BILL ANALYSIS
AB 1387
Page 1
Date of Hearing: April 27 2009
ASSEMBLY COMMITTEE ON REVENUE AND TAXATION
Charles M. Calderon, Chair
AB 1387 (Tran) - As Introduced: February 27, 2009
SUSPENSE
Majority vote. Fiscal committee.
SUBJECT : Taxation: Franchise Tax Board and State Board of
Equalization: burden of proof
SUMMARY : Transfers the burden of proof to the taxing agency in
all court or tax administrative tax proceedings. Specifically,
this bill :
1)Requires that, in any civil proceeding to which the State
Board of Equalization (BOE) is a party, BOE shall have the
burden of proof by clear and convincing evidence to sustain a
penalty proposed for intent to evade or for fraud of a
taxpayer, with respect to any factual issue relevant to
ascertaining the liability of a taxpayer. Specifically:
a) Prevents this provision from overriding any
substantiation requirement with respect to any item on any
return or claim filed with BOE.
b) Is inapplicable to criminal proceedings.
c) Does not subject a taxpayer to unreasonable search or
access to records in violation of the United States (U.S.)
Constitution, the California Constitution, or any other
law.
2)Imposes the burden of proof on BOE and the Franchise Tax Board
(FTB) in any court or administrative tax proceeding with
respect to a factual issue related to ascertaining the tax
liability of a cooperating taxpayer. Specifically:
a) Defines "cooperating taxpayer" as a taxpayer that
satisfies all of the following:
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i) Compliance with all relevant statutory, regulatory,
or case law requirements to substantiate any item on a
return or claim filed with BOE or FTB;
ii) Maintenance of all records as required and, upon a
reasonable request by the state agency, provision of
those records to the state agency; and,
iii) Submission of credible evidence to BOE or FTB with
respect to any factual issue relevant to ascertaining the
tax liability of the taxpayer.
b) Defines "tax liability" as any tax or fee assessed or
determined by BOE or FTB, including any interest accrued or
penalties levied in association with the tax or fee.
c) Defines "administrative tax proceeding" as either of the
following:
i) Oral hearing before the members of BOE for disputes
concerning taxes or fees collected by BOE; or,
ii) Oral hearing before the members of BOE for disputes
concerning taxes collected by FTB.
d) Establishes the burden of proof evidentiary standard
imposed on FTB and BOE as a preponderance of the evidence,
unless otherwise provided.
e) Does not apply to an adjustment proposed and made to a
taxpayer's federal income tax return by the federal
government.
f) Does not apply to an appeal filed with BOE subject to
the provisions of existing law regarding the burden of
producing additional information when a taxpayer is
challenging an information return.
g) Does not subject a taxpayer to unreasonable search or
access to records in violation of the U.S. Constitution,
the California Constitution, or any other law.
h) Applies only to court and administrative proceedings
involving assessments or notices of determination issued on
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or after the date on which this act becomes operative.
EXISTING FEDERAL LAW places the burden of proof on the Internal
Revenue Service (IRS) in any "court proceeding" involving a
factual issue, if the taxpayer introduced credible evidence with
respect to the factual issue relevant to ascertaining the
taxpayer's tax liability [Internal Revenue Code (IRC) Section
7491]. Specifically, the burden of proof shifts to the IRS if
the taxpayer (a) complies with all the substantiation
requirements of the IRC; (b) maintains all the records required
by the IRC; (c) cooperates with the IRS' reasonable requests for
witnesses, information, documents, meetings, and interviews, and
(d) meets the net worth requirement ($7 million or less) if the
taxpayer is a partnership, corporation, or trust.
EXISTING STATE LAW establishes a general burden of proof
evidentiary standard of preponderance of the evidence, thus,
placing the burden on the person controlling the facts. This
burden is imposed on the taxpayer for most items where
the taxpayer disputes a proposed assessment or claims a refund
of tax. Limited exceptions to this general burden of proof
standard exist, primarily in the imposition of penalties or in
pursuit of criminal convictions. For example, the evidence
standard needed to establish civil tax fraud is clear and
convincing, and that burden rests with the tax agency.
In modified conformity with federal law, FTB, in connection with
appeals before BOE, has the burden of producing reasonable and
probative additional information to prove the correctness of an
assessment that is based upon third-party information returns if
the taxpayer sets forth a reasonable argument regarding the
disputed income, appeals FTB's action, and fully cooperates with
FTB.
FISCAL EFFECT : BOE staff states that if this bill leads to
reduced reporting, department audit programs would be adversely
impacted, resulting in lost revenues. However, the magnitude of
any resulting loss is difficult to determine. FTB
staff estimates that this bill will result in revenue losses, as
summarized in the table below:
Estimated Revenue Impact of AB 1387
Operative for Assessments and Notices of determination issued on
or after January 1, 2010
($ in Millions)
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--------------------------------------------------------------
| | 2009-10 | 2010-11 | 2011-12 |
|---------------------+------------+-------------+-------------|
| | | | |
|Unsustained | | -$85 | -$220 |
|assessments | | | |
|---------------------+------------+-------------+-------------|
| | | | |
|Reduced audit | -$60 | -$90 | -$120 |
|revenue | | | |
|---------------------+------------+-------------+-------------|
| | | | |
|Decreased | Unknown | Unknown | Unknown |
|Self-compliance* | Loss | Loss | Loss |
| | | | |
--------------------------------------------------------------
*A rule of thumb estimate is that for every 1% decrease in
self-compliance under the Personal Income Tax and Corporate Tax
Laws caused by this bill, approximately $600 million in tax
revenue would be lost.
Proposition 98 Fiscal Effect : Unknown.
COMMENTS :
1)Author's Statement . The author states, that "In a court of
law, the burden of proof is on the government and you are
presumed innocent until proven guilty. In tax proceedings,
the concept of 'innocent until proven guilty' is ignored.
"Currently, the placement of the general burden of proof on the
taxpayers creates a perception of guilt until proven innocent.
A better balance would place the burden of proof on the
government to show an increase in liability if the taxpayer
complied with the procedural and recordkeeping requirements of
the tax laws. That is, if the taxpayer is generally
law-abiding, it should be the government's responsibility to
show that the taxpayer's determination of liability was not
correct.
"This shift (as proposed in AB 1387) would not impose an
unreasonable obstruction to the State in determining the
correct tax liability. Instead, good auditing practices
should ordinarily produce sufficient evidence to sustain the
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burden of proof regardless of the shift."
2)The purpose of this bill . According to the author, the
purpose of this bill is to shift the burden of proof to the
state tax agency consistent with the federal shift of the
burden of proof approved for federal purposes in the IRS
Restructuring and Reform Act of 1998. California tax laws do
not provide the same level of protection that current federal
law provides to taxpayers, but, in light of the state's
financial crisis, the need to protect taxpayers is more
important now than ever.
3)Opponents and Proponents . Opponents state that the shift in
the burden of proof to the tax agency would cause disruption
in tax collections and could benefit the underground economy.
Opponents refer to a comment by the Tax Executives Institute,
an organization that monitors federal tax issues, that the
shift in burden of proof would either make the IRS more
intrusive, or the tax system less effective, neither of which
is a desirable outcome.
Proponents believe that this bill will make the tax system more
fair for the taxpayer and want the Legislature to impose the
same protections afforded defendants in criminal trials to
taxpayers contesting civil actions before an elected body
(BOE). Proponents note that this shift occurs only after the
taxpayer has complied with all substantiation requirements and
state that the tax agency makes the assessment
and should carry the burden of proof why it made the change.
4)Standard of Proof in BOE civil tax fraud cases .
a) BOE staff states that one of the provisions of this bill
(the elevated burden on BOE for claims of intent to evade
or fraud) is consistent with current practices of BOE as
well as case law. Specifically, the California Court of
Appeals in Marchica v. State Board of Equalization (1951)
107 Cal. App. 2d 501, determined that the standard of proof
in civil tax fraud cases was the clear and convincing
evidence standard. The Ninth Circuit Court of Appeals,
relying on the Marchica decision, concluded that "clear and
convincing evidence must be shown to establish civil tax
fraud under California law." California State Board of
Equalization v. Renovizor's (2002) 282 F.3d 1233.
Effective January 9, 2003, BOE amended its Regulation
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1703(c)(3)(C) to clarify that the agency's existing
standard of proof in the case of fraud or intent to evade
is the clear and convincing evidence.
b) BOE staff states that it is appropriate that the
standards for asserting penalties for fraud or intent to
evade be the same at both the administrative and judicial
levels. This bill would codify the Marchica decision and
BOE's Regulation 1703(c)(3)(C) to provide that, in the case
of civil tax fraud, the standard of proof is the clear and
convincing evidence and that BOE has to prove fraud or
intent to evade in those cases.
c) BOE staff also notes that this bill proposes to shift
the burden of proof for all cooperating taxpayers
regardless of the size. The proposed burden of proof
provisions are broader than the federal provisions for
which consistency is sought. The federal shift is limited
to taxpayers with less than $7 million in net worth and is
intended to benefit small taxpayers rather than large
businesses that are more capable of defending themselves in
court proceedings.
d) If a taxpayer has complied with all substantiation
requirements and provided all records, it is unclear how
there would be any factual dispute. It appears that the
decision with respect to this issue would determine the
outcome of the hearing or trial.
e) Existing BOE regulations require taxpayers to maintain
and make available for examination on request by BOE or its
authorized representative, all records necessary to
determine the correct tax liability under the Sales and Use
Tax (SUT) Law and all records necessary for the proper
completing of the SUT tax return. BOE would be required to
amend the regulation to specify the kinds and types of
records that a taxpayer must maintain in order to be deemed
a "cooperating taxpayer".
5)FTB Concerns . The FTB staff analysis of this bill identifies
numerous implementation concerns. Among those concerns are:
a) FTB is not authorized to require most taxpayers to keep
records or other evidence necessary to determine the tax.
Additional statutes would be required to create sufficient
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record requirements to permit a taxpayer to
meet the definition of cooperating taxpayer.
b) This bill is silent on who will make a determination as
to whether the taxpayer was a "cooperating taxpayer".
Taxpayers could assert they are "cooperating" without
providing sufficient information to conduct a complete
audit. As a result, FTB will be faced with an extremely
difficult deficiency determination process, which will
result in more time-consuming and intrusive audits
involving third-party interviews, credit report requests,
review of other agencies' returns, and/or
searches for any available relevant documents maintained by
the taxpayer and/or others.
c) This bill states that the burden of proof will shift to
FTB when the cooperating taxpayer "has provided credible
evidence to FTB with respect to any factual issue". The
timing of when the burden of proof will
actually shift from the taxpayer to FTB is unclear with
regard to the phrase "has provided credible evidence to FTB
with respect to any factual issue". In
addition, this phrase could be interpreted to shift the
burden of proof on all factual issues if the taxpayer
introduces credible evidence of only one factual issue.
d) Currently, taxpayers may waive their rights to an oral
hearing before BOE, and thus, it is not clear whether this
bill would apply to appeals where the taxpayer waived that
right. Does FTB still have a burden of
proof in the case where the taxpayer waived his/her right
to an oral hearing?
A substantial majority of taxpayers waive that right, but FTB
staff learns whether there will be an oral hearing after
opening briefs are prepared and filed.
e) This bill states that it will only apply to court or
administrative tax proceedings involving assessments or
notices of determination issued on or after the operative
date of this bill. With respect to FTB, assessments are
only issued after all pre-payment administration
proceedings have been exhausted. In addition, this
language appears to exclude matters related to a claim for
refund.
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f) This bill does not require a taxpayer to meet the
minimum threshold of providing evidence with respect to a
factual issue in dispute. FTB staff argues that, if a
taxpayer is not required to meet the minimum threshold of
credible evidence, it may be difficult in many cases for
the taxing agency to meet its burden of proof because the
taxpayer has control of the records and documents necessary
to ascertain the taxpayer's tax liability.
6)Committee staff notes the same implementation concerns and
policy issues that were raised in our analysis of AB 2727 (La
Malfa), introduced in the 2007-08 Legislative Session.
Specifically:
a) The shift in the burden of proof at the federal level
occurs only in proceedings before the U.S. Tax Court and
only after the taxpayer produces credible evidence with
respect to any factual issue relevant to ascertaining the
taxpayer's liability. AB 1387's attempt to shift the
burden in administrative proceedings is not consistent with
the federal action.
b) The author of AB 1387 desires to raise the standard of
proof and responsibility in all civil proceedings where tax
is involved. It is important to note the difference
between actions that deprive a person of liberty and those
that deprive a person of tax dollars. The current burden
for tax crimes is on the state, just as it is for all
crimes. In civil tax fraud cases, the burden of proof is
imposed on the tax agency at a standard (clear and
convincing evidence) higher than that imposed on the
taxpayer with respect to the facts surrounding the
deficiency (preponderance of the evidence).
c) The shift in the burden occurs only with a cooperating
taxpayer, which is defined as someone that has complied
with all substantiation requirements and has maintained all
records as required. This definition on
its own might cause litigation by creating additional legal
challenges, such as, "Does the taxpayer meet the
"cooperating taxpayer" definition?"
d) Committee staff questions whether this bill would
undermine the efforts of the state to close the tax gap
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during this critical fiscal period.
7)Committee staff notes similar measures introduced in prior
legislative sessions:
AB 2727 (La Malfa) and AB 1600 (La Malfa), both introduced in
the 2007-08 Legislative Session, would have shifted the burden
of proof from a taxpayer to the agency collecting taxes in
certain situations. AB 1600 and AB 2727 failed to pass out of
this committee.
SB 633 (Dutton), introduced in the 2005-06 legislative session,
similarly to AB 2727 and AB 1600, would have shifted the
burden of proof from a taxpayer to the tax agency. SB 663 was
never heard in committee.
SB 1222 (Knight), introduced in the 1999-2000 legislative
session, would have shifted the burden of proof to FTB in
court proceeding for factual issues, penalties, and
adjustments to income based on statistical information,
but not for issues resulting from federal changes. SB 1222
died in this committee.
AB 436 (McClintock), introduced in the 1999-2000 legislative
session, would have added the Taxpayer's Rights Act that
included taxpayer rights provisions including shifting the
burden of proof to taxing agencies in any legal action
contesting the validity of any tax. AB 436 was never heard in
this committee.
SB 1478 (Rainey), introduced in the 1997-98 legislative session,
would have declared legislative intent to conform to the IRS
Restructuring and Reform Act of 1998, including
shifting the burden of proof to state agencies collecting
taxes in any court or administrative proceeding under certain
conditions. SB 1478 was held in the Senate Revenue and
Taxation Committee.
AB 1631 (Sweeney), introduced in the 1997-98 legislative
session, would have declared legislative intent to conform to
the federal law relating to shifting the burden of proof
in connection with income taxes paid by California
taxpayers. AB 1631 was held in the Assembly Appropriations
Committee.
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SB 1166 (Hurtt), introduced in the 1997-98 legislative session,
would have shifted the burden of proof from taxpayers to the
"board" in court proceedings under certain conditions and
declare legislative intent to conform to the then pending
federal taxpayer bill of rights' legislation. SB 1166 failed
to pass out of this committee.
REGISTERED SUPPORT / OPPOSITION :
Support
Howard Jarvis Taxpayers Association
Opposition
American Federation of State, County and Municipal Employees,
AFL-CIO
California Tax Association
Analysis Prepared by : Oksana Jaffe / REV. & TAX. / (916)
319-2098