BILL ANALYSIS Ó
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|SENATE RULES COMMITTEE | AB 99|
|Office of Senate Floor Analyses | |
|(916) 651-1520 Fax: (916) | |
|327-4478 | |
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THIRD READING
Bill No: AB 99
Author: Perea (D), et al.
Amended: 5/20/15 in Assembly
Vote: 27 - Urgency
SENATE GOVERNANCE & FIN. COMMITTEE: 7-0, 6/17/15
AYES: Hertzberg, Nguyen, Beall, Hernandez, Lara, Moorlach,
Pavley
SENATE APPROPRIATIONS COMMITTEE: 7-0, 8/27/15
AYES: Lara, Bates, Beall, Hill, Leyva, Mendoza, Nielsen
ASSEMBLY FLOOR: 80-0, 6/1/15 - See last page for vote
SUBJECT: Personal income taxes: income exclusion: mortgage
debt forgiveness
SOURCE: Author
DIGEST: This bill extends conformity to federal laws income
exclusion for discharges of qualified principal residence
indebtedness.
ANALYSIS:
Existing law:
1)Conforms to the Mortgage Forgiveness Debt Relief Act of 2007
(MFDRA) for debt discharged on or before January 1, 2014, and
provides that no penalties or interest applies for discharge
of qualified principal residence indebtedness, regardless of
whether the taxpayer reports the discharge on his or her
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income tax return (SB 1055, Machado, Chapter 282, Statutes of
2008; SB 401, Wolk, Chapter 14, Statutes of 2010; and AB 1393,
Perea, Chapter 152, Statutes of 2014).
2)Contains slightly different limits for mortgage debt
forgiveness than federal law:
a) Taxpayers may only exclude up to $250,000
single/$500,000 joint of cancelled debt from income, but
can exclude an unlimited amount of cancelled income for
federal purposes.
b) Taxpayers may only exclude indebtedness on loans up to
$400,000 single/$800,000 joint of qualified principal
residence indebtedness, instead of $1 million/$2 million
for federal. The taxpayer must first reduce any amount
excluded for state tax purposes by any debt forgiven on
loan amounts above $400,000/$800,000.
This bill:
1)Extends California's modified conformity to MFDRA for
discharges of qualified principal residence indebtedness until
January 1, 2015.
2)Makes legislative findings and declarations stating that its
retroactive application does not constitute a gift of public
funds.
Background
California law does not automatically conform to changes to
federal tax law, except for specific retirement provisions.
Instead, the Legislature must affirmatively conform to federal
changes.
When a lender cancels a borrower's debt, federal and state law
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generally treat the amount of debt cancelled as income taxable
to the borrower. Taxpayers do not include borrowed funds in
income in the year he or she receives loan proceeds because of
the obligation to repay the loan; the taxpayer is financially no
better off because the loan must be repaid. When lenders reduce
the repayable amount, the taxpayer realizes a gain in his or her
financial situation because a portion of the loan proceeds that
have already been received and not previously taxed need not be
repaid. In U.S .v. Kirby Lumber Co., 284 US 1 (1931), the
United States Supreme Court held that a company that had issued
$12 million in bonds and later repurchased some of them at less
than their face amount made a clear gain which should be treated
as income to the taxpayer. Congress subsequently deemed
cancelled debt as income, with exceptions for debts discharged
in bankruptcy, when the taxpayer is insolvent, certain farm
debts, and debt discharge resulting from a non-recourse loan in
foreclosure.
Many Californians experienced rapid declines in the market
values of their homes in recent years, so much so that the value
was less than the amount of debt they incurred to buy it. Some
homeowners have sufficient income, equity, and home value to
refinance, but others cannot, and instead attempt to sell their
home for less than they are obligated to repay their lender,
which is known as a "short-sale." Instead of a simple
transaction between buyer and seller, a short sale requires a
third party - the seller's lender - to agree to cancel the
borrower's debt in an amount equal to the difference between the
new sales price of the home and the original amount of the debt
issued to the borrower to buy it, plus any additional debt
secured by the property. For example, a lender must cancel
$150,000 in debt for a borrower who purchased a home in 2005 for
$400,000, but wants to short sell it this year for $250,000.
The lender must assess the current housing market, the
borrower's ability to repay the loan, and federal and state
incentives when considering whether to accept this loss. While
lenders can claim principal forgiven as a deductible business
loss, the borrower faces a significant tax bill in addition to
the loss of any equity in the home at the time of sale absent
legislation. Additionally, any loan modification where the
lender forgives principal as part of a loan modification, such
as a deed-in-lieu of foreclosure or a foreclosure, usually
results in taxable income for the borrower
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In 2007, Congress enacted MFDRA, which provides that taxpayers
may exclude from income qualified principal residence
indebtedness cancelled after January 1, 2007 but before January
1, 2010. Married taxpayers may exclude up to $2 million in
qualified principal residence indebtedness, while married
persons filing separately or single persons may exclude up to $1
million. Taxpayers may only exclude indebtedness incurred to
purchase, construct, or improve the taxpayer's principal
residence, defined as the residence that the taxpayer owns and
uses as his or her principal residence for at least two out of
the last five years. The Emergency Economic Stabilization Act
of 2008 extended the exclusion until January 1, 2013. On
January 2, 2013, Congress enacted the American Taxpayer Relief
Act of 2012, which extended the exclusion for the 2013 taxable
year. In 2014, Congress again extended mortgage debt
forgiveness through the 2014 taxable year when it enacted the
Tax Increase Prevention Act.
California first conformed to MFDRA in 2008, and again in 2010,
for debt discharged on or before December 31, 2012, and
additionally provided that no penalties or interest applies for
discharge of qualified principal residence indebtedness,
regardless of whether the taxpayer reports the discharge on his
or her income tax return. The Legislature extended these
provisions until January 1, 2014, last year (AB 1393, Perea,
Chapter 152), but remains out of conformity for discharges that
occurred last year, meaning that affected taxpayers have to
include cancelled debt as income in the 2014 taxable year.
Comments
Federal and state tax law consistently prefers debt over equity:
taxpayers can deduct mortgage interest from income and interest
payments on debt incurred for a business, but cannot deduct any
returns to equity or saved cash. Taxpayers will more often
incur debt instead of using equity because taxpayers can use
interest expense deductions to reduce other income subject to
tax. Tax incentives for individuals and firms to incur debt may
not directly cause social and economic problems, but they have
surely contributed to the almost $13.5 trillion in U.S.
household debt, and $12 trillion in non-financial business debt.
AB 99 furthers this preference. This bill cancels for state
purposes income received by individuals who incurred debt to
purchase a home but sell it for a lesser amount, while taxpayers
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who did the same with homes purchased with cash cannot deduct
any losses.
Mortgage debt relief only applies to recourse loans, not
non-recourse ones. A loan is non-recourse when the lender can
only repossess the asset that secures the loan to satisfy
delinquent debt; a recourse loan allows a lender to petition a
court for a personal deficiency judgment against a delinquent
borrower, a public record that allows the lender to collect the
delinquent amount from the borrower in a variety of ways. In
California, all original loans to purchase homes in the state
must be nonrecourse, but the status often changes to recourse
when the home is refinanced, or the borrower takes out a second
mortgage or a home equity line of credit. In 2010, the
Legislature prohibited a lender from obtaining a deficiency
judgment for any first mortgage deficiency after a short sale of
a residence (SB 931, Ducheny, Chapter 701, Statutes of 2010).
In 2011, the Legislature extended that treatment for all
residential mortgages, including second mortgages after a short
sale (SB 458, Corbett, Chapter 58, Statutes of 2011).
FISCAL EFFECT: Appropriation: No Fiscal
Com.:YesLocal: No
According to the Senate Appropriations Committee, AB 99 results
in revenue losses of $47 million in 2014-15 and $5.2 million in
2015-16. The Franchise Tax Board would incur minor
administration expenses.
SUPPORT: (Verified8/28/15)
Attorney General Kamala Harris
Board of Equalization Member George Runner
California Association of Realtors
California Bankers Association
California Credit Union League
California Independent Bankers
California Mortgage Bankers Association
California Society of Enrolled Agents
California Taxpayers Association
One individual
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OPPOSITION: (Verified8/28/15)
None received
ARGUMENTS IN SUPPORT: According to the author, "AB 99 would
extend the tax relief on forgiveness of mortgage debt by
conforming California law to federal law. After a loan
modification or short sale of a home, a bank can cancel or
forgive thousands of dollars of an individual's mortgage debt.
Federal and State income tax laws generally define cancelled
debt as a form of income. Without additional legislation to
exclude cancelled debt, many Californians may be taxed on
'phantom' income they never received. This bill would provide
much-needed state-level relief to homeowners facing financial
hardship because of the mortgage crisis, and better allow them
to afford and retain homeownership."
ASSEMBLY FLOOR: 80-0, 6/1/15
AYES: Achadjian, Alejo, Travis Allen, Baker, Bigelow, Bloom,
Bonilla, Bonta, Brough, Brown, Burke, Calderon, Campos, Chang,
Chau, Chávez, Chiu, Chu, Cooley, Cooper, Dababneh, Dahle,
Daly, Dodd, Eggman, Frazier, Beth Gaines, Gallagher, Cristina
Garcia, Eduardo Garcia, Gatto, Gipson, Gomez, Gonzalez,
Gordon, Gray, Grove, Hadley, Harper, Roger Hernández, Holden,
Irwin, Jones, Jones-Sawyer, Kim, Lackey, Levine, Linder,
Lopez, Low, Maienschein, Mathis, Mayes, McCarty, Medina,
Melendez, Mullin, Nazarian, Obernolte, O'Donnell, Olsen,
Patterson, Perea, Quirk, Rendon, Ridley-Thomas, Rodriguez,
Salas, Santiago, Steinorth, Mark Stone, Thurmond, Ting,
Wagner, Waldron, Weber, Wilk, Williams, Wood, Atkins
Prepared by:Colin Grinnell / GOV. & F. / (916) 651-4119
8/30/15 19:49:03
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AB 99
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