BILL ANALYSIS
AB 1580
Page A
CONCURRENCE IN SENATE AMENDMENTS
AB 1580 (Charles Calderon)
As Amended September 1, 2009
Majority vote. Tax levy
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|ASSEMBLY: | |(May 28, 2009) |SENATE: |22-17|(September 4, 2009) |
| | | | | | |
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(vote not relevant)
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|COMMITTEE VOTE: |6-2 |(September 9, 2009) |RECOMMENDATION: |Concur |
|(Revenue & | | | | |
|Taxation) | | | | |
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|COMMITTEE VOTE: |10-5 |(September 9, 2009) |RECOMMENDATION: |Concur |
|(Appropriation) | | | | |
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Original Committee Reference: REV. & TAX.
SUMMARY : Conforms specified provisions of the California Personal
Income Tax (PIT) Law, Corporation Tax (CT) Law, and administration
of franchise and income tax laws to federal income tax laws as set
forth in the Internal Revenue Code (IRC) as of January 1, 2009.
The Senate amendments delete the current provisions of this bill,
and instead conform specified provisions of the PIT Law, CT Law,
and administration of franchise and income tax laws to federal
income tax laws as set forth in the IRC as of January 1, 2009.
AS PASSED BY THE ASSEMBLY , this bill:
1)Clarified the operative date for the provision related to the
temporarily reduced amount of the dependent exemption credit.
2)Required the Franchise Tax Board (FTB) to apply wage withholding
toward a taxpayer's estimated tax payment obligation using the
recently modified percentages.
AB 1580
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3)Corrected an erroneous cross-reference in Revenue and Taxation
Code (R&TC) Section 19136.8 relating to a penalty for the
underpayment of estimated tax.
4)Clarified that an annual election to use the single sales factor
apportionment formula may be made by an apportioning trade or
business only for taxable years beginning on or after January 1,
2011.
5)Made technical, non-substantive changes to R&TC Code Sections
25128 and 25128.5.
FISCAL EFFECT : The Franchise Tax Board (FTB) staff estimates that
the tax provisions of this bill will result in an annual revenue
loss of $9.5 million in fiscal year (FY) 2009-10, $4.6 million in
FY 2010-11, and $0.6 million in FY 2011-12. The provisions
conforming to the federal penalties and interest will result in an
annual gain of $14 million in FY 2009-10, $18 million in FY
2010-11, and $21 million in FY 2011-12.
COMMENTS :
1)According to the author's office, the purpose of this bill is to
conform to numerous changes in federal law to simplify the
preparation of California income tax returns and to reduce
taxpayers' compliance costs. AB 1580 is a comprehensive federal
tax conformity bill that incorporates various items form 17
federal tax acts enacted since the last California conformity
date of January 1, 2005. This bill is a "good government"
measure and represents the Legislature's most recent attempt to
simplify the tax code for both taxpayers and practitioners by
narrowing the gap between the federal and state tax laws. Last
year, the conformity bill, AB 1561 (Charles Calderon), resulted
in an increase in state taxes and failed on the Senate Floor.
2)The importance (and conundrum) of conformity . When changes are
made to the federal income tax law, California does not
automatically adopt such provisions. Instead, state legislation
is needed to conform to most of those changes. Conformity
legislation is introduced either as individual tax bills to
conform to specific federal changes or as one omnibus bill to
conform to the federal law as of a certain date with specified
exceptions, a so-called "conformity" bill.
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The last California-federal conformity bill was enacted in 2005 [AB
115 (Klehs), Chapter 691, Statutes of 2005], and for the last
three years, businesses, tax practitioners and state tax agencies
have been advocating for a new bill to conform state tax laws to
ever-changing federal tax laws. Businesses, generally, prefer
conformity to federal tax laws because it reduces their state tax
compliance costs. The tax practitioners have argued that there
are significant costs associated with federal non-conformity. As
stated in the support letter from Spidell Publishing, Inc.,
"[s]ome California taxpayers avoid the compliance burden created
by nonconformity by simply following federal law when completing
their California tax returns? Some taxpayers are [unaware] of the
state and federal differences and unknowingly complete their tax
returns incorrectly." Failure to conform to federal law in some
areas may lead to improper tax reporting to California and extra
costs to the taxpayers. As an example, a taxpayer may roll-over
balances in an Archer Medical Savings Account to a new Health
Savings Account without triggering liability at the federal
level, but will unknowingly face penalties for the transfer since
it constitutes a disqualified distribution for state purposes.
Finally, conformity legislation is also important to state
agencies. Conformity eases the burden, and reduces the costs, of
tax administration because the state may rely on federal audits,
federal case law, and regulations.
While state conformity to federal income tax provisions offers
certain advantages and reduces tax compliance costs, it can also
significantly impact state revenues. Thus, it would be difficult
to achieve complete conformity with federal income tax rules.
Often, the Legislature needs to increase tax rates to find
funding to adopt a new or expand an existing credit or deduction
allowed for federal income tax purposes. Tax credits,
deductions, and exemptions are designed to provide incentives for
taxpayers that incur certain expenses or to influence behavior,
including business practices and decisions. Both the Federal and
state governments often use tax policy to influence taxpayers'
behavior. However, federal tax incentives may not necessarily
produce the same effect on the taxpayer's behavior at the state
level, if adopted by the state government, as they do on the
federal level. Furthermore, unlike the Federal government,
California cannot print money to subsidize its budget.
Therefore, the Legislature must be mindful of fiscal effects of
conforming to federal tax laws, even if those may not trigger
significant fiscal concerns in Congress.
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Last year, the conformity bill, AB 1561, required a 2/3 vote of the
membership in each house and the measure did not advance from the
Senate Floor because it failed to secure 27 Senate votes. AB
1580 is the most recent attempt to ease the hardship on taxpayers
and tax practitioners by bringing the two tax codes closer
together.
3)Mortgage Debt Forgiveness . Last year, the Legislature approved
SB 1055 (Machado), which provided modified conformity to the
MFDRA for discharge of mortgage indebtedness in the 2007 and 2008
tax years. This year, Senate Revenue and Taxation Committee held
SB 97 (Calderon), which extended modified conformity to discharge
of mortgage indebtedness in the 2009 and 2010 tax years. This
Committee held AB 111 (Niello), which provided full conformity to
MFDRA. AB 1580 provides homeowners greater assistance not only
by extending the mortgage debt forgiveness provisions until
January 1, 2013, but also by increasing the amount of forgiven
mortgage indebtedness excludable from taxpayer's gross income
from $250,000 ($125,000 in the case of a married individual
filing a separate return) to $500,000 ($250,000 in case of a
married individual filing a separate return). Conformity to
federal mortgage debt is reasonably inexpensive and affects
individuals who likely must leave their homes with no cash or no
equity, or both.
4)Waiver of the early withdrawal penalty for public safety
employees. Existing federal tax law imposes a 10% withdrawal
penalty tax on early distributions made from a qualified
retirement plan to a taxpayer under the age of 59 , unless an
exception applies. For distributions made after August 17, 2006,
Section 882 of the PPA of 2006 amended IRC Section 72(t) to
provide an exception from the 10% penalty for distributions from
a governmental defined benefit pension plan to a qualified public
safety employee who separates from service after the age of 50.
The exception applies to distributions made to public safety
employees after December 31, 2006. Existing federal law also
provides tax relief from the penalty to public safety officers
who use distributions received from governmental plans to pay for
health and long-term care insurance for himself/herself or
his/her spouse or dependents (IRC Section 402, as amended by
Section 845 of the PPA). This exception from the 10% penalty
tax applies to distributions made after December 31, 2006.
Existing state law conforms to federal law, as of January 1, 2005,
with respect to taxation of qualified retirement plans, except
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that California imposes the early withdrawal penalty at 2
%, rather than 10%. This bill provides partial conformity to
federal tax laws by allowing relief from the 2 % penalty for
early distributions made to public safety employees. Due to the
nature of their jobs, public safety employees often retire early,
well before age 59 . However, those retired employees are
unable to access all of their retirement funds without paying the
penalty under California law.
While some federal law changes relating to qualification of federal
plans are automatically incorporated into California tax laws,
specific state legislation in other areas is required for federal
law enacted after the last conformity date to apply for
California tax purposes. Thus, existing state law provides that
federal changes to Part I of Subchapter D of Chapter 1 of IRC
Sections 401 through 420, inclusive, relating to pension,
profit-sharing, stock bonus plans, other employee benefit plans,
and IRC Section 457, relating to deferred compensation plans of
state and local governments and tax-exempt organizations,
automatically apply without regard to taxable years to the same
extent as applicable for federal income tax purposes. All
federal changes made to those IRC sections are automatically
adopted by California without regard to the specified date.
Therefore, as of December 31, 2006, California automatically
conformed to the PPA changes to IRC Section 402 relating to
employee benefits plans and already allows public safety officers
to use up to $3,000 of distributions from governmental plans to
pay for qualified health insurance premiums or qualified
long-term care insurance contracts. In addition, California also
conforms to the PPA provision providing an exclusion from gross
income for distributions from eligible governmental plans to be
used to pay qualified health insurance premiums and long-care
costs and, therefore, no state legislation is needed to conform
to that provision.
5)Erroneous Refund Penalty . Recently, Congress decided that on and
after May 25, 2007, taxpayers filing an erroneous claim for
refund should face a penalty equal to 20% of the disallowed
amount of the claim, unless the taxpayer shows a reasonable basis
for the refund. The penalty does not apply to any part of the
disallowed amount of the claim that relates to the earned income
credit or on which the accuracy-related or fraud penalties are
charged. The purpose of penalties is to encourage voluntary
compliance. Taxpayers often take aggressive tax positions, and
with taxpayers petitioning FTB for hundreds of millions of
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dollars in refund claims each year, failing to conform to the
erroneous refund penalty may encourage California taxpayers to
continue to make tenuous refund claims, especially, since the
Internal Revenue Service (IRS) and many other states apply the
penalty.
When Congress was debating whether or not to enact the erroneous
refund penalty, the Treasury Assistant Secretary for Tax Policy,
Eric Solomon was asked to testify regarding the penalty before
the Senate Finance Committee on Ways to Reduce the Tax Gap in
2007. In his testimony, he explained that, under current law,
the accuracy-related penalty that a taxpayer might pay,
generally, depends on the amount of underpayment of tax. If a
taxpayer wrongfully claims a refund, however, there is no penalty
as long as no additional tax liability is attributable to the
wrongful claim, as often happens when there has been over
withholding. Mr. Solomon stated that "the IRS has observed
aggressive behavior that is undeterred by the tax code's current
accuracy-related penalty framework, which is geared toward
deterrence of reported tax deficiencies. As a practical matter,
some taxpayers and their advisors may be taking advantage of the
existing penalty structure by aggressively claiming credits that
generate refunds, in an effectively risk-free gamble." To
address this problem, the IRS suggested an imposition of a
penalty on an unreasonable claim for refund or credit. As
emphasized by Mr. Solomon, the erroneous refund penalty creates
"a parallel system of deterrence applicable even if the taxpayer
is in a refund, rather than a deficiency, procedural posture,
thus stemming the tide of aggressive claims that are made without
reasonable basis or reasonable cause, regardless of the
procedural context." ("Testimony of Treasury Assistant Secretary
for Tax Policy, Eric Solomon, Before the Senate Finance Committee
on Ways to Reduce the Tax Gap",
http://www.treas.gov/press/releases/hp360.htm ).
AB 1580 seeks to implement a similar penalty to deter taxpayers
from filing aggressive claims for refund. Opponents of the
erroneous refund penalty, however, assert that the terms of the
penalty, such as "reasonable basis" and "excessive amount" are
undefined, that the penalty disproportionately punishes taxpayers
compared to the amount of noncompliance, and that no reasonable
cause exception exists, among other arguments. To alleviate the
burden of this penalty on individuals, who, generally, are not
sophisticated in complicated tax matters, AB 1580 provides an
exemption for the vast majority of individuals. Thus,
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individuals with adjusted gross income of less than $250,000 (in
the case of married filing jointly taxpayers) or $250,000 (in any
other case) are not subject to the erroneous refund penalty under
this bill.
6)"Kiddie" Tax . AB 1580 would conform to federal law by increasing
the age of minor children for purposes of the "kiddie" tax. This
tax requires unearned income (e.g., interest, dividends, etc.) of
children under a specified age to be taxed at the parents' tax
rate. The federal law was initially introduced to address
certain practices whereby wealthy taxpayers would transfer assets
like stocks or bonds to their children, who usually paid tax at a
lower rate. In 2005, the federal law was changed to apply to
children under the age of 18, and in 2007, those rules were
changed again to apply to dependent children under the age of 24.
7)Inflation-indexing of gross income limitations on retirement
savings incentives . For taxable years beginning on or after
January 1, 2007, the PPA indexes the income limits for Individual
Retirement Account (IRA) contributions beginning in 2007. The
indexing applies to the income limits for deductible
contributions for active participants in an employer-sponsored
plan,<1> the income limits for deductible contributions if the
individual is not an active participant but the individual's
spouse is, and the income limits for Roth IRA contributions.
Indexed amounts are rounded to the nearest multiple of $1,000.
AB 1580 would conform the Personal Income Tax Law to those
provisions.
8)AB 1580 was heard by the Assembly Revenue and Taxation Committee
and passed out by a vote of 6-2 and is set to be heard by the
Appropriations Committee.
Analysis Prepared by : Oksana Jaffe / REV. & TAX. / (916) 319-2098
FN: 0003120
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<1> Under the PPA, for 2007, the lower end of the income phase out
for active participants filing a joint return is $80,000, as
adjusted to reflect inflation.