BILL ANALYSIS �
AB 2638
Page 1
ASSEMBLY THIRD READING
AB 2638 (Eng)
As Amended April 17, 2012
Majority vote
REVENUE & TAXATION 6-2 APPROPRIATIONS 12-5
-----------------------------------------------------------------
|Ayes:|Perea, Beall, Charles |Ayes:|Fuentes, Blumenfield, |
| |Calderon, Wieckowski, | |Bradford, Charles |
| |Fuentes, Gordon | |Calderon, Campos, Davis, |
| | | |Gatto, Ammiano, Hill, |
| | | |Lara, Mitchell, Solorio |
| | | | |
|-----+--------------------------+-----+--------------------------|
|Nays:|Wagner, Nestande |Nays:|Harkey, Donnelly, |
| | | |Nielsen, Norby, Wagner |
| | | | |
-----------------------------------------------------------------
SUMMARY : Requires the Department of Finance (DOF) to include
additional information in its annual tax expenditure report and
to provide to the Legislature certain specified information, in
cooperation with the Franchise Tax Board (FTB) and the State
Board of Equalization (BOE), regarding tax expenditures at the
time of the submission of the Governor's Budget to the
Legislature. Specifically, this bill :
1)Requires the DOF to do both of the following:
a) Include in its annual tax expenditure report:
i) The year of enactment for each credit, deduction,
exclusion, exemption, or any tax benefit exceeding $5
million in annual cost.
ii) Anticipated revenue loss, if available, pursuant to
the final fiscal committee analysis of the act that
established the tax expenditure, adjusted for inflation.
b) Provide to the Legislature, at the time of the
submission of the Governor's Budget, an estimate of the
revenue loss in the upcoming fiscal year (FY) for each tax
expenditure exceeding $5 million in annual cost. Defines
"tax expenditure" as a credit, deduction, exclusion,
AB 2638
Page 2
exemption, or any other tax benefit provided by the state.
2)Requires the FTB and the BOE, at the time of the submission of
the Governor's Budget to the Legislature, to report to the DOF
and the Legislature on the fiscal and tax effect of tax
expenditures from sales and use tax (SUT), personal income tax
(PIT), and corporation tax (CT).
3)States that the BOE and FTB reports shall be limited to tax
expenditures with an annual revenue loss of at least $5
million and shall include all of the following information:
a) The most recent data to characterize the economic, tax,
and demographic profile of claimants, including an estimate
for the state and local revenue loss for the current FY and
the two subsequent FYs.
b) Anticipated revenue loss, if available, pursuant to the
final fiscal committee analysis of the act that established
the tax expenditure, adjusted for inflation.
c) Citation of academic studies pertaining to the tax
expenditure or similar tax expenditures, where deemed
appropriate by the BOE or FTB, whichever is applicable.
d) Usage data, where available, for the same or similar tax
expenditures adopted by other states with similar
economics, business entity types, and tax laws, or the
federal government, if appropriate.
e) Any other distinguishing tax characteristic, including
other tax expenditures claimed.
4)Provides that, for SUT expenditures, the BOE report shall also
include:
a) At a minimum, the revenue loss for each expenditure for
the most recent tax year for which full year data is
available and estimated revenue loss for the current FY and
subsequent FY by industry code.
b) For the most recent taxable year for which a full year
of data is available, average, median, highest, and lowest
amounts claimed by taxpayer liability and the amounts
AB 2638
Page 3
claimed and, as of the time report is prepared, amounts
disallowed.
5)Requires that, for PIT and corporate income and franchise tax
expenditures, the FTB report identify all of the following
information:
a) At a minimum, the revenue loss for each expenditure for
the most recent taxable year for which a full year of data
is available, the current FY, and the budget year, in the
following categories by:
i) Adjusted gross income of the claimants.
ii) Tax liability of the taxpayer.
iii) Region.
iv) Industry code.
b) For the most recent taxable year for which a full year
of data is available, average, median, highest, and lowest
amounts claimed by taxpayer bracket, and amounts claimed
and, as of the time the report is prepared, amounts
disallowed.
6)Specifies that the BOE and FTB shall provide sufficient data
to support a subsequent analysis of the revenue loss of the
tax expenditure.
7)Defines "tax expenditure" as a credit, deduction, exclusion,
exemption, or any other tax benefit provided by the state.
FISCAL EFFECT : Minor and absorbable costs for preparing the
required reports and additional information for the Governor's
Budget by FTB, BOE and the Department of Finance.
COMMENTS :
Author's Statement. The author states that, "According to the
Department of Finance's (DOF) latest report on tax expenditures,
the State forgoes more than $43 billion annually in personal
income, corporation, and sales taxes - an amount roughly
AB 2638
Page 4
equivalent to half of the State's General Fund budget. Local
agencies forgo an additional $9 billion a year from tax
expenditures. Statutes enacted in 2006 required the DOF to
substantially augment its tax expenditure reporting and added
new obligations for the BOE and FTB. Specifically, these
changes required DOF to begin including, for specified tax
expenditures, information on the original legislative intent,
beneficiaries, and future year costs. While improvements to the
quality of tax expenditure reporting have been made in recent
years, these reports are not timed and have not influenced
budget deliberations. Given the enormity of the State's
investment in tax expenditures, coupled with its persistent,
long-term budget challenges, it is imperative that the cost of
tax expenditures be more transparent and relevant to the budget
process. AB 2638 would make the costs and reporting of tax
expenditures more transparent and relevant to the budget process
to determine the impact these tax expenditures have on state
revenues and if they cost more or less than originally expected
when adopted."
Arguments in Support . The proponents state that, in light of
California's perennial budget crisis and economic malaise, "it
is imperative that elected leaders have the most complete
information possible to make informed decisions." They observe
that, remarkably, "the interrelationship between the State's $90
billion General Fund budget and the "off budget" TEs �tax
expenditures] is largely absent from budget deliberations." The
proponents argue that, while "improvements to the quality of TE
reporting have been made in recent years, these reports are
neither comprehensive nor issued in time to influence budget
deliberations." As an example, an annual report prepared by the
DOF "lacks key information and receives little attention." The
proponents assert that AB 2638 is needed to "shed increased
light and scrutiny to state tax expenditures which cost the
state billions of dollars every year" and many of which "are no
longer serving their intended purpose."
Arguments in Opposition . The opponents state that this bill
should be amended to require the DOF, the FTB and the BOE to use
dynamic revenue modeling. They argue that existing static
revenue estimates "do not reflect realistic revenue impacts that
result from changes in taxpayer behavior," do not "take into
account the added economic benefit of a tax expenditure," and do
not provide the Legislature with "comprehensive fiscal data with
AB 2638
Page 5
which to make important decisions regarding the state's
finances."
What is a "Tax Expenditure "? Existing law provides various
credits, deductions, exclusions, and exemptions for particular
taxpayer groups. According to legislative analyses prepared for
prior related measures, United States (U.S.) Treasury officials
and some Congressional tax staff began arguing in the late 1960s
that these features of the tax law should be referred to as
"expenditures," since they are generally enacted to accomplish
some governmental purpose and there is a determinable cost
associated with each (in the form of foregone revenues). A
recent report by the Legislative Analyst's Office (LAO) shows
that tax expenditure programs cost the state nearly $50 billion
in FY 2008-09. The LAO report noted that resources are
allocated to a new tax expenditure program automatically each
year, with limited, if any, legislative review, and there is no
limit or control over the amount of money forgone since the
Legislature does not appropriate funds for tax expenditure
programs. The LAO report also stated that the tax expenditure
programs offer many opportunities for tax evasion, given the
relatively low level of audits.
How is a Tax Expenditure Different from a Direct Expenditure ?
As the DOF notes in its annual Tax Expenditure Report, there are
several key differences between tax expenditures and direct
expenditures. First, tax expenditures are reviewed less
frequently than direct expenditures once they are put in place.
This can offer taxpayers greater certainty, but it can also
result in tax expenditures remaining a part of the tax code in
perpetuity without demonstrating any public benefit. Secondly,
there is generally no control over the amount of revenue losses
associated with any given tax expenditure. Finally, the vote
requirements for direct expenditures and tax expenditures are
different. Once enacted, it generally takes a two-thirds vote
to rescind an existing tax expenditure, which effectively
results in a "one-way ratchet" whereby tax expenditures can be
conferred by majority vote, but cannot be rescinded,
irrespective of their efficacy, without a supermajority vote.
Current Review of Tax Expenditures . Although there is no
requirement for the Legislature itself to review existing tax
expenditures, several state agencies are required to issue
annual tax expenditures reports. In 1985, the Legislature
AB 2638
Page 6
passed ACR 17 (Bates), which called upon the LAO to prepare a
biennial "tax expenditure" report. Additionally, the DOF
currently publishes an annual report on tax expenditures,
pursuant to Government Code Section 13305, and provides it to
the Legislature by no later than September 15 of each year. The
DOF report includes a list of tax expenditures exceeding $5
million in annual cost. The BOE prepares a publication listing
various exemptions and exclusions from the SUT, including a
brief description and an estimate of the revenue loss for the
exemption or exclusion, if available. Finally, since 2007, the
FTB has been publishing an annual report, "California Income Tax
Expenditures," describing tax expenditures found in the PIT and
the CT Tax Laws.
According to the DOF report for the FY 2011-12, the vast
majority of tax expenditures are included in the PIT Law. To
this end, the DOF estimates that tax expenditures reduced PIT
revenues by roughly $31 billion in FY 2011-12. The SUT Law, in
turn, contains identifiable state tax expenditures worth about
$11 billion annually, and CT expenditures amounted to roughly $5
billion.
How Would This Bill Improve a Legislative Review of Tax
Expenditures? As discussed, the DOF is required to compile and
submit to the Legislature its annual tax expenditure report by
September 15 of each year. This bill would expand the scope of
information required to be included in the DOF annual report,
such as, for example, a revenue loss amount that was estimated
to result from a tax expenditure by the final fiscal committee
analysis of the act that established the expenditure, adjusted
for inflation. According to the 2011 report issued by the
Senate Office of Oversight and Outcomes, some "tax breaks
enacted by the state of California over the past two decades
have turned into blank checks, with actual costs to state
government surpassing initial estimates of foregone revenue by
billions of dollars." This bill is intended to inform decision
makers by highlighting the difference, if any, between the
estimated and actual revenue loss attributable to a particular
tax expenditure.
Currently, the DOF is also required to submit to the
Legislature, by January 10, the Governor's Budget, and with it,
total recommended state GF expenditures and estimated, including
any proposed, state General Fund (GF) revenues. This bill would
AB 2638
Page 7
request the DOF to include in the Governor's Budget an estimated
revenue loss in the upcoming FY for each tax expenditure
exceeding $5 million in annual costs. It would also require
state tax agencies - the FTB and BOE - to submit their tax
expenditure reports to the DOF and the Legislature by January 10
of each year. These new requirements will mirror the
requirements for the President's Budget at the federal level,
where tax expenditures are separately listed, explained, and
estimated, and, most likely, will generate discussion, as part
of the budget process, about effectiveness of certain tax
expenditures.
The idea of spurring discussion on this important issue is a
good one. California is experiencing one of the worst
recessions in recent history. In an effort to balance the
state's budget, the Legislature has been forced to make cuts to
vital programs, including education, health and human services,
and transportation. This bill seeks to improve transparency in
California's budget process by informing decision makers and the
public regarding California's $43 billion in tax expenditures.
Accurate information about all of the state's expenditures,
including the costs of state departments, state programs and
state tax expenditures, is necessary to facilitate an honest
debate on the budget. In the past, some budget observers argued
that including limited tax expenditure data as part of the
Governor's Budget would not be helpful because it lacks the
fiscal and policy information contained in the Tax Expenditure
Report. This bill addresses this concern by requiring both the
BOE and FTB to report to the Legislature, at the time of the
Budget submission. Their reports will contain not only fiscal
but policy information, including data regarding the economic,
tax, and demographic profile of claimants and usage data for
similar tax expenditures adopted by other states.
In contrast to spending items, tax expenditures, for the most
part, do not require appropriation of funds and are not part of
the state budget. Having the information relating to the costs
of tax expenditures available while the budget negotiations are
taking place will ensure that the Legislature has the
information necessary to address California's fiscal condition.
In addition, it will allow the public and interested parties to
contrast spending programs with tax expenditure programs with
similar goals, i.e., programs that require budgetary
appropriations versus those that are financed through foregone
AB 2638
Page 8
revenues.
Analysis Prepared by : Oksana Jaffe / REV. & TAX. / (916)
319-2098
FN: 0003862