BILL ANALYSIS Ó
Senate Appropriations Committee Fiscal Summary
Senator Christine Kehoe, Chair
SB 116 (De Leon)
Hearing Date: 08/15/2011 Amended: 07/07/2011
Consultant: Mark McKenzie Policy Vote: G&F 6-3
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BILL SUMMARY: SB 116, an urgency statute, make changes to
apportionment formulas used to determine California taxable
income for specified multistate corporations, change the rules
for assigning intangibles and services for cable companies,
expand eligibility for the 2009 jobs tax credit, enact a new
education tax credit, and create a new sales and use tax
exclusion for manufacturing equipment.
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Fiscal Impact (in thousands)
Major Provisions 2011-12 2012-13 2013-14 Fund
Mandatory single-sales factor ($1,300,000)
($1,100,000) ($1,100,000) General
(revenue gains)
Cable corps, special rules $38,000 $38,000
$38,000General
Jobs Tax Credit changes$45,000 ($22,000) ($45,000) General
New Education Tax Credit $420,000 $900,000
$950,000General
Manufacturing SUT exemption $207,400
$218,800General
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NET TAX REVENUE IMPACT:($797,000) $23,400 $61,800 General
FTB administration over $125 over $250 over $250 General
BOE administration $657 $558 $516 General
Education donations ($1,000,000)
($1,000,000)($1,000,000)Special*
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* K-12 Investment Tax Credit Program Special Fund and the Higher
SB 116 (De Leon)
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Eductation Investment Tax Credit Program Special Fund
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STAFF COMMENTS: This bill meets the criteria for referral to the
Suspense File.
Staff notes that a previous version of this bill, which only
contained part of the provisions affecting apportionment
formulas, was approved by this Committee 6-2 on May 2, 2011.
The bill was subsequently amended on the Senate Floor, and
rereferred to the Governance and Finance Committee pursuant to
Senate Rule 29.10, where it was approved 6-3 on July 13 and
referred to this Committee pursuant to Joint Rule 10.5. This
Committee may only: 1) hold the bill in Committee, or 2) return
the bill as approved by the Committee to the Senate Floor. The
bill may not be referred to the Suspense File or amended at this
time.
The February 2009 state budget agreement included provisions
that revised the formula that multistate firms use to determine
the share of total income that is taxable in California (ABx3
15, Krekorian, and SBx3 15, Calderon). Previously, firms used a
weighted average of their California sales, property, and
payroll compared to its totals. Starting in 2011, firms may
choose to apportion using only the sales factor, which is
intended to encourage firms to locate payroll and property in
California. The Governor has proposed making the single sales
factor mandatory, rather than elective, as a part of his
2011-2012 budget. However, neither SB 79 (Budget and Fiscal
Review Committee) nor AB 103 (Budget Committee) have been
approved.
SB 116 would repeal the authority for companies to use the
elective single-sales factor apportionment methodology, and
generally impose a mandatory single-sales factor methodology.
The bill would revise the existing Jobs Tax Credit program and
enact two new tax expenditure programs. Specifically, this bill
would:
Make the following changes to apportionment formulas:
1.) Repeal the annual election to use single sales factor
apportionment formulas.
2.) Require specified corporations to use the "single sales
factor" apportionment formula for taxable years beginning on
or after January 1, 2011, as specified.
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3.)Allow taxpayers to continue to use the traditional 3-factor
formula, with double-weighted sales, if it results in a
greater amount of tax owed.
4.)Require all corporations to use the "market rule" when
assigning sales of intangible goods to the state for purposes
of determining taxable income, as specified.
5.) Allow cable companies that have a "minimum investment" in
this state of $250 million or more, to assign 50% of their
intangible property to "this state" under the market rule, and
50% shall "not be assigned to this state."
Increase the amount of the jobs tax credit from $3,000 to
$4,000 for each net increase in full-time employees hired, and
expand eligibility from companies that employ 20 or fewer
employees to those that employ 50 or fewer. The credit would
be available until December 12, 2012, or when the cumulative
cap of $400 million is reached, whichever occurs first.
Enact a new tax credit of 75% of a taxpayer's contribution to
either of two new special funds for specified education
purposes. The aggregate amount of credit that may be
allocated in a single calendar year is $1 billion.
Enact a new sales and use tax (SUT) exemption beginning in
2012-13, which would provide existing qualified manufacturing
companies with a 1% SUT exemption for specified equipment.
Start-up companies would be eligible for a 5% exemption.
Apportionment Formula. A multistate firm generates profits
based on its operations in multiple states and has a right under
the U.S. Constitution to divide, or apportion, income among
those states for tax purposes to ensure that each state only
taxes its fair share of the firm's income. Since 1993, state
law has generally required multistate firms to use a three
factor formula to apportion income associated with a company's
payroll, property, and sales (with a double-weighted sales
factor) to California for purposes of state taxation, except for
companies that derive more than 50 percent of income from
specified activities (extraction, agriculture, savings and loan,
and banks and financials). These companies use the three factor
formula but the sales factor is not double-weighted. The
double-weighted sales formula reduces the share of a the firm's
income apportioned to states where it employs relatively more
people and produces more goods in the state compared to its
sales. Under the formula, a firm with all or most of its
production and payroll in California, but a smaller share of its
sales, benefits, whereas a firm that either employs few or no
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people or owns little to no property here, but sells into
California, pays more tax. Many other states changed the
apportionment weights in the 1980s and 1990s to induce firms to
maintain or relocate facilities and employees in the state.
Starting in 2011, state law allows multistate firms to annually
choose between either the current three factor, double-weighted
sales apportionment formula or to use only its sales, while
ignoring property or payroll factors, commonly known as the
"single sales factor," to determine income apportioned to
California for purposes of taxation.
The recent Legislative Analyst's Office (LAO) report,
Reconsidering the Optional Single Sales Factor (May 26, 2010),
recommends that "the state require all firms to use the single
sales factor, which would help the state's competitiveness while
limiting the cost to the budget." The LAO report indicates that
the elective single sales factor allows the taxpayer to
essentially choose the tax it pays, creating an inequity
allowing taxpayers who operate in more than one state two
different ways to calculate their income. Multistate firms can
choose the formula that will yield a lower tax each year, while
businesses that operate wholly inside California have no such
option. This disparate treatment puts the wholly in-state
businesses, as well as balanced multistate firms that would pay
roughly the same taxes under either formula, at a competitive
disadvantage to its multistate competitors that are primarily
based out of state, which tend to be larger companies.
Furthermore, since the single sales factor methodology is the
dominant apportionment formula among large states, making the
single sales factor mandatory in California would remove
incentives for firms to base operations elsewhere. To this
point, the LAO report notes that conformity with other large
states' apportionment formulas would prevent California firms
from being placed at a competitive disadvantage. While this
bill is intended to remove competitive barriers and encourage
investment in California, the state may lose some investments by
those firms that would have a higher tax liability as a result
of this bill to the extent that the benefits of current law
would encourage investment in California by those firms. Staff
notes that 24 other states have implemented or are in the
process of phasing in a single sales factor apportionment
methodology. Among these, 18 states require the use of a single
sales factor and only Missouri allows an annual election of
either the single sales factor or the traditional three factor
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formula
Intangible Sourcing. As part of the budget agreement of 2010
(SB 858, Committee on Budget & Fiscal Review, 2010), taxpayers
electing the three-factor, double-weighted sales formula must
use the "cost of performance" method to source sales of
intangible items starting with the 2011 taxable year; taxpayers
electing sales factor-only apportionment of income must source
the sales of intangibles to California using the "market rule."
Intangible assets are not considered tangible personal property,
and include items and services such as: online stockbrokers and
telecommunications; patents, trademarks, and copyrights; and
licenses to operate software programs. Under the "cost of
performance" methodology, a company includes no revenue from its
sales of intangibles to California in the sales factor if the
firm incurs a plurality of the costs associated with developing
these products or services in another state; if the plurality
occurs in California, then the company includes all of its sales
in its California sales factor. Under the competitively-neutral
"market rule," all firms source these sales based on the state
in which the product or service is ultimately used, so all firms
report sales based on how much they sell in the state, instead
of where they invested when developing the intangible item or
service.
SB 116 would eliminate the ability of multistate firms to
annually choose the apportionment formula that best suits its
circumstances, and instead requires these firms to use the
single sales factor methodology for taxable years on or after
January 1, 2011. The bill would continue to allow a firm to
choose the traditional 3-factor formula, with double-weighted
sales, if it results in a greater amount of tax owed. The bill
also requires all taxpayers that assign sales of intangible
goods to the state to use the "market rule" to determine tax
liability associated with intangibles. Cable companies with a
minimum investment of $250 million in California would be
allowed to assign 50% of their intangible property to "this
state" under the market rule, and 50% shall "not be assigned to
this state."
The Franchise Tax Board estimates that the elimination of
elective rules, requiring multistate firms to apportion income
to California using the single sales factor methodology, and
requiring sales of intangibles to be sourced to the state using
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the "market rule" would increase tax revenues by approximately
$1.3 billion in 2011-12, $1.1 billion in 2012-13, and $1.1
billion in 2013-14 and ongoing.
Jobs Tax Credit
Existing law, SB x3 15 (Calderon), Chapter 17 of the 2009-10
Third Extraordinary Session, allows a credit for taxable years
beginning on or after January 1, 2009, for a qualified employer
in the amount of $3,000 for each qualified full-time employee
hired in the taxable year, determined on an annual full-time
equivalent basis. This credit is only available to taxpayers
that employ 20 or fewer employees, until the cumulative credit
limit of $400 million has been reached. Any credits not used in
the taxable year may be carried forward up to eight taxable
years.
SB 116 would expand the eligibility criteria for this "Jobs Tax
Credit" by changing the definition of qualified employers for
whom the credit is available to taxpayers that employed 50 or
fewer employees as of the last day of the preceding tax year.
The bill would also increase the amount of the credit from
$3,000 to $4,000 for each qualified hire and change the cut-off
date of the credit to either December 31, 2012 or when the $400
million cap is reached, whichever is earlier.
The bill would not change the $400 million cumulative limit on
the credit, but expanding the pool of eligible claimants would
increase usage of the credit, thereby accelerating the revenue
impact into the current fiscal year. The accelerated cut-off
date would accrue savings to subsequent fiscal years in which
the credit would have otherwise have been claimed. The
Franchise Tax Board (FTB) estimates that expanding the
availability of the credit to taxpayers employing 50 or fewer
employees would result in revenue losses of $45 million in
2011-12, followed by revenue gains of $22 million in 2012-13,
$45 million in 2013-14, and $55 million in 2014-15.
Education Tax Credit
Existing law provides for a deduction against net tax for any
charitable contribution. The law also provides for various
credits with the intent of changing behavior or encouraging
investment.
SB 116 would authorize aggregate tax credits of $1 billion
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annually for taxpayer contributions to either newly the K-12
Investment Tax Credit Program Special Fund or the Higher
Education Tax Credit Program Special Fund, both of which are
created by this bill. The bill would provide a credit of 75% of
contributions made to these funds. This credit may not be
combined with any other deduction or charitable contribution.
Proceeds in the continuously appropriated K-12 Special Fund
would be distributed first to school districts pursuant to
existing formulas, with the remainder to be allocated to the
Superintendent of Public Instruction (SPI) for unspecified
"educational purposes." Proceeds from the Higher Education
Special Fund would be allocated, upon appropriation by the
Legislature, in equal parts to the Regents of the University of
California, the Trustees of California State University, and the
Board of Governors of the California Community Colleges.
Staff notes that there are no specific requirements for how the
funds are to be allocated and spent, except that funds
continuously appropriated from the K-12 Special Fund would be
directed to schools in an amount proportional to any amounts
suspended or deferred pursuant to the suspension of minimum
funding guarantees. Remaining K-12 Special Funds would be
allocated to the SPI for general education purposes, while funds
appropriated from the Higher Education Special Fund would be
distributed in equal parts to the three branches of the higher
education system, presumably for discretionary spending. Staff
recommends that the bill be amended to place restrictions on the
expenditure of the funds.
The FTB assumes that the full $1 billion would be allocated on a
first-come first-served basis each year because of the generous
size of this credit (accounting for federal and state deductions
the average taxpayer would recover 105% of amounts donated).
FTB estimates the Education Credit would result in revenue
losses of $420 million in 2011-12, $900 million in 2012-13, and
$950 million in both 2013-14 and 2014-15.
SUT exemption for manufacturing equipment
For a ten-year period ending December 31, 2003, California law
provided a partial (General Fund only) sales and use tax
exemption for purchases of equipment and machinery by new
manufacturers, and income and corporation tax credits for
existing manufacturers' investments (MIC) in equipment. The
sales and use tax exemption provided relief of payment of the
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state tax portion for purchases of qualifying property, and the
income tax credit was equal to six percent of the amount paid
for qualified property placed in service in California. The
previous sales and use tax exemption applied to purchases of the
same types of property that are described in this bill. New
manufacturers could either receive the benefit of the exemption,
or claim the income tax credit. However, existing manufacturers
could only receive the benefit of the income tax credit. This
sales and use tax exemption and income tax credit had a
conditional sunset date that was triggered when manufacturing
employment (as determined by the Employment Development
Department) did not exceed manufacturing employment as of
January 1, 1994 by more than 100,000 workers. On January 1,
2003, manufacturing employment was less than the 1994 number by
over 10,000 workers, and therefore the MIC and partial sales tax
exemption expired at the end of 2003.
SB 116 creates a new manufacturing sales and use tax exemption.
The bill provides that starting in 2012-13, companies would be
given a 1% exemption from the General Fund portion of the sales
and use tax for specified equipment purchases, and start-up
companies, as defined, would be eligible for a 5% exemption.
Staff notes that the applicability of the 5% exemption for
start-up companies would be applied because the 2011-12 Budget
Act reduced the General Fund portion of the SUT from 5% to
3.94%, while the remaining 1.06% is dedicated to funding local
public safety realignment.
The Board of Equalization (BOE) indicates that this provision
would result in total General Fund losses of $207.4 million in
2012-13 and $215.6 million in 2013-14. The vast majority of
these losses ($204.3 in 2012-13 and $215.6 million in 2013-14)
are attributable to the 1% exemption provided to existing
companies. BOE further notes administrative implementation
costs of $657,000 in 2011-12, and ongoing costs of $558,000 in
2012-13, $516,000 in 2013-14, and $516,000 in 2014-15.
Proposed Amendments
Staff notes that the author has agreed to the following
amendments, which will be taken on the Senate Floor (they cannot
be accepted in this Committee because Senate Rule 29.10
referrals do not allow for amendments):
Reduce the annual allocations for the Education Credit from $1
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billion to $500 million and sunset the program after five
years on December 31, 2016.
Delete the authority to make donations to the K-12 Investment
Tax Credit Program Special Fund
Extend the sunset of the Jobs Tax Credit from December 31,
2012 to December 31, 2014, and revise the methodology for
calculating full-time equivalents when a credit is taken for
less than 12 months.
As a result of these changes, the amended bill would have the
following impacts:
Fiscal Impact (in thousands)
Major Provisions 2011-12 2012-13 2013-14 Fund
Mandatory single-sales factor ($1,300,000)
($1,100,000) ($1,100,000) General
(revenue gains)
Cable corps, special rules $38,000 $38,000
$38,000General
Jobs Tax Credit changes$90,000 $33,000 $20,000 General
New Education Tax Credit $200,000 $430,000
$460,000General
Manufacturing SUT exemption $207,400
$218,800General
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NET TAX REVENUE IMPACT:($972,000) ($391,600) ($363,200)General
(revenue gains)
FTB administration over $125 over $250 over $250 General
BOE administration $657 $558 $516 General
Education donations ($500,000) ($500,000) ($500,000)Special*
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* Higher Eductation Investment Tax Credit Program Special Fund