BILL ANALYSIS Ó
AB 1564
Page 1
Date of Hearing: April 30, 2014
ASSEMBLY COMMITTEE ON JOBS, ECONOMIC DEVELOPMENT AND THE ECONOMY
Jose Medina, Chair
AB 1564 (V. Manuel Pérez) - As Amended: April 22, 2014
SUBJECT : Income taxes: research and development credit: credit sale
and purchase
SUMMARY : This bill substantially increases the percentage value of
the existing research tax credit over a five year period and then
returns the rate to the 2013 tax year value. In addition, the bill
establishes the Research and Development (R&D) Tax Credit Trade Program
(Program), which provides for the sale and purchase previously earned
research credits by small research and development (R&D) facilities.
Specifically, this bill :
1)Includes legislative findings and declarations relating to the
creation of an environment in California that is rich in research and
development and supportive of the innovation economy with a highly
skilled workforce and a tax system that rewards capital expenditures.
2)Gradually increases the credit percentages for the general research
credit (15% to 30%) and the university basic research credit (24% to
39%) over five years, after which both credit percentages would
return to current values. A chart showing the specific increased
values of both credits over the five years is provided in Comment 3.
3)Requires the State Treasurer's Office (Treasurer) to develop and
administer a program that allows for the sale and purchase of certain
unused research tax credits. And, in doing so, requires the
Treasurer to:
a) Create an internet website through which approved tax payers
may sell and purchase previously earned research tax credits;
b) Certify that the tax payer purchasing the credit has qualified
research expenses during the past five years and currently
conducts business in California;
c) Certify that the tax payer selling the research credit has: a
research facility in California; earns less than $50 million
before income tax, depreciation, and amortization; and has unused
research credits from a previous taxable year; and
AB 1564
Page 2
d) Notify the Franchise Tax Board (FTB) of each sale or purchase
of a credit, as specified.
4)Provides that the FTB is responsible for reviewing the information
provided by the Treasurer in order to ensure credits are not being
used multiple times.
5)Limits the sale and application of the tax credits in the following
ways:
a) Prohibits an individual tax payer from selling more than $5
million in credits in any given year;
b) Limits the total amount of credits sold in one calendar year to
$100 million;
c) Requires that the price of credits be based on market value,
however, in no case may a credit be sold for less than 75% of its
face value; and
d) Limits the application of a credit toward a tax payer's tax
liability to 85% of its face value until the Treasurer has been
reimbursed for all start-up costs and 95% of face value
thereafter.
6)Provides that if a taxpayer does not reinvest the money received from
the sale of research credits into the taxpayer's trade or business or
if the purchased credits reduce the taxpayer's tax liability by more
than 50%, any remaining unapplied credit shall be canceled and any
previously applied credit that was not reinvested or that exceeds 50
percent of the taxpayer's tax liability is to be recaptured, and the
taxpayer is liable for any increase in tax attributable to such a
recapture. [This is an exact quote from the bill]
7)Establishes the Research and Development Tax Credit Trade Fund (Fund)
in the State Treasury and requires the Treasurer to deposit into the
Fund an amount equal to 15% of the face value of each credit sold
until the Treasurer has been fully reimbursed for the cost of
developing, creating, and starting the Program and appropriates the
money as follows:
a) Moneys in the amount of 13% of the face value of each credit is
appropriated to the Treasurer's Office for the administrative and
start-up costs of implementing the Program; and
AB 1564
Page 3
b) Moneys in an amount equal to 2% of the face value of each
credit is appropriated to the FTB for the administrative costs of
implementing the Program.
8)Reduces the amount the Treasurer deposits into the Fund to 5% of the
face value of each credit sold once the Treasurer has been fully
reimbursed for start-up costs and appropriates the money as follows:
a) Moneys in an amount equal to 3% of the face value of each
credit is appropriated to the Treasurer for ongoing Program
administrative costs; and
b) Moneys in an amount equal to 2% of the face value of each
credit is appropriated to the FTB for ongoing administrative
costs.
EXISTING LAW :
1)Allows a credit against the taxes imposed under the personal income
tax (PIT) and the corporate income tax (CT) for increasing research
expenses over a base amount. The credit allowed under the PIT and
the CT is equal to 15% of the excess qualified research expenses over
the base year amount for the taxable year and, under the CT, 24% for
payments to qualified research organizations for basic research.
Qualified research expenses must be related to research conducted in
California and include amounts paid or incurred for wages and
supplies in the conduct of qualified research as well as contract
research expenses. Qualified research expenses also include payments
made to qualified organizations (including educational institutions
and certain scientific research organizations) for basic research.
2)Provides for an alternative research credit calculation under the PIT
and the CT. A taxpayer may elect to compute the research credit
using the alternative incremental credit calculation. The
alternative incremental credit is equal to the sum of three tiers of
the qualified research expenses in excess of a base amount; each tier
calculated using an increasing percentage. The first tier is 1.49%
of the total qualified research expenses for the taxable year that
exceeds 1% but not more than 1.5% of the average annual gross
receipts; the second tier is 1.98% of the total qualified research
expenses for the taxable year that exceeds 1.5% but not 2% of the
average annual gross receipts; tier three is 2.48% of the total
qualified research expenses for the taxable year that exceeds 2% of
the average annual gross receipts.
AB 1564
Page 4
FISCAL EFFECT : Unknown
COMMENTS :
1)Framing the Policy Issue : This measure proposes to double the value
of California's research credits and to allow small R&D facility tax
payers to sell unused Research credits to raise cash that can be
reinvested in the businesses. Historically, California has enjoyed a
comparative advantage for innovation-based industries, not only
relative to other states but also to other regions of the world. In
the last decade, however, other states, such as Massachusetts, and
other countries, such as Singapore, have begun to implement more
targeted economic development activities to attract innovation-based
industries.
These changes are a cause for concern and suggest that California
cannot be passive or assume that economic advantages which the state
enjoyed in the 1990s will continue to be true in the 21st Century.
This bill proposes significant changes in both the value of credits
and the use of credits as part of an affirmative agenda to attract
and grow innovation-based businesses in California. This analysis
includes information on the development of the bill, the drivers and
challenges of the California economy, and related legislation.
Suggested amendments are included in Comment 8.
2)Legislative Hearings and Research Contributed to Bill : AB 1564 is
based on a series of legislative hearings held by the Assembly
Committee on Jobs, Economic Development, and the Economy (JEDE).
This includes the August 2012 JEDE hearing, which was held jointly
with the Assembly Select Committees on High Technology, chaired by
Assemblymember Paul Fong, and the Assembly Select Committee on
Government Efficiently, Technology, and Innovation, chaired by
Assemblymember Joan Buchanan. Central to the Member's deliberations
was the rapidly changing global economy and the role California's
historic position as a "first mover" among nations played in
retaining the state's economic strength. One of the key findings
and recommendations from these hearings was the continuing need to
maintain California's R&D position within the broader global economy,
which includes addressing the financial challenges smaller research
facilities face in finding capital.
Other outcomes from these hearings are documented in research papers,
which can be found on the JEDE website ajed.assembly.ca.gov, as well
as legislative proposals, which are listed and described later in the
AB 1564
Page 5
analysis. In addition, follow-up to the August 2012 hearing resulted
in the establishment of a nonprofit sponsored "Innovation State"
web-platform to help Members of the Legislature and the public keep
abreast of innovation issues, connect with business and industry
leaders, and to facilitate a high-level statewide dialogue on
California's innovation future.
3)Research Incentives across the World : Research credits have become
an important tool for many developed countries with economies that
rely on innovation and technology to drive economic growth. Today,
27 of the 34 OECD (the Organization for Economic Cooperative
Development) countries and a number of non-OECD economies give
preferential tax treatment to R&D expenditures. These governments
support innovation within their economies through a variety of
methods including grants, loans, and procurement, as well as
providing financial incentives. Tax incentives for business R&D
expenditures include allowances and credits, as well as other forms
of advantageous tax treatment such as allowing for the accelerated
depreciation of R&D capital expenditures.
AB 1564 increases the credit percentages for the general research
credit (15% to 30%) and the university "basic research" credit (24%
to 39%) over five years, after which time the credit percentages
return to their current values. The chart below shows how the AB
1564 proposed increases would apply over time.
--------------------------------------------------------------
| Increased Research Values 2014 to 2019 |
--------------------------------------------------------------
---------------------------------------------------------------
| Taxable | General Research Credit | University "Basic |
| Year | Credit Rates | Research" Credit |
| | | Credit Rates |
---------------------------------------------------------------
|---------+----------+---------------+----------+--------------|
| | Current |Proposed in AB | Current | Proposed in |
| | Law | 1564 | Law | AB 1564 |
|---------+----------+---------------+----------+--------------|
|2013 | 15% | No change | 24% | No change |
|(current)| | | | |
| | | | | |
|---------+----------+---------------+----------+--------------|
|2014 | 15% | 18% | 24% | 27% |
|---------+----------+---------------+----------+--------------|
AB 1564
Page 6
|2015 | 15% | 21% | 24% | 30% |
|---------+----------+---------------+----------+--------------|
|2016 | 15% | 24% | 24% | 33% |
|---------+----------+---------------+----------+--------------|
|2017 | 15% | 27% | 24% | 36% |
--------------------------------------------------------------
|2018 | 15% | 30% | 24% | 39% |
|---------+----------+---------------+----------+--------------|
|2019 | 15% | 15% (current | 24% | 24% (current |
| | | value) | |value) |
--------------------------------------------------------------
--------------------------------------------------------------
|Source: FTB analysis of AB |
|1564 |
--------------------------------------------------------------
In OECD's review of developed economies, the organization reports
that the overall tax subsidy rates for R&D often differ by size of
business. Australia, Canada, France, Korea, the Netherlands and
Portugal give more generous treatment to small and medium size
businesses than to large firms. In addition, R&D related incentives
also tend to be more generous to younger firms, as in Australia,
France and the United Kingdom. In 2011, the Russian Federation,
Korea, France and Slovenia provided the most combined support for
business R&D as a percentage of GDP. R&D tax credits were worth $8.3
billion in the United States, followed by France and China.
California currently has the highest R&D credit in the U.S. This bill
would increase the value of the California substantially, as well as
allow for the sale of credits by mall firms to raise revenues to
reinvest in the tax payer's business.
4)Drivers in California's Future Economy : For decades, California has
been known as a place where innovation and creativity flourishes. A
2007 study on California's global competitiveness identified eight
key dominant and emerging industry clusters including high-tech
manufacturing, biotech and clean technologies. In 2011, California
remained the number one state in the U.S. for attracting foreign
direct investment and venture capital (51% of total dollars). Over
931,000 Californians are employed in high tech jobs, and biotech
continues to be a dominant industry sector in both Northern and
Southern California providing $115 billion in annual revenues and
employing 267,271 individuals.
While research shows that the state is uniquely positioned to be a
preferred global partner in the areas of innovation, science, and
AB 1564
Page 7
technology, the state also needs to adapt to the reality of a growing
talent pool in other countries and the global redistribution of
manufacturing abroad. Emerging economies around the world are
striving to become leaders in innovation and not merely "copycat"
economies of the U.S.
Although these dynamics may pose challenges to current leading
technology centers, for California they offer new opportunities for
collaboration and cooperation. A quick look at California's top 10
exports (chart below) shows that the state is already exporting
important value added products across the world and contributing to a
global supply chain of manufacturing.
-------------------------------------------------------------------
| California's Top 10 Exports in 2013 (based on movement of goods) |
-------------------------------------------------------------------
|-----+-------------------------------+-----+------+-------+--------|
|Rank |Description |2012 | 2013 |2013 % |% |
| | |Value|Value | Share | Change, 2012 |
| | | | | | - 2013 |
|-----+-------------------------------+-----+------+-------+--------|
| --- |Total CALIFORNIA Exports and % |161,8|168,12| 10.6 | 3.9 |
| |Share of U.S. Total | 80 | 8 | | |
|-----+-------------------------------+-----+------+-------+--------|
| --- |Total, Top 25 Commodities and |55,75|58,127| 34.6 | 4.3 |
| |% Share of State Total | 0 | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 1 |CIVILIAN AIRCRAFT, ENGINES, |5,799|7,488 | 4.5 | 29.1 |
| |AND PARTS | | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 2 |DIAMONDS, NONINDUSTRIAL, |4,537|5,581 | 3.3 | 23.0 |
| |WORKED | | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 3 |MACHINE FOR |4,477|4,753 | 2.8 | 6.2 |
| |RECP/CONVR/TRANS/REGN OF | | | | |
| |VOICE/IMAGE | | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 4 |PETROL OIL BITUM MINERAL (NT |3,611|4,105 | 2.4 | 13.7 |
| |CRUD) ETC NT BIO | | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 5 |ALMONDS, FRESH OR DRIED, |2,455|3,166 | 1.9 | 29.0 |
| |SHELLED | | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 6 |ANTISERA, BLOOD FRACTIONS & |1,927|2,470 | 1.5 | 28.2 |
AB 1564
Page 8
| |IMMUNOLOGICAL PRO | | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 7 |PHONES FOR CELLULAR NTWKS OR |1,276|2,276 | 1.4 | 78.4 |
| |FOR OTH WIRELESS | | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 8 |MACHINES FOR MAN. SEMICONDUTOR |2,051|2,228 | 1.3 |8.6 |
| |DEVICES/ELEC I | | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 9 |PARTS & ACCESSORIES FOR ADP |4,351|2,144 | 1.3 | -50.7 |
| |MACHINES & UNITS | | | | |
|-----+-------------------------------+-----+------+-------+--------|
| 10 |ELECTRONIC INTEGRATED |1,988|2,138 | 1.3 | 7.5 |
| |CIRCUITS, NESOI | | | | |
-------------------------------------------------------------------
-------------------------------------------------------------------
|Source: U.S. Census |
|Bureau |
| |
-------------------------------------------------------------------
With its diverse population and access to world-class research
universities and national laboratories, the state is a highly prized
academic and research partnership. As early as 2004, the state had
bi-national research initiatives with Canada and Iceland on renewable
energy and other technologies. The University of California at San
Diego has a multi-year manufacturing initiative with Mexico,
supporting economic growth on both sides of the border. As
California's economy becomes increasingly integrated within the
global economy and centers of innovation across the world,
maintaining a business climate, including tax structure that supports
R&D activities is vital.
5)Challenges to California's Competitiveness : A consensus of research
recognizes that innovation-based industries are primary drivers of
economic competitiveness in today's global economy. California is a
leader in many cutting-edge industries and home to many world-leading
businesses; however, California's business climate is a cause of
concern.
JEDE tracks a variety of surveys, indexes, and reports that assess
California's business climate, and the general consensus is that
California's biggest weakness in attracting and retaining businesses
is that California is a high cost state. Business climate indexes
that focus on taxes and costs consistently score California poorly.
California has the 2nd highest income tax burden in the nation, and
AB 1564
Page 9
the 11th highest sales tax burden. Relative to the cost of doing
business, California has the 8th highest average retail cost of
electricity. Even among high cost states, California has challenges
as seen by the state's ranking as 16th in the nation relative to
educational attainment of residents age 25 or older. Other state
rankings: Massachusetts (1st) and New York (9th).
A recent survey of manufacturers illuminates several of the
deficiencies of California's business climate. Of the 18% of
manufacturers that considered expanding in California in 2011, only
2.2% chose California. This compares poorly with other major states
such as Ohio (12% consideration rate, capturing 11.3% of national
manufacturer expansion/relocations), Texas (11% consideration rate,
capturing 6.9% expansions/relocations), and North Carolina (10%
consideration rate, capturing 7.2% expansions/relocations). The
reasons most commonly cited for not expanding in California were the
costly regulatory environment, high taxes, high labor costs, and
insufficient incentives and credits.
According to the California Hispanic Chambers of Commerce, AB 1564 is
strategically designed to address these challenges. Leading the
strategy is the increase in the California research credit, which,
based on similar legislation expects could increase state R&D
investments by an additional $5.2 billion. Continuing California's
competitiveness through deeper and more flexible research credits
including the sale of unused credits is expected to further drive
regional collaboration and commercialization of new products. The
California Hispanic Chamber of Commerce believes that access to these
new technologies will give California manufactures an advantage, as
will the state's recently approved sales tax exclusion on
manufacturing related equipment including biotech, pharmaceuticals
and information technologies.
6)Opposition to the Bill : The American Federation of State, County and
Municipal Employees (ASCME) is opposed to the measure, as amended on
April 8, 2014. The ASCME letter states that the increase in the
value of research credits is unjustifiably high and that the sale of
credits creates the possibility for abuse. The letter also notes
that California has the nation's highest R&D credit, almost rivaling
the federal credit.
7)Costly Package : AB 1564 enhances the state research credit, a key
incentive for attracting and expanding innovation based industries
including providing a new capital source for smaller size research
facilities. The exact cost of the measure has yet to be estimated by
AB 1564
Page 10
the FTB, but it is estimated to be in the billions. Unfortunately
when these estimates are complete there will be no dynamic analysis
of what the incentives might bring to California nor the impact of
not responding to the changing global economy will mean to California
workers, businesses and the tax base.
8)Amendments : Below is a list of issues that the author may wish to
address to clarify its purpose and ensure the successful
implementation of the Credit Trade Program.
a) Authorize the Treasurer to contact for the management of a
trading platform;
b) Remove the limitation that a tax payer purchasing credits must
have had qualified research expenses in the last five years;
c) Direct the Treasurer, in consultation with FTB, to design and
implement a process for qualifying credits to be sold;
d) Remove the $5 million limitation on the purchase of credits
(the bill would still place a $5 million limitation of the sale of
credits and the bill already has a prohibition for using purchased
credits to reduce the tax payers tax liability by more than 50%);
e) Allow for the carry forward of unsold credits to the following
year, as specified;
f) Require an annual report on the sale of credits:
g) Sunset the authority to sell credits on January 1, 2020: and
h) Make other related changes.
9)Related Legislation : Below is a list of related legislation.
a) AB 250 (Holden and V. Manuel Pérez) California Innovation Hub
Program: This bill codified and expanded the California
Innovation Hub Program at the Governor's Office of Business and
Economic Development for the purpose of stimulating economic
development and job creation through the coordination of federal,
state and local innovation-supporting resources. Status: Signed
by the Governor, Chapter 530, Statutes of 2013.
b) AB 653 (V. Manuel Pérez) California Innovation and Jobs Act:
This bill would have established the California Innovation and
Jobs Act, which increases the maximum value of the research and
development credit and would have codified the California
Innovation Hub Program. Status: Returned to the Assembly Desk
pursuant to House deadlines, 2013.
c) AB 699 (Portantino and V. Manuel Pérez) State Economic and
Innovation Strategy: This bill would have updated the
AB 1564
Page 11
requirements for the development of a State Economic Development
Strategy, especially in the areas of technology and innovation,
and requires it be submitted to the Legislature by May 1, 2010.
Status: Held in Assembly Appropriations Committee in 2009.
d) AB 744 (John A. Pérez) Office of Intellectual Property: This
bill requires the Department of General Services to assist state
agencies in the management and development of intellectual
property that was developed by state employees or with state
funding. Among other duties, the department is required to
develop a database of state-owned intellectual property starting
January 1, 2015. Status: Signed by the Governor, Chapter 463,
Statutes of 2012.
e) AB 879 (Bocanegra) NOL Sales: This bill would have authorized
the Treasurer, in cooperation with the Franchise Tax Board, to
establish a corporation business tax benefit certificate transfer
program to allow a qualified California company - specifically new
or expanding emerging technology and biotechnology companies
meeting the bill's criteria - to transfer their unused net
operating losses (NOLs) to other taxpayers subject to California's
corporation tax. Status: Held in Assembly Appropriations
Committee, 2013.
f) AB 894 (V. Manuel Pérez) California Manufacturing
Competitiveness Act of 2011: This bill would have established a
loan and loan guarantee program to enable the state to draw down
federal dollars to support the retooling and expansion of
manufacturing in California. Status: Vetoed by the Governor,
2011
g) AB 2506 (V. Manuel Pérez) California Innovation and Jobs Act:
This bill would have increased the state R&D credit from 15% to
40%, eliminated sales tax on manufacturing equipment, authorized a
new tax credit for private investments in postsecondary
institutions, required state agencies to submit regulatory actions
to the Legislature 60 days prior to submitting those actions to
the Office of the Administrative Law, and authorized the creation
of regional innovation boards. Status: Held in the Assembly
Committee on Business, Professions, and Consumer Protection in
2012.
h) AB 2711 (Portantino, Arambula, Price and Salas) State
Technology and Innovation Strategy: This bill would have required
the Secretary of the Business, Transportation and Housing Agency
AB 1564
Page 12
to develop a comprehensive state technology and innovation
strategy to guide future state expenditures and activities.
Status: Held under submission in the Assembly Committee on
Appropriations in 2008.
10)Double Referral : This measure has been double referred by the
Assembly Committee on Rules to two policy committees. On April 28,
2014, the bill passed the Assembly Committee Revenue and Taxation.
As a condition for moving the bill, the author agreed to remove the
provisions relating to the sale of previously earned research credit.
Time constraints due to the May 2, 2014 fiscal deadlines will
require the author to take the amendments in the Assembly Committee
on Jobs, Economic Development and the Economy. [No official vote was
posted from that hearing at the time this analysis was published.]
REGISTERED SUPPORT / OPPOSITION :
Support
California Hispanic Chamber of Commerce
Opposition
American Federation of State, County and Municipal Employees
Analysis Prepared by : Toni Symonds / J., E.D. & E. / (916) 319-2090