BILL ANALYSIS �
AB 979
Page 1
Date of Hearing: April 11, 2011
ASSEMBLY COMMITTEE ON REVENUE AND TAXATION
Henry T. Perea, Chair
AB 979 (Silva) - As Introduced: February 18, 2011
Majority vote. Tax levy. Fiscal committee.
SUBJECT : Sales and use taxes: exemption: manufacturing
SUMMARY : Establishes a partial sales and use tax (SUT)
exemption, beginning January 1, 2012, for specified business
equipment. Specifically, this bill :
1)Exempts qualified tangible personal property (TPP) used by a:
a) "Qualified person" primarily in any stage of the
manufacturing, processing, refining, fabricating, or
recycling of property; or,
b) Contractor in the performance of a construction contract
for a "qualified person" who will use the qualified TPP as
an integral part of the manufacturing, processing,
refining, fabricating, or recycling process, or as a
storage facility for use in connection with the
manufacturing process.
1) Defines qualified TPP to include all of the following:
a) Machinery and equipment, including component parts and
contrivances such as belts, shafts, moving parts, and
operating structures;
b) Equipment or devices used or required to operate,
control, regulate, or maintain the machinery including,
without limitation, computers, data-processing equipment,
and computer software, together with all repair and
replacement parts with a useful life of one or more years;
c) Property used in pollution control;
d) Special purpose buildings and foundations, as specified;
and,
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e) Fuels used or consumed in the manufacturing process.
2)Specifies that qualified TPP does not include:
a) Consumables with a normal useful life of less than one
year, except for fuels used in the manufacturing process;
b) Furniture, inventory, and equipment used in the
extraction process, or equipment used to store finished
products that have completed the manufacturing process; or,
c) TPP used primarily in administration, general
management, or marketing.
3)Defines a "qualified person" as any of the following:
a) A person engaged in those lines of business described in
Codes 3111 to 3399, inclusive, or 5112 of the North
American Industry Classification System (NAICS) published
by the United States Office of Management and Budget, 2007
edition; or,
b) An affiliate of a person described above, as specified.
4)Defines "fabricating" as making, building, creating,
producing, or assembling components or property to work in a
new or different manner.
5)Defines "manufacturing" as the activity of converting or
conditioning property by changing the form, composition,
quality, or character of the property for ultimate sale at
retail or use in the manufacturing of a product to be
ultimately sold at retail. Manufacturing includes any
improvements to qualified TPP that result in a greater service
life or greater functionality than that of the original
property.
6)Defines "primarily" as qualified TPP used 50% or more of the
time in an activity that qualifies the taxpayer for the SUT
exemption.
7)Defines "process" to mean the period beginning at the point at
which raw materials are received by the qualified person and
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introduced into the manufacturing, processing, refining,
fabricating, or recycling activity of the qualified person and
ending at the point at which the qualified activity has
altered the TPP to its completed form. Raw materials are
considered introduced into the process when the raw materials
are stored on the same premises where the qualified activity
is conducted.
8)Defines "processing" as the physical application of the
materials and labor necessary to modify or change the
characteristics of property.
9)Defines "refining" as the process of converting a natural
resource to an intermediate or finished product.
10)Provides that the exemption shall not apply with respect to
any tax levied:
a) By a county, city, or district under the Bradley-Burns
Uniform Local SUT Law or the Transactions and Use Tax Law;
and,
b) Under Revenue and Taxation Code (R&TC) Sections 6051.2,
6051.5, 6201.2, and 6201.5, or pursuant to Section 35 of
Article XIII of the California Constitution.
11)Applies to leases of qualified TPP classified as "continuing
sales" and "continuing purchases" in accordance with R&TC
Sections 6006.1 and 6010.1. The SUT exemption:
a) Shall apply to rentals under such a lease provided the
lessee is a qualified person and the property is used in a
qualified manner; and,
b) Will only be available for six years from the date of
commencement of the lease. At the close of the six-year
period, lease receipts are subject to SUT without
exemption.
12)Takes immediate effect as a tax levy.
EXISTING LAW imposes a:
1)Sales tax on retailers for the privilege of selling TPP,
absent a specific exemption. The tax is based upon the
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retailer's gross receipts from TPP sales in this state.
2)Complementary use tax on the storage, use, or other
consumption in this state of TPP purchased from any retailer.
The use tax is imposed on the purchaser, and unless the
purchaser pays the use tax to a retailer registered to collect
the California use tax, the purchaser remains liable for the
tax, unless the use is exempted. The use tax is set at the
same rate as the state's sales tax and must be remitted to the
State Board of Equalization (BOE).
FISCAL EFFECT : The BOE estimates General Fund revenue losses of
$600 million in fiscal year (FY) 2011-12, $1.4 billion in FY
2012-13, and $1.5 billion in FY 2013-14.
COMMENTS :
1)The author states, "Manufacturing in California is in decline
and unemployment is at historic levels. Reinstating the
Manufacturers Tax Credit will incentivize desperately �needed]
job creation in California."
2)Proponents state, "A sales and use tax exemption removes tax
pyramiding by exempting business purchases. While some
concerns may arise that another exemption within the structure
of the sales tax will result in lost revenue, long-term
economic growth will offset losses due to the exemption and,
instead, be replaced with increased collections from payroll
taxes, personal income taxes and corporate taxes."
3)Opponents state, "Our primary concern with this bill is
substantial revenue loss. As a matter of tax policy, we
understand the argument in part, and would suggest that this
policy substitute for single sales factor and other
corporation tax breaks (e.g. loss carry-backs) in a
revenue-neutral manner."
4)The BOE has provided the following comments in its staff
analysis of this bill:
a) What types of entities do NAICS Codes 3111 to 3399 and
5112 include ? "Codes 3111 to 3399 include all
establishments primarily engaged in manufacturing
activities. This includes manufacturers in the aerospace
sector, textiles, pharmaceuticals, printing, food, and
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more.
Code 5112 is comprised of establishments primarily engaged
in computer software publishing or publishing and
reproduction. Software publishing establishments carry out
the functions necessary for producing and distributing
computer software, such as designing, providing
documentation, assisting in installation, and providing
support services to software purchasers. The software
publishing industry produces and distributes information,
but usually it 'publishes' or distributes its information
by methods, such as by CD-ROM's, the sale of new computers
already preloaded with software, or through distribution
over the Internet, rather than in printed form."
b) "In defining "qualified person," it is recommended that
the bill require that the qualifying entity be primarily
engaged in the activities described in the referenced
codes. This is an important issue and one that generated
many disputes when the BOE administered the sales and use
tax manufacturing equipment exemption previously."
c) "Subdivision (g) of proposed Section 6377.5 (page 5,
lines 33 to 40) provides for an exemption from tax for
specified leases of qualified property and limits this
exemption �to] a six-year period. This limitation is
modeled after a provision in former Section 6377 that
provided a partial tax exemption solely to new
manufacturers' leases of equipment. Further, this partial
exemption was available only during the first three years
of operations. Since this bill would provide the exemption
for all qualifying persons (�and] would not be limited to
new businesses during the first three years of operation),
the limitation in subdivision (g) is unnecessary and should
be stricken."
d) The term "property" needs clarifying . "The term
'property,' which is used throughout proposed Section
6377.5, needs clarifying. As currently drafted, the bill
would exempt sales of tangible personal property purchased
by a qualified person for use in the manufacturing,
fabrication, processing, etc., of 'property.'
Traditionally, when the Legislature addresses the
manufacturing of property, it means the traditional
manufacturing of tangible personal property, not the
creation of intangibles or the provision of services and
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utilities. To the extent that the bill does not expressly
limit �this] term to the manufacturing or fabricating of
tangible personal property, then it may be asserted that it
has left open the door to unintended arguments that it
includes the creation of intangible property or the
provision of services and utilities. To avoid any
unintended consequences in administering the proposed
exemption, we suggest that the term "property" be replaced
with 'tangible personal property.'"
5)Committee Staff Comments :
a) Is the proposed SUT exemption for business purchases
good tax policy? Businesses pay about one-third of the
state's SUT. The SUT is paid when a business is considered
to be the final consumer of a tangible item. The tax paid
for a tangible item is then incorporated into the cost of
consumer products, which the consumer then pays taxes on,
leading to double taxation. During this Committee's March
23, 2009 informational hearing on "Tax Policy in a Time of
Economic Crisis," presenters unanimously agreed that it
would be good tax policy to eliminate the SUT on most
business purchases. Such a change, however, should be
considered in light of the overall tax structure. As
noted, a SUT exemption would reduce sales tax revenue. Dr.
Charles McClure, a Senior Fellow with the Hoover Institute,
stated during the Committee's March 23 hearing that the SUT
base should be expanded and the rate increased to
compensate for the loss in revenue.
b) Will the SUT exemption lead to job growth? Prior to
January 1, 2004, California had a similar tax incentive
known as the Manufacturers' Investment Credit (MIC). The
MIC was enacted in response to the state's economic
downturn during the late 80's and early 90's. During this
time, the state lost about 300,000 jobs and had a 45%
reduction in aerospace alone. The MIC expired on January
1, 2004 after the Employment Development Department (EDD)
determined that jobs on the preceding January 1 did not
exceed the total manufacturing jobs in California on
January 1, 1994 by more than 100,000. EDD stated that from
January 1, 1994 to January 1, 2002, the total net increase
in manufacturing employment was 35,150.
c) Defining useful life. This bill provides that TPP does
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not include consumables with a normal useful life of less
than one year. This bill, however, does not provide any
guidance on how normal useful life is to be measured.
Because the normal useful life of one item may vary
depending on the type of industry, this bill should
reference a clear objective standard for determining the
useful life of an item.
d) Notification Requirement. AB 979 includes a provision
eliminating the SUT exemption if the purchased property is
removed from California or converted to a non-exempt use
within one year of the purchase date. This bill allows BOE
to collect taxes not paid if any of the above occurs, but
AB 979 does not provide a method for notifying BOE. Short
of an audit, BOE would have no means of learning of the
liability.
e) Related Legislation. Several bills were introduced in
the 2009-10 Legislative Session to provide a similar tax
exemption for certain TPP:
i) AB 1719 (Harkey) would have created a partial SUT
exemption for specified business equipment. AB 1719 was
held in this Committee.
ii) AB 1812 (Silva) would have provided a partial SUT
exemption, beginning January 1, 2011, for specified TPP.
AB 1812 was held in this Committee.
iii) AB 2280 (Miller) would have provided a complete SUT
exemption for all manufacturing equipment. AB 2280 was
held in this Committee.
iv) SB 1053 (Runner) would have provided a partial SUT
exemption for TPP used in manufacturing and qualified
research and development activities by manufacturers and
software publishers and affiliates. SB 1053 was held in
the Senate Committee on Revenue and Taxation.
REGISTERED SUPPORT / OPPOSITION :
Support
California Aerospace Technology Association
California Manufacturers & Technology Association
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California Taxpayers Association
Opposition
California Tax Reform Association
Analysis Prepared by : M. David Ruff / REV. & TAX. / (916)
319-2098