BILL ANALYSIS �
AB 1972
Page 1
Date of Hearing: May 14, 2012
ASSEMBLY COMMITTEE ON REVENUE AND TAXATION
Henry T. Perea, Chair
AB 1972 (Huber) - As Introduced: February 23, 2012
VOTE ONLY
Majority vote. Tax levy. Fiscal committee.
SUBJECT : Sales and use taxes: exemption: manufacturing
equipment: research and development
SUMMARY : Establishes a temporary sales and use tax (SUT)
exemption, beginning January 1, 2013, for specified
manufacturing and research and development (R&D) equipment.
Specifically, this bill :
1)Exempts tangible personal property (TPP) used by a:
a) "Qualified person" primarily in any stage of the
manufacturing, processing, refining, fabricating, or
recycling of TPP;
b) "Qualified person" primarily in R&D;
c) "Qualified person" primarily to maintain, repair,
measure, or test any TPP described above; or,
d) Contractor in the performance of a construction contract
for a "qualified person" who will use the TPP as an
integral part of the manufacturing, processing, refining,
fabricating, or recycling process, or as a research or
storage facility for use in connection with the
manufacturing process.
2)Defines 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,
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and computer software, together with all repair and
replacement parts with a useful life of one or more years;
c) TPP used in pollution control, as specified;
d) Special purpose buildings and foundations, as specified;
and,
e) TPP used in recycling.
3)Specifies that the exemption does not apply to the following:
a) TPP used primarily in administration, general
management, or marketing;
b) Consumables with a useful life of less than one year;
c) Furniture and inventory; and,
d) Equipment used in the extraction process or used to
store finished products that have completed the
manufacturing process.
4)Defines a "qualified person" as a person primarily engaged in
those lines of business classified in:
a) Industry Groups 3111 to 3399, inclusive, of the North
American Industry Classification System (NAICS) published
by the United States Office of Management and Budget, 2007
edition (i.e., manufacturing);
b) Industry Group 5112 (i.e., software publishing);
c) NAICS Industry 221119 (i.e., alternative electric power
generation); or,
d) NAICS Industry 541711 (i.e., R&D in biotechnology).
4)Includes within the definition of a "qualified person" an
affiliate of a person described above, as specified.
5)Defines "fabricating" as making, building, creating,
producing, or assembling components or property to work in a
new or different manner.
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6)Defines "manufacturing" as the activity of converting or
conditioning TPP by changing the form, composition, quality,
or character of the TPP for ultimate sale at retail or use in
the manufacturing of a product to be ultimately sold at
retail. Manufacturing includes any improvements to TPP that
result in a greater service life or greater functionality than
that of the original TPP. Manufacturing also includes the
generation of electricity.
7)Defines "primarily" to mean that TPP is used 50% or more of
the time in an activity that qualifies the taxpayer for the
SUT exemption.
8)Defines "process" to mean the period beginning at the point at
which raw materials are received by the qualified person and
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.
9)Defines "processing" as the physical application of the
materials and labor necessary to modify or change the
characteristics of TPP.
10)Defines "refining" as the process of converting a natural
resource to an intermediate or finished product.
11)Defines R&D as those activities that are described in
Internal Revenue Code Section 174 or in any regulations
thereunder.
12)Applies to leases of TPP classified as "continuing sales" and
"continuing purchases" in accordance with Revenue and Taxation
Code Sections 6006.1 and 6010.1. The SUT exemption shall
apply to rentals under such a lease provided the lessee is a
qualified person and the TPP is used in a qualified manner.
13)Sunsets on January 1, 2019.
14)Provides that, notwithstanding existing law, the state shall
not reimburse any local agency for SUT revenues lost as a
result of this exemption.
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15)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
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 that this bill would decrease
state and local revenues by $765 million in fiscal year (FY)
2012-13, and by $1.66 billion in FY 2013-14.
COMMENTS :
1)The author has provided the following statement in support of
this bill:
Assembly Bill 1972 seeks to provide a tax exemption to
businesses for the purchase of manufacturing equipment or
research and development.
California has struggled to attract or retain jobs in the
manufacturing sector as many of the state's manufacturers
have struggled to keep their doors open here. From 2001 to
2011, California has lost 613,000 jobs in this sector
according to EDD statistics cited by the California
Manufactures and Technology Association.
Studies have found that California's tax and regulatory
climate is a direct contributor to these job losses.
According to a Milken Institute Report, Manufacturing 2.0,
the key reasons for the state's loss in manufacturing jobs
are the regulatory climate, tax burden and business
unfriendly reputation. This report compares California to
seven states, Arizona, Indiana, Kansas, Minnesota, Oregon,
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Texas and Washington, that saw an increase in their share
of �the] nation's manufacturing jobs.
AB 1972 seeks to make California a more inviting climate
for manufacturers by providing incentives to businesses
looking to bring jobs to our state by providing tax
exemptions for companies that invest in new equipment or
research and development.
2)The BOE has provided the following comments in its staff
analysis of this bill:
a) What types of entities are included in (NAICS) Codes
3111 to 3399, 5112, 221119, and 541711 ? Codes 3111 to 3399
include all establishments primarily engaged in
manufacturing activities. Manufacturing activities involve
the mechanical, physical, or chemical transformation of
materials, substances, or components into new products.
The manufacturing sector includes entities in the aerospace
sector, food, beverages, tobacco, textiles and apparel,
wood and paper products, petroleum, pharmaceuticals,
chemicals, pesticides and fertilizers, plastics and rubber
products, glass, cement and concrete, steel, metals,
printing, computer and electronic product, and
miscellaneous manufacturing.
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 non-printed methods such as by CD-ROM's, preloaded
software included in the sale of new computers, or through
electronic distribution over the Internet.
Code 221119 consists of establishments primarily engaged in
operating electric power generation facilities (except
hydroelectric, fossil fuel, or nuclear) using renewable
sources. These facilities convert other forms of energy,
such as solar, wind, or tidal power, into electric energy.
The electric energy produced by these establishments is
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provided to electric power transmission systems or to
electric power distribution systems.
Code 541711 is comprised of establishments primarily
engaged in conducting biotechnology research and
experimental development. Biotechnology research and
experimental development involves the study of the use of
microorganisms and cellular and biomolecular processes to
develop or alter living or non-living materials. This
biotechnology research and development may result in
development of new biotechnology processes or in prototypes
of new or genetically-altered products that may be
reproduced or utilized by various industries.
3)Proponents state:
For nearly a century, California was a global leader in
manufacturing, but the state lost 613,000 manufacturing
jobs between 2001 and 2011, according to data from the
California Employment Development Department. While most
of these jobs were lost during the national manufacturing
recession, the Milken Institute study, "Manufacturing 2.0,"
reports that California's manufacturing base declined
faster than the nation as a whole because of the state's
onerous regulatory climate and its high taxes. This trend
also applies to other business sectors that often cite
California's high tax burden as one of the primary reasons
for relocating to other states.
Proponents of a manufacturing sales and use tax exemption
estimate that, based on a Milken Institute report, a 5-cent
reduction of the sales tax on manufacturing equipment
purchases would create 500,000 total jobs over a 10-year
period, with 140,000 of those jobs in the manufacturing
sector, and bring in $459 million in new revenues to the
state.
4)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 elective single sales factor and other
corporation tax breaks (e.g. loss carry-backs) in a
revenue-neutral manner. Arguably, the language defining
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manufacturing is too broad and we question the inclusion of
research equipment insofar as California has the most
generous research and development credit in the nation.
However, even if these problems were remedied, this bill
should only move forward if other issues in the corporation
tax are addressed to cover the revenue loss.
5)Committee Staff Comments :
a) Is the proposed SUT exemption for manufacturing
equipment good tax policy? Businesses currently pay about
one-third of the state's SUT. A business pays SUT when it
is considered to be the final consumer of TPP. Any SUT
paid by a business will, however, be factored into the
prices it charges for goods, which, in turn, may be subject
to taxation. This results in end consumers paying a tax on
a tax (i.e., pyramiding), making the overall tax system
less transparent. Requiring businesses to pay SUT on their
manufacturing equipment also increases the cost of
production in California, placing the state at a
competitive disadvantage vis-�-vis other states that
provide exemptions for certain manufacturing equipment.
Thus, nearly all economists and tax experts agree that
taxing manufacturing equipment represents poor tax policy.
Indeed, during this Committee's March 23, 2009
informational hearing on "Tax Policy in a Time of Economic
Crisis," presenters unanimously agreed that it would make
sense to eliminate the SUT on most business purchases.
Such a change, however, should likely be considered in the
context of the state's overall tax structure. A SUT
exemption would obviously result in a significant reduction
of state revenues. For this reason, 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 revenues accompanying a manufacturing exemption.
b) Would a manufacturing exemption lead to job growth?
While a manufacturing exemption represents sound tax
policy, past experience suggests that it, by itself, may
not lead to large scale job creation. Prior to January 1,
2004, California had a similar tax incentive known as the
Manufacturers' Investment Credit (MIC), which was enacted
in response to the state's economic downturn during the
late 80s and early 90s. During this period, the state lost
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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 specifies that
qualified TPP does not include consumables with a useful
life of less than one year. This bill, however, does not
provide any guidance on how useful life is to be measured.
Because the useful life of one item may vary depending on
the type of industry, this bill should reference a clear
and objective standard for determining the useful life of
an item.
d) Notification requirement. AB 1972 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 1972 does not provide a method for notifying the BOE.
Short of an audit, BOE would have no means of learning of
the liability.
e) Technical amendments : Committee staff suggests the
following two technical amendments:
i) On page 2, line 13, add "tangible personal" after
"has altered" and before "property"; and,
ii) On page 3, line 14, add "tangible personal" after
"components or" and before "property".
f) Related legislation. Committee staff notes the
following related bills introduced in the 2011-12
legislative session:
i) AB 303 (Knight) would have established a partial SUT
exemption for specified business equipment. AB 303 died
in the Assembly Appropriations Committee.
ii) AB 979 (Silva) would have established a partial SUT
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exemption, beginning January 1, 2012, for specified
business equipment. AB 979 died in this Committee.
iii) AB 1057 (Olsen) would have established a partial SUT
exemption for specified business equipment. AB 1057 died
in this Committee.
iv) AB 1911 (Donnelly) would establish a partial SUT
exemption for specified business equipment. AB 1911 is
set to be taken up by this Committee along with this
bill.
REGISTERED SUPPORT / OPPOSITION :
Support
BAY BIO
BIOCOM
California Chamber of Commerce
California Healthcare Institute
California Manufacturers & Technology Association
California Taxpayers Association
Oxnard Chamber of Commerce
Silicon Valley Leadership Group
Southwest California Legislative Council
Opposition
American Federation of State, County and Municipal Employees
California Federation of Teachers
California School Employees Association
California Tax Reform Association
Analysis Prepared by : M. David Ruff / REV. & TAX. / (916)
319-2098