BILL ANALYSIS                                                                                                                                                                                                    Ó



                                                                     AB 717


                                                                    Page  1





          Date of Hearing:  May 18, 2015





                     ASSEMBLY COMMITTEE ON REVENUE AND TAXATION


                                 Philip Ting, Chair





          AB 717  
          (Gonzalez) - As Introduced February 25, 2015


                                      SUSPENSE


          Majority vote.  Tax levy.  Fiscal committee. 


          SUBJECT:  Sales and use taxes: exemption: diapers.


          SUMMARY:  Establishes a sales and use tax (SUT) exemption for  
          diapers designed, manufactured, processed, fabricated, or  
          packaged for use by infants and toddlers.   Specifically, this  
          bill:  


          1)Provides that, notwithstanding existing law, the state shall  
            not reimburse any local agency for SUT revenues lost as a  
            result of this exemption.  










                                                                     AB 717


                                                                    Page  2





          2)Takes immediate effect as a tax levy, but only becomes  
            operative on the first day of the first calendar quarter  
            commencing more than 90 days after this bill's effective date.  
             


          EXISTING LAW:  


          1)Imposes a sales tax on retailers for the privilege of selling  
            tangible personal property (TPP), absent a specific exemption.  
             The tax is based upon the retailer's gross receipts from TPP  
            sales in this state.

          2)Imposes a complimentary use tax on the storage, use, or other  
            consumption of TPP purchased out-of-state and brought into  
            California.  The use tax is imposed on the purchaser, and  
            unless the purchaser pays the use tax to an out-of-state  
            retailer registered to collect California's use tax, the  
            purchaser remains liable for the tax.  The use tax is set at  
            the same rate as the state's sales tax and must generally be  
            remitted to the State Board of Equalization (BOE).

          FISCAL EFFECT:  The BOE estimates that this bill would reduce  
          state and local revenues by $46.7 million annually.


          COMMENTS:  


          1)The author has provided the following statement in support of  
            this bill:


               It is time for California's tax code to reflect the fact  
               that diapers are an absolute health necessity for young  
               children.  By updating our tax code to accurately identify  
               diapers as a necessity of life we can also make them more  
               affordable.  The high price of diapers has a cost for  








                                                                     AB 717


                                                                    Page  3





               public health and our economy.  Diaper need puts families  
               in the position of changing their children's diapers less  
               often which has unhealthy consequences ranging from diaper  
               rash to infections requiring medical treatment.  It also  
               creates a barrier between parents and gainful employment  
               when families cannot afford the number of diapers required  
               by childcare providers.  


          2)This bill is supported by the American Academy of Pediatrics,  
            California, which notes:


               This legislation would follow the lead of seven other  
               states and exempt diapers from sales tax to enable  
               low-income families to better afford this necessity in the  
               care of their children.


               An attempt to economize on diaper expense by less frequent  
               changes can lead to medical consequences for the baby, from  
               uncomfortable and inconvenient diaper rash, to more serious  
               conditions including abscesses and urine infections.   
               Moreover, low-income parents are less able to take  
               advantage of free or subsidized childcare if they cannot  
               afford to leave disposable diapers at child care centers, a  
               requirement for most childcare centers.  Thus, lack of  
               sufficient diapers can lead to multiple problems for  
               families in need, including unhappy babies, unhealthy  
               communities, undereducated toddlers, and underemployed  
               adults.  


          3)This bill is opposed by the California State Association of  
            Counties, which notes:


               The State Board of Equalization has estimated state and  
               local losses due to AB 717 would total $46.7 million  








                                                                     AB 717


                                                                    Page  4





               annually.  After the past thirty years of changes to sales  
               and use tax allocations, counties now receive almost half  
               of sales and use tax revenues.  Approximately two-thirds of  
               that revenue is constitutionally dedicated to providing  
               local public safety services and federal and state programs  
               including social services, like CalWorks, and criminal  
               justice and rehabilitation services.  


               Therefore, we respectfully request that the local portion  
               of sales and use tax be unaltered by AB 717 and vital  
               dollars continue to flow to critical county service needs.   
               We have no concern with the state using their portion of  
               sales and use tax revenue to advance the policy goals set  
               forth by this measure.  


          4)Committee Staff Comments


              a)   What is a "tax expenditure"  ?  Existing law provides  
               various credits, deductions, exclusions, and exemptions for  
               particular taxpayer groups.  In the late 1960s, U.S.  
               Treasury officials began arguing that these features of the  
               tax law should be referred to as "expenditures" since they  
               are generally enacted to accomplish some governmental  
               purpose and there is a determinable cost associated with  
               each (in the form of foregone revenues). 

              b)   How is a tax expenditure different from a direct  
               expenditure  ?  As the Department of Finance notes in its  
               annual Tax Expenditure Report, there are several key  
               differences between tax expenditures and direct  
               expenditures.  First, tax expenditures are reviewed less  
               frequently than direct expenditures once they are put in  
               place.  While this affords taxpayers greater financial  
               predictability, it can also result in tax expenditures  
               remaining a part of the tax code without demonstrating any  
               public benefit.  Second, there is generally no control over  








                                                                     AB 717


                                                                    Page  5





               the amount of revenue losses associated with any given tax  
               expenditure.  Finally, it should also be noted that, once  
               enacted, it takes a two-thirds vote to rescind an existing  
               tax expenditure absent a sunset date.  This effectively  
               results in a "one-way ratchet" whereby tax expenditures can  
               be conferred by majority vote, but cannot be rescinded,  
               irrespective of their efficacy or cost, without a  
               supermajority vote.


              c)   An overview of the SUT Law  :  California's SUT Law  
               imposes a sales tax on retailers for the privilege of  
               selling TPP, absent a specific exemption.  The tax is based  
               upon a retailer's gross receipts from TPP sales in  
               California.  The SUT Law also imposes a mirror "use tax" on  
               the storage, use, or other consumption of TPP purchased  
               out-of-state and brought into California.  The use tax is  
               imposed on the purchaser, and unless the purchaser pays the  
               use tax to an out-of-state retailer registered to collect  
               California's use tax, the purchaser remains liable for the  
               tax.  The use tax is set at the same rate as the state's  
               sales tax and must generally be remitted to the BOE.  


               The SUT represents the state's second largest source of  
               General Fund (GF) revenues.  Nevertheless, the past 60  
               years have seen a dramatic reduction in the state's  
               reliance on the SUT and a corresponding increase in its  
               reliance on personal income tax revenues.  In fiscal year  
               (FY) 2014-15, SUT revenues are estimated to comprise 23% of  
               the state's GF revenues, down from nearly 60% in FY  
               1950-51.


              d)   What accounts for the state's reduced reliance on SUT  
               revenues  ?  The SUT Law was enacted in a very different era.  
                In the 1930s, California's economy was largely dominated  
               by manufacturing, and residents mostly bought and sold  
               tangible goods.  Thus, in establishing the base for a new  








                                                                     AB 717


                                                                    Page  6





               consumption tax, it made sense to impose the tax on sales  
               of TPP, defined as personal property that may be "seen,  
               weighed, measured, felt, or touched."  Over the past 80  
               years, however, California's economy has seen a dramatic  
               growth in the service and information sectors, resulting in  
               a significant erosion of the SUT base.  For example, the  
               Commission on the 21st Century Economy noted that spending  
               on taxable goods represented 34.6% of personal income in  
               2008, down from 55.4% in 1980.  As a result, tax experts  
               and economists from across the political spectrum argue  
               that California should expand its SUT base.  


               It could be argued that, while well-intentioned, additional  
               SUT exemptions further erode an already shrinking SUT base.  
                This, in turn, increases fiscal pressures to maintain or  
               even increase California's relatively high SUT rate.  High  
               rates arguably promote non-compliance and encourage  
               out-of-state purchases, placing California retailers at a  
               competitive disadvantage.  High rates also risk impacting  
               consumer decision-making, which runs counter to widely  
               accepted principles of sound tax policy.   


              e)   What would this bill do  ?   This bill would provide a  
               complete SUT exemption for all diapers made for infants and  
               toddlers.  The proposed exemption would apply to both  
               disposable and non-disposable diapers alike.


              f)   The diaper dilemma  :  By some estimates, up to 95% of  
               U.S. families use disposable diapers.  Nevertheless,  
               environmental and health concerns have persuaded some  
               parents to purchase cloth diapers that can be reused.   
               Experts, however, are divided on whether reusable diapers  
               are more environmentally friendly.  According to WebMD,  
               research suggests that both disposable and cloth diapers  
               impact the environment negatively - albeit in different  
               ways.  Disposable diapers require more raw materials to  








                                                                     AB 717


                                                                    Page  7





               manufacture and generate more solid waste for landfills.   
               Cloth diapers, on the other hand, use up large amounts of  
               electricity and water for laundering.  Thus, the American  
               Academy of Pediatrics takes no position in the ongoing  
               debate regarding the relative merits of cloth versus  
               disposable diapers.  


              g)   How are diapers currently taxed  ?  Current law does not  
               provide a SUT exemption for diapers.  The BOE notes,  
               however, that businesses providing diaper services, where  
               cloth diapers are furnished in connection with the  
               recurring service of laundering the diapers, are considered  
               "consumers" of the diapers they provide.  Thus, the tax  
               applies only to the diaper service's purchases, and the  
               business's diaper rental receipts are not subject to SUT.    
                


              h)   An inherently regressive tax  :  The SUT has been widely  
               criticized as a regressive exaction that most heavily  
               impacts those least able to pay.  For example, a survey by  
               the Nevada Legislative Counsel Bureau long ago concluded  
               that in the case of a retail sales tax with food exempt,  
               "the lowest income group would experience the highest ratio  
               of tax to income . . . ."  (Survey of Sales Taxes  
               Applicable to Nevada 59 (Bull. No. 3, May, 1948).)  Others,  
               however, contend that a degree of progressivity is provided  
               via the various exemptions built into most state SUT laws  
               (i.e., for certain necessities of life such as food,  
               housing, and medical care).  


               Proponents of this bill might argue that an exemption for  
               diapers would further promote a degree of progressivity in  
               an already regressive tax regime.  Critics, however, might  
               contend that SUT exemptions are a blunt instrument for  
               affecting social policy.  While this bill would provide  
               meaningful financial relief to low-income parents  








                                                                     AB 717


                                                                    Page  8





               struggling to make ends meet, it would also provide relief  
               indiscriminately to wealthy consumers who might not even  
               notice the exemption.  In addition, critics might question  
               why diapers are being singled out for preferential tax  
               treatment as opposed to other items of TPP indispensable to  
               raising a child (e.g., car seats, cribs, baby clothes,  
               bottles, strollers, etc.).  


              i)   A more targeted approach  ?  To better target the  
               low-income parents this bill is aiming to assist, the  
               Committee may wish to consider whether a slightly more  
               tailored approach would be preferable.  Specifically, if  
               the Legislature chooses to dedicate a certain amount of  
               money (e.g., $50 million annually) to help parents purchase  
               diapers, it might be preferable to channel this money  
               directly and exclusively to the beneficiaries of an  
               existing means-tested program.  For example, existing law  
               provides for the California Work Opportunity and  
               Responsibility to Kids (CalWORKs) program, under which each  
               county provides cash assistance and other benefits to  
               qualified low-income families and individuals.  AB 1516  
               (Gonzalez), of the 2013-14 Legislative Session, would have  
               established a young child special needs supplement of $80  
               per month within the CalWORKs program for each child  
               younger than two years of age in an assistance unit.  AB  
               1516 was held on the Senate Appropriations Committee's  
               Suspense File.  AB 492 (Gonzalez), in turn, would provide  
               that necessary supportive services would include vouchers  
               in the amount of $50 per month for diaper products for  
               every child two years of age or younger enrolled in child  
               care, as specified.  AB 492 is currently pending by the  
               Assembly Committee on Human Services.  


               Alternatively, the Committee may wish to consider whether  
               it would be preferable to provide a SUT exemption for  
               diapers sold directly to nonprofit entities that, in turn,  
               provide free diapers to low-income and homeless families.   








                                                                     AB 717


                                                                    Page  9





               The nonprofit Help a Mother Out organization notes that it  
               has provided diapers to low-income and homeless families  
               through a network of social service partners since 2009.   
               At the same time, this nonprofit notes:


                 For the present fiscal year, the sales tax assessed for  
                 bulk purchasing diapers for our programs is close to  
                 $22,000.00.  That's critical funding that takes away from  
                 our organization distributing more diapers to vulnerable  
                 families through life changing programs.   


              j)   Filling in the details  :  As noted above, this bill would  
               establish a SUT exemption for diapers designed and  
               manufactured for "infants and toddlers".  This bill,  
               however, lacks definitions for these terms.  Thus, it might  
               be challenging for retailers to determine with any degree  
               of precision which specific products qualify for the  
               exemption and which do not.  The Committee may wish to  
               consider whether it would be beneficial to provide greater  
               definitional clarity through references to specific age or  
               weight ranges.        


              aa)  Absence of a sunset date  :  In its current form, this  
               bill's proposed tax expenditure lacks an automatic sunset  
               provision.  This Committee has a longstanding policy  
               favoring the inclusion of sunset dates to allow the  
               Legislature periodically to review the efficacy and cost of  
               such programs.  The author may wish to consider the  
               addition of an appropriate sunset provision.


              bb)  Prior legislation  :  


               i)     AB 1291 (Hollingsworth), of the 2001-02 Legislative  
                 Session, would have provided a SUT exemption for diapers.  








                                                                     AB 717


                                                                    Page  10





                  AB 1291 was held on this Committee's Suspense File.    


               ii)    AB 5 (Battin), of the 1999-2000 Legislative Session,  
                 would have provided a SUT exemption for baby diapers,  
                 whether disposable or not, and over-the-counter,  
                 nonprescription drugs.  AB 5 was never heard by this  
                 committee.


               iii)   AB 13 (Dickerson), of the 1999-00 Legislative  
                 Session, would have provided a SUT exemption for, among  
                 other things, products for incontinence, including  
                 disposable and reusable diapers, pads, and briefs.  AB 13  
                 was never heard by this Committee.      


          REGISTERED SUPPORT / OPPOSITION:




          Support


          ACCESS Women's Health Justice


          American Academy of Pediatrics, California


          Board of Equalization Member Diane L. Harkey


          Black Women for Wellness


          California Latinas for Reproductive Justice









                                                                     AB 717


                                                                    Page  11






          Forward Together


          Help a Mother Out


          National Center for Youth Law


          National Diaper Bank Network


          San Diego County Taxpayers Association




          Opposition


          California State Association of Counties


          California Tax Reform Association




          Analysis Prepared by:M. David  Ruff / REV. & TAX. / (916)  
          319-2098
















                                                                     AB 717


                                                                    Page  12