table that rewards companies with a  
          reasonable CEO-to-worker pay ratio with lower taxes and  
          increases taxes on those companies that are fueling income  
          inequality by lavishing CEOs with outrageous compensation  
          packages at the expense of their workers. Up until the  
          1980s, corporate CEOs were paid, on average, approximately  
          30 times what their average worker was paid. Since the  
          1980s the pay of the average CEO has risen, from 30 times  
          the pay of the average worker to approximately 280 times  
          the pay of an average worker. Among the S&P 500 companies,  
          the disparity is even greater; the average S&P 500 CEO is  
          paid approximately 354 times the average worker. Because  
          California's corporate income is taxed at a flat rate of  
          8.84%, it does not adequately incentivize corporations to  
          address this disparity. Some of these corporations are  
          paying very little to no taxes, meaning in some cases the  
          average taxpayer is subsidizing out-of-control CEO  
          compensation. It is important that we address this  
          disparity and the growing income inequality in this state.  
          SB 1372 is a vital first step to reestablish the  
          middleclass and has the potential to increase employee  
          morale, increase workplace productivity and reduce employee  

          2.   Administrable  ?  Each year, corporations file more than  
          750,000 corporation tax returns with FTB.  For small  
          corporations, the return can be reasonably simple, but  
          larger corporations have returns that can include thousands  
          of subsidiaries and affiliates around the world, involve  
          complex unitary group determinations and apportionment  
          computations, and apply millions in tax credits based on a  
          variety of circumstances.  The compliance burdens for firms  
          is significant, and FTB must in turn verify that each  
          corporation has paid the correct amount of tax for that tax  
          year based on the information in its return.  This complex  
          process requires significant investments of personnel and  
          information technology, and perhaps an audit.  Given the  
          current compliance burden, and FTB's historically  
          outstanding performance administering corporation taxes,  
          the calculations and verifications that each must make  
          under SB 1372 are blinding: firms will have to accurately  
          compute the rate based on  wages and other forms of  
          compensation paid for all of its non-contract employees  


          SB 1372 (DeSaulnier) - 4/21/14 -- PageE

          across its unitary group, and FTB will have to make sure  
          that each taxpayer correctly calculated this ratio, in  
          addition to its current responsibilities to verify  
          apportionment formulas, credits, and a myriad other issues.  
           Firms would also file claims for refund for past taxes  
          paid if it thinks its calculations regarding the  
          compensation amounts that derived the rate weren't accurate  
          at the time it filed the return.  It's unclear what  
          resources will be needed should SB 1372 be enacted, or  
          whether FTB can hire enough people or divert sufficient  
          existing resources to ensure that taxpayers are calculating  
          its new rate accurately.  The Committee may wish to  
          consider whether FTB can administer SB 1372, as well as the  
          burden it would cause taxpayers.

          3.   Change behavior  ?  At its most basic, tax math is easy:  
          base times rate equals tax.  For corporations, recent  
          research at the federal level indicates that the rate isn't  
          particularly important when determining tax, instead, firms  
          have become increasing good at reducing tax by diminishing  
          its base by sheltering and shifting income abroad, and  
          applying generous tax credits and other beneficial,  
          perfectly legal tax benefits.<1>  Sophisticated accounting  
          firms such as PricewaterhouseCoopers deploy specific  
          strategies for multinational firms to pay as little tax as  
          possible.  California has its own specific reasons for the  
          decline of its Corporation Tax base, such as apportionment  
          formula changes (SBx3 15 (Calderon)/ABx3 15 (Krekorian),  
          2009), research and development and movie production tax  
          credits, increasingly beneficial treatment for net  
          operating losses (AB 1618/SB 858, Committee on Budget,  
          2010) allowing firms to share tax credits within the  
          unitary group (AB 1452, Committee on Budget, 2008),  
          resulting in its diminished performance in recent years.   
          Additionally, only 60% of California Corporations pay much  
          in tax because they don't show any net income for the year,  
          and many others are organized in such a way they'll evade  
          SB 1372's effects (See Comment #5).   Given its limited  
          scope, and the skill taxpayers show minimizing corporation  
          taxes, will SB 1372's change in rates really result in a  
          change of behavior?  The Committee may wish to consider  
          whether changing tax rates is the best path for corporation  
          tax reform.
           "The Sorry State of Corporate Taxes: What Fortune 500  
          Companies Pay (or Don't Pay) in the USA and What They Pay  
          Abroad."  Citizens for Tax Justice, February 2014.


          SB 1372 (DeSaulnier) - 4/21/14 -- PageF

          4.   Alternative  .  In the early 1990s, Congress limited a  
          corporation's ability to deduct executive compensation that  
          exceeds one million dollars unless the compensation is  
          pegged to performance, in which case it's completely  
          deductible.  California conforms to this section, which  
          resulted in more than $30 billion in revenue losses to the  
          federal government between 2007 and 2010 according to the  
          Economic Policy Institute.  California could instead  
          decouple from the federal law's allowance for  
          performance-based compensation, thereby preventing firms  
          from deducting executive compensation above $1 million,  
          without SB 1372's other potential complications.  

          5.   Not us  .  SB 1372 applies solely to publicly traded  
          C-Corporations, and doesn't include firms that aren't  
          publicly traded, or are organized as S-Corporations,  
          Limited Liability Companies, or other pass-through  

          6.   Discriminatory  ?  Because the measure would increase the  
          tax rate on firms employing more people in foreign  
          jurisdictions, FTB notes that it could raise constitutional  
          concerns under the Commerce Clause of the United States  
          Constitution because it could appear to improperly favor  
          United States activity over foreign commerce.

          7.   2/3 vote  .  SB 1372 would increase a tax on any  
          taxpayer, so the bill would require a 2/3 vote under  
          Section 3 of Article XIIIA of the California Constitution.   

          8.   Technicals  .  FTB and Committee Staff recommend the  
          following amendments:
                 The bill uses term "contracted employee" in the  
               bill and later defines the term "contracted full-time  
               employee."  References to "contracted employee" should  
               be amended to be consistent throughout the bill. 
                 On page 4, line 2, strike "and" and insert "or

                        Support and Opposition  (04/21/14)

           Support  :  California Labor Federation

           Opposition  :  Air Logistics Corporation; Associated General  
          Contractors of California;  California Apartment  


          SB 1372 (DeSaulnier) - 4/21/14 -- PageG

          Association; California Bankers Association; California  
          Chamber of Commerce; California Grocers Association;  
          California Manufacturers and Technology Association;  
          California Restaurant Association; California Retailers  
          Association;  California Tank Lines, Inc.; Chemical  
          Transfer Company; Council on State Taxation; National  
          Federation of Independent Business; Orange County Business  
          Council; Orange County Taxpayers Association; Silicon  
          Valley Leadership Group; Superior Tank Wash, Inc.,  
          TechAmerica; West Coast Leasing; LLC; West Coast Lumber and  
          Building Material Association.