BILL ANALYSIS Ó
SB 907
Page 1
Date of Hearing: August 3, 2016
ASSEMBLY COMMITTEE ON APPROPRIATIONS
Lorena Gonzalez, Chair
SB 907
(Galgiani) - As Amended June 23, 2016
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|Policy |Revenue and Taxation |Vote:|9 - 0 |
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Urgency: Yes State Mandated Local Program: NoReimbursable: No
SUMMARY:
This bill extends the tax relief for income generated from the
discharge of qualified principal residence indebtedness (QPRI).
Specifically, this bill:
1)Provides that the Internal Revenue Code (IRC) Section 108,
relating to income from discharge of QPRI, as amended by The
Protecting Americans from Tax Hikes Act of 2015, applies,
except as otherwise provided.
2)Applies to discharges of QPRI occurring from January 1, 2014
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to January 1, 2017.
3)Provides that, notwithstanding any other law, no penalties or
interest are due to the discharge of QPRI for the 2014 or 2015
taxable year, regardless of whether or not a taxpayer reports
the discharge during the 2014 or 2015 taxable year.
FISCAL EFFECT:
Annual GF revenue loss of $95 million, $45 million, and $12
million in 2015-16, 2016-17, and 2017-18, respectively.
COMMENTS:
1)Purpose. According to the author, SB 907 will extend tax
relief on the forgiveness of mortgage debt by conforming
California law to federal law. Supporters of this bill believe
that when debt is forgiven by a lender as part of an agreement
with a borrower using the short sale process or a principal
reduction, the borrowers should not be penalized on their
state income taxes.
2)Background. Qualifying principal residence indebtedness is
defined under federal law as the acquisition indebtedness or
indebtedness incurred for substantial improvement to the
residence. Current federal law allows taxpayers to exclude
income up to $1 million for individuals and $2 million for
married couples for discharge of the qualifying principal
residence indebtedness. Current California law limits the
total amount of qualifying indebtedness to $400,000 for
individuals or $800,000 for married couples, and allows
taxpayers to exclude income up to $250,000 for individuals and
$500,000 for married couples from the discharge of the
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qualifying indebtedness, though that exclusion expired for
income incurred after January 1, 2014.
Income from the cancellation of indebtedness is normally
taxable because the individual's net worth has been increased
as a result of the debt cancellation, just as any other income
increases an individual's net worth. Under California case
law, income is generally defined as accession to wealth, that
is clearly realized, over which the taxpayer has complete
dominion.
When debt is cancelled, money that was given to the taxpayer
as loan is freed from future obligation, allowing the taxpayer
to use it in the same manner as any other income. Without this
fundamental rule, cancelled debt becomes simply a tax-free
receipt of cash.
Problems can arise, however, with the collection of such tax
owed because the circumstances that often gave rise to the
debt cancellation reflect the inability of the borrower to
pay. This is particularly true for mortgage debt, where the
loan received was spent entirely on a property and is not
available as a liquid asset to the borrower. Cancellation of
a portion of this debt may occur in order to restructure the
financial position of the borrower, and may be preferable to
lenders over foreclosure. However, because the borrower
realizes the value of the cancelled debt through a
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restructured mortgage, the borrower often does not have
sufficient cash to pay the tax that results. The estimated
decrease in revenues resulting from this bill reflect the lost
income tax that ought to be paid on this debt cancellation,
but whether FTB could successfully collect this tax without
considerable effort may be debatable.
3)Related legislation. AB 2234 (Steinorth) would have also
extended the state exclusion of mortgage forgiveness debt
relief for three years. That bill was held in this committee's
suspense file.
Analysis Prepared by:Luke Reidenbach / APPR. / (916)
319-2081