BILL ANALYSIS Ó SB 324 Page 1 Date of Hearing: July 13, 2015 ASSEMBLY COMMITTEE ON REVENUE AND TAXATION Philip Ting, Chair SB 324 (Pavley) - As Amended April 15, 2015 Majority vote. Fiscal committee. SENATE VOTE: 40-0 SUBJECT: Income taxation: savings plans: Qualified ABLE Program SUMMARY: Establishes a California Achieving a Better Life Experience (ABLE) program, and generally conforms income tax law to the federal income tax treatment of ABLE accounts. Specifically, this bill: 1)Conforms, with specified modifications, the Personal Income SB 324 Page 2 Tax (PIT) Law and the Corporations Tax (CT) Law to the Internal Revenue Code (IRC) Section 529A, relating to qualified ABLE programs. 2)Provides that a copy of the report required to be filed with the Secretary of the Treasury (Secretary) under IRC Section 529A shall be filed, at the same time and in the same manner, with the Franchise Tax Board (FTB). 3)Establishes a qualified ABLE program and the qualified ABLE fund for purposes of implementing the federal ABLE Act pursuant to IRC Section 529A. 4)Provides that the State Treasurer shall administer the ABLE program and shall be responsible for ensuring that the program is in compliance with the requirements of the federal ABLE Act. 5)Allows a person to make contributions for a taxable year, for the benefit of an eligible individual for that taxable year, to an ABLE account that is established for the purpose of meeting the qualified disability expenses of the designated beneficiary of the account, if all of the following are met: a) The designated beneficiary is limited to one ABLE account; and, b) The ABLE account is established only for a designated beneficiary who is a resident of California. 6)Provides that, notwithstanding any other law, moneys in an ABLE account, not to exceed $100,000, shall not count towards SB 324 Page 3 determining eligibility for the Medi-Cal program. 7)Defines an "ABLE account" or an "account" as an account to which an eligible individual makes contributions for the purpose of meeting the qualified disability expenses of the designated beneficiary of the account. 8)Defines an "ABLE Fund" or a "fund" as a fund established for purposes of implementing the federal ABLE act. 9)Defines an "eligible individual" as an individual who is eligible under a qualified ABLE program for a taxable year if during that taxable year both of the following are met: a) The individual is entitled to benefits based on blindness or disability under Title II or XVI of the federal Social Security Act, and that blindness or disability occurred before the date on which the individual attained the age of 26; and, b) A disability certification, as defined in the federal ABLE Act, is filed pursuant to the requirements set forth in the federal ABLE Act. 10)Defines a "designated beneficiary" as the eligible individual who established an ABLE account and is the owner of the account. 11)Defines the "federal ABLE act" as the federal Stephen Beck Jr., Achieving a Better Life Experience Act of 2014. SB 324 Page 4 12)Defines a "qualified ABLE program" or a "program" as a program established to implement the federal ABLE act pursuant to IRC Section 529A. 13)Defines "qualified disability expenses" as any expenses related to the eligible individual's blindness or disability that are made for the benefit of an eligible individual who is the designated beneficiary. These expenses include education, housing, transportation, employment training and support, assistive technology and personal support services, health, prevention and wellness, financial management and administrative services, legal fees, expenses for oversight and monitoring, funeral and burial expenses, and other expenses, which are approved by the Secretary of the Treasury under regulations and consistent with the purposes of the federal ABLE Act. 14)Provides that the Treasurer may adopt regulations to implement this program. EXISTING FEDERAL LAW: 1)Provides tax-exempt status to qualified tuition programs (QTP). Qualified tuition programs are programs established and maintained by a state (or by an eligible education institution) under which a person may purchase tuition credit or make cash contributions to meet the qualified higher education expenses of a designated beneficiary. Contributions to a QTP cannot exceed the amount necessary to provide for the beneficiary's qualified higher education expenses. Distributions to a beneficiary are excluded from income. However, contributions made to a QTP are not deductible. 2)Provides a qualified ABLE program under the ABLE Act of 2014 SB 324 Page 5 for taxable years beginning on or after January 1, 2015. A qualified ABLE program is a program established and maintained by a state, or agency or instrumentality of the state. A qualified ABLE program is generally exempt from income tax, but is otherwise subject to the taxes imposed on the unrelated business income of tax-exempt organizations. A qualified ABLE program must meet the following conditions: a) Under the provisions of the program, contributions may be made to an ABLE account, established for the purpose of meeting the qualified disability expenses of the designated beneficiary of the account; b) The program must limit a designated beneficiary to one ABLE account; c) The program must allow for the establishment of ABLE accounts only for a designated beneficiary who is either a resident of the state maintaining such ABLE program or a resident of a state that has not established an ABLE program which has entered into a contract with such state to provide the contracting state's residents with access to the state's ABLE program; and, d) The program must meet other specified requirements. 3)Provides that contributions to an ABLE account must be made in cash and are not deductible for federal income tax purposes. Except in the case of a rollover contribution from another account, an ABLE account must provide that it may not receive aggregate contributions during a taxable year in excess of the annual gift tax exclusion amount. For 2015, the annual gift tax exclusion amount is $14,000. Additionally, a qualified ABLE program must provide adequate safeguards to ensure that SB 324 Page 6 ABLE account contributions do not exceed the limit imposed on accounts under the qualified tuition program of the state maintaining the qualified ABLE program. Amounts in the account accumulate on a tax-deferred basis (i.e., income on accounts in the plan is not subject to current income tax). 4)Provides that distributions from an ABLE account are excludable from income to the extent that the total distribution does not exceed the qualified disability expenses of the beneficiary during the taxable year. If a distribution from an ABLE account exceeds the qualified disability expenses of the beneficiary, a pro-rata portion of the distribution is excludable from income. The portion of any distribution that is includible in income is subject to an additional 10 percent tax unless the distribution is made after the death of the beneficiary. Amounts in an ABLE account may be rolled over without income tax liability to another ABLE account for the same beneficiary or another ABLE account for the designated beneficiary's brother, sister, stepbrother or stepsister who is also an eligible individual. 5)Provides that a contribution to an ABLE account is treated as a completed gift of a present interest to the beneficiary of the account. Such contributions qualify for the per-donee annual gift tax exclusion ($14,000 for 2015) and, to the extent of such exclusion, are exempt from the generation-skipping transfer (GST) tax. A distribution from an ABLE account generally is not subject to gift tax or GST tax. 6)Defines an "eligible individual" as either: a) An individual for whom a disability certification has been filed with the Secretary for the taxable year; or, SB 324 Page 7 b) An individual who has been determined, for purposes of Social Security Disability Insurance benefits or Supplemental Security Income (SSI) benefits to meet the requirements relating to disability or blindness under the SSI program. In general, an individual must be either blind or disabled, and the blindness or disability must have occurred before the date on which the individual attained age 26. 7)Provides that earning on distributions from an ABLE account are only untaxed to the extent total distributions do not exceed the qualified disability expenses of the designated beneficiary. For these purposes, qualified disability expenses are any expenses related to the eligible individual's blindness or disability which are made for the benefit of the designated beneficiary. Such expenses include the following: education, housing, transportation, employment training and support, assistive technology and personal support services, health, prevention and wellness, financial management and administrative services, legal fees, expenses for oversight and monitoring, funeral and burial expenses, and other expenses, which are approved by the Secretary under regulations and consistent with the purposes of this provision. 8)Provides that each officer or employee having control of the qualified ABLE program (or their designees) is required to make reports to the Secretary and to the designated beneficiaries of ABLE accounts. Such reports must provide information with respect to contributions, distributions, the return of excess contributions, and other matters as required by the Secretary. In addition, for research purposes, such officers and employees shall make available to the public and provide to the Secretary, reports containing aggregate information, by diagnosis and other relevant characteristics, on contributions and distributions. SB 324 Page 8 9)Provides, notwithstanding any other provision of federal law that requires the consideration of one or more financial circumstances of an individual, for the purpose of determining eligibility to receive, or the amount of, any assistance or benefit authorized by such provision to be provided to or for the benefit of such individual, any amount (including earnings) in an ABLE account of the individual, any contributions to an ABLE account of the individual, and any distribution for qualified disability expenses are required to be disregarded for purposes of determining such eligibility during any period in which the individual maintains, makes contributions to, or receives distributions from an ABLE account, except that in the case of the SSI program-a distribution for housing expenses is not disregarded, and any amount in an ABLE account in excess of $100,000 is considered a resource for the designated beneficiary. EXISTING STATE LAW: 1)Conforms to IRC Section 529 as of the "specified date" of January 1, 2009, with certain state modifications, including a modification to the 10% tax on excess distributions to instead be an additional tax of 2.5% for state purposes. 2)Provides its own IRC Section 529 Qualified Tuition Program, known as the "Golden State Scholarshare Trust" (ScholarShare). ScholarShare enables taxpayers to save for college by putting money in tax-advantaged investments. After-tax contributions allow earnings to grow tax-deferred and disbursements, when used for tuition and other qualified expenses, are federal and state tax-free. Distributions in excess of qualified higher education expenses incurred for the beneficiary, the portion of the excess that is treated as earnings generally is subject to income tax and an additional 2.5% tax for state purposes. SB 324 Page 9 3)Limits the total amount of contributions to a beneficiary to $371,000. Accounts that have reached the limit may continue to accrue earnings. FISCAL EFFECT: The FTB estimates general fund revenue loss of $100,000 in fiscal year (FY) 2015-16, $400,000 in FY 2016-17, and $900,000 in FY 2017-18. COMMENTS: 1)Author's Statement : The author has provided the following statement in support of this bill: In the United States, there are multiple financial tools for individuals to be able to save for future expenses (e.g. college savings accounts, health savings accounts, and individual retirement accounts). However, millions of individuals with disabilities and their families are unable to use these accounts. Currently, individuals with disabilities may only have less than $2,000 in assets in order to have access to critical support programs such as SSI, SNAP, or Medicaid. Thus, in order to be able to access these programs, individuals SB 324 Page 10 with disabilities must remain poor, and cannot plan and save for large future expenses. In December 2014, President Obama signed the Achieving a Better Life Experience (ABLE) Act into law. The California Legislature had previously urged Congress to pass federal legislation establishing these savings accounts in 2010 (SJR 31, Pavley) and 2012 (SJR 18, Pavley). The federal ABLE Act creates tax-free savings accounts for individuals with disabilities and their families. These accounts will be able to fund a variety of needed expenses such as medical and dental care, housing, and education. The act also authorized each state to create ABLE programs to provide these savings accounts. SB 324 will allow people with disabilities to achieve a better life experience in California by establishing an ABLE program within the State Treasurer's office. 2)Arguments in Support : According to the California Association for Health Services at Home (CAHSAH), "Congress passed the ABLE Act to provide a tax-free savings account for qualified persons with disabilities, similar to a Health Savings Account and 529 College Plans. The ABLE Act aims to ease financial constraints faced by persons with disabilities by making tax-free savings accounts available to cover qualified expenses. The Act will also allow for supplemental benefits in addition to what is provided through private insurance, SB 324 Page 11 Medi-Cal, or SSI." 3)What does the ABLE Act do ? The ABLE Act allows individual states to establish ABLE programs, under which a blind or disabled person may establish a tax-favored savings account that may accept contributions and make distributions for the individual to pay certain qualifying disability expenses. Assets in an ABLE account, up to a $100,000, are not taken into account when determining eligibility for federal welfare benefit programs. Furthermore, the structure and tax treatment of the account generally follows the same rules as a 529 educational savings account. In this regard, after-tax contributions are placed in the account, amounts earned in the account are tax-deferred, and distributions are not included in income so long as they are used for qualifying disability expenses. 4)Substantial Benefits : The new ABLE program provides disabled individuals and their families with two primary benefits. First, the program dramatically expands eligibility for federal and state welfare programs by eliminating asset tests for many of the means-tested welfare programs. By excluding up to $100,000 in an ABLE account from means-tested federal programs, disabled individuals who may not have qualified for SSI or Medicaid in the past can now receive benefits. Second, the program provides an alternative, but not necessarily a replacement, to more expensive and more complicated special needs trusts currently being used to shield assets. 5)ABLE Accounts are Excluded from Federal and State Means Testing : One of the largest benefits afforded by the ABLE Act is the ability to exclude certain assets from federal means-tested programs. As an example, in order for an individual to obtain SSI, the countable resources must be worth not more than $2,000 for an individual or $3,000 for a couple. In essence, the ABLE Act has increased countable SB 324 Page 12 assets from $2,000 to $100,000 for disabled individuals seeking eligibility for SSI. 6)Alternative to Special Needs Trusts : If the goal was to merely increase the cap on assets that disabled individuals can hold to qualify for various federal means-tested programs, it would have been easier for the Federal Government to simply increase asset limitations instead of creating 529 accounts that exclude assets from means-tested programs. It appears that the ABLE act may have also attempted to address the more legally technical and potentially expensive use of Special/Supplemental Needs Trust. A special needs trust is a specific type of trust that can be created by a parent or guardian to benefit a person with a disability. The goal of a special needs trust is to allow a person with a disability to benefit from funds placed in the trust while, at the same time, receiving public benefit. Depending on how the trust is created, different restrictions apply. There are primarily two types of special needs trusts: first-party trusts and third-party trusts. A first-party trust is a trust that is funded with assets owned by the beneficiary. Most first-party trusts that hold the beneficiary's assets are considered countable resources for federal means-tested programs. However, the Medicaid program provides for the creation of certain first-party trust that can be funded with the beneficiary's own assets, which will not be counted towards Medicaid's asset test. These types of trusts are "D-4A Special Needs Trusts", named after the federal code section. These accounts require that some or all of the income remaining be paid to the state equal to the total medical assistance paid to the beneficiary. The second category of special needs trust is a third-party trust, which is a trust that is funded by assets of a person other than the beneficiary. These trusts, if properly SB 324 Page 13 drafted, are generally not countable as an asset available to the beneficiary for SSI or Medicaid purposes. Appropriate operative language must be used so that the assets are not counted for Medicaid purposes. Additionally, unlike first-party trusts, the government is not entitled to recover expenses of SSI or Medicaid paid to the beneficiary. The ABLE Act specifically provides that in the event the beneficiary dies, all amounts remaining in the ABLE account not in excess of the amount equal to the medical assistance paid to the beneficiary shall be distributed to the state. Additionally, a contribution to an ABLE account is treated as a completed gift to the beneficiary of the account. Unlike first-party trusts, ABLE accounts do not require specialized attorneys to ensure that the beneficiary remains eligible for federal benefits. It appears, therefore, that the ABLE Act provides a less complicated and less expensive way of allowing guardians, parents, and other family members to gift funds to a disabled individual. However, because ABLE accounts contain a payback provision to the state for medical expenses incurred by the beneficiary, existing trusts may still be necessary depending on individual circumstances. 7)Earnings and Distributions Excluded from Income : The ABLE Act is, in part, modeled after 529 educational savings accounts. The two primary benefits of 529 educational savings accounts is that funds placed in the account grow tax-free and distributions, when made for qualifying educational expenses, are federal and state income tax-free. The exclusion for earnings and distributions from taxes is the primary incentive for saving in a 529 educational account. ABLE accounts, although providing similar preferential tax treatment, do not provide similar results. As noted above, qualifying expenses under the ABLE Act include expenses related to housing, health, transportation, education, and personal support services. These types of expenses are immediate and ongoing. Unlike a 529 educational account which can allow contributions SB 324 Page 14 to grow until the beneficiary is ready to enter college, funds in an ABLE account are needed immediately and are unlikely to remain in the account long enough to generate the same level of growth. 8)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. Second, there is generally no control over the amount of revenue losses associated with any given tax expenditure. Finally, once enacted, it takes a two-thirds vote to rescind an existing tax expenditure absent a sunset date. The two-thirds vote requirement can be especially problematic if the Federal Government makes future modifications to the ABLE Act that result in a tax increase. The two-thirds vote requirement may make future conformity much more difficult. For this reason, the author may wish to include a five-year sunset date for the exclusions to provide the opportunity for future legislative review. 9)10% Tax for Distributions Included in Income : As noted in the FTB analysis, "[t]his bill would provide that the portion of any distribution that is includible in state income would be subject to an additional 10-percent tax for state purposes (in addition to the 10-percent additional tax imposed for federal purposes), unless the distribution is made after the death of the beneficiary." California generally imposes a lower tax rate than that of the Federal Government; for example, California generally modifies the 10% tax on nonqualified pension distributions to be a 2.5% additional tax for state purposes. In order to be consistent with other provisions of existing law, the Committee may wish to reduce the tax imposed in this bill for distributions that are included in income to 2.5%. SB 324 Page 15 10)Conforming to AB 449 (Irwin) : The author has expressed a desire to conform this bill to the recent changes made to AB 449 (currently pending hearing by the Senate Appropriations Committee), which would, in general, create a seven-person board and an administrative funding source to implement the provisions of this bill. Incorporating those changes would add the following provisions to this bill: a) Creates an ABLE Act Board that consists of the Treasurer, the Director of Finance, the State Controller, the Director of Development Services, the chairperson of the State Council of Developmental Services, the director of Department of Rehabilitation, or their designees, as well as a designee from the California State Independent Living Council; b) Requires that the ABLE Fund accept money from all ABLE accounts; c) Requires the ABLE Act Board to segregate moneys received by the ABLE Fund into two accounts, which shall be identified as the program account and the administrative account; d) Provides that notwithstanding Government Code Section 13340, the program account and the administrative account shall be continuously appropriated to the ABLE Act Board for the purposes of the ABLE Act and for the administration of the ABLE Act. The administrative costs shall not exceed one percent of the incoming funds for the fiscal year; and, e) Provides that an appropriation from the General Fund SB 324 Page 16 shall be made in the annual Budget Act to fund startup and first-year costs. The board shall repay, within five years, the amount appropriated, plus interest calculated at the rate earned by the Pooled Money Investment Account. REGISTERED SUPPORT / OPPOSITION: Support Board of Governors of the California Community Colleges California Association for Health Services at Home California Foundation for Independent Living Centers California Taxpayers Association North Los Angeles County Regional Center State of California, Treasurer State Council on Developmental Disabilities Opposition SB 324 Page 17 None on File Analysis Prepared by:Carlos Anguiano / REV. & TAX. / (916) 319-2098