BILL ANALYSIS �
AB 2244
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Date of Hearing: May 13, 2014
ASSEMBLY COMMITTEE ON REVENUE AND TAXATION
Raul Bocanegra, Chair
AB 2244 (Chau) - As Amended: April 24, 2014
SUSPENSE
Majority vote. Fiscal committee. Tax levy.
SUBJECT : Corporation taxes: minimum franchise tax: annual
tax: dormant and inactive business entities
SUMMARY : Allows a business entity to pay a minimum franchise
tax of $200 if the business entity is dormant or $50 if the
business entity is inactive. Specifically, this bill :
1)Allows a business entity, on or after January 1, 2015, to pay
a minimum franchise tax of $200 if the business is dormant or
$50 if the business is inactive.
2)Provides that, on or after January 1, 2015, if an inactive
business was doing business in California, an additional tax
of $750 shall be due upon filing the return.
3)A business entity shall not be dormant or inactive, or both,
for more than five taxable years.
4)Defines a "business entity" as a corporation, LP, LLC, LLP,
charitable corporation, regulated investment company (RIC),
real estate investment trust (REIT), real estate mortgage
investment conduit (REMIC), or a qualified Subchapter S
subsidiary.
5)Defines a "dormant business entity" as a business entity that
is organized under the laws of this state or has qualified to
transact intrastate business in this state, and that
certifies, under penalty of perjury, with its return for the
taxable year, that it was not doing business in this state for
that taxable year. A business entity may be a dormant
business entity for no more than one period of five
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consecutive taxable years.
6) Defines "inactive business entity" as a business entity,
other than an LP or an LLP, that is organized under the laws
of this state or has qualified to transact intrastate business
in this state, and that reasonably believes that it will not
be doing business in this state for that taxable year. A
business entity may be an inactive business entity for no more
than one period of five consecutive taxable years.
7)Provides that no reimbursement is required because the only
costs that may be incurred by a local agency or school
district will be incurred because this act creates a new crime
or infraction, eliminates a crime or infraction, or changes
the penalty for a crime or infraction.
8)Takes effect immediately as a tax levy.
EXISTING LAW :
1)Imposes franchise tax on all corporations doing business in
California equal to 8.84% of the taxable income attributable
to California. A minimum franchise tax of $800 is imposed on
all corporations that are incorporated under the laws of
California, qualified to transact intrastate business in
California, or are doing business in California. Taxpayers
must pay the minimum franchise tax only if it is more than
their regular franchise tax liability.<1>
2)Provides exceptions with respect to imposition of the minimum
franchise tax. For instance, credit unions and nonprofit
organizations are not subject to the minimum franchise tax and
a corporation is not subject to the minimum franchise tax for
its first taxable year. However, even though a corporation is
not subject to the minimum tax in its first taxable year, it
will be subject to franchise tax in its first taxable year
based on its taxable income.
3)Provides that LPs, LLPs, and LLCs that are doing business in
California, registered or qualified to do business in
---------------------------
<1> According to the Franchise Tax Board (FTB), for taxable
years beginning on or after January 1, 1997, only taxpayers with
net incomes of less than approximately $9,040 pay the minimum
franchise tax because the amount of measured tax owed would be
less than $800 ($9,039 x 8.84% = $799).
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California, or formed in this state, are subject to annual tax
in an amount equal to the minimum franchise tax, currently set
at $800. These entities (known as "pass-through entities")
are not subject to any tax based on taxable income. Rather,
the items of income, gain, loss, deduction and credit are
passed-through to the owners and reported on their respective
income or franchise tax returns.
4)Provides that REMICs and financial asset securitization
investment trusts (FASITs) are subject to and are required to
pay the minimum franchise tax. RICs and REITs organized as
corporations are also subject to and are required to pay the
minimum franchise tax. RICs, REITs, REMICs, and FASITs are
entities authorized by the federal government for special tax
treatment. California conforms in large part to federal tax
provisions but subjects each entity to payment of the annual
minimum tax.
5)Provides that LLCs and certain small corporations, solely
owned by a deployed member of the United States (U.S.) Armed
Forces, are exempted until January 1, 2018 from the $800
annual tax and minimum franchise tax
FISCAL EFFECT : The Franchise Tax Board (FTB) estimates that
this bill will reduce general fund revenue by $1.9 million in
fiscal year (FY) 2014-15, and $6.4 million in FY 2015-16, and
$11 million in FY 2016-17.
COMMENTS :
1)Author's Statement . The author has provided the following
statement in support of this bill:
Corporations with taxable nexus in California must pay
either the minimum franchise tax of $800 or the measured
franchise tax of 8.84% of apportioned net income if the tax
exceeds $800. Corporations pay the minimum franchise tax
for the privilege of doing business in this state so they
may bear some of the cost of the public services necessary
for a business to succeed, such as an educated workforce,
transportation infrastructure, and public safety, among
others.
In many cases corporations are formed with grand intentions
but never get beyond the formation stage and never actually
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do business. Others are formed, operate for a few years,
and then, for any number of reasons, simply stop doing
business. If a corporation has not been doing business, a
tax return is not filed. Consequently, the tax is not paid.
However, the Franchise Tax Board (FTB) will pursue these
corporations asking for a missing return and assessing the
minimum tax. Since the return is late penalties are also
assessed and interest calculated making the balance due
quickly grow into thousands of dollars.
The minimum tax lives and dies with the corporation and as
long as the corporation is alive the FTB can
(theoretically) collect the tax; once the corporation is
dead the FTB has a very small chance of collection. Often
tax advisors simply tell the owners to 'walk away' from the
company since the FTB can only go after the corporation's
assets and not the personal assets of the corporate
shareholders. Many corporations simply fail to pay the
minimum tax because the tax liability may be too severe. As
a result, the state is expending resources on a situation
where they have little chance of collection and further
leaving the state with a revenue loss from not obtaining
the taxes the state is owed.
AB 2244 would establish a dormancy period for companies not
conducting business during a taxable year to reduce their
corporate tax liability since they are not engaging in
business activity in the State. This will encourage them to
pay a lesser amount of what is owed, allowing the state to
collect some of the money it is owed, and allowing the FTB
to limit the amount of resources that are spent chasing
after these corporations they otherwise would likely not
get anything from.
2)Arguments in Support . Proponents of this bill explain that
businesses are required to pay an annual minimum franchise tax
of $800 in the first quarter of the year, which will
ultimately be applied towards the company's overall annual tax
liability. The minimum franchise tax is owed and must be
paid, regardless of whether the company is active, inactive,
or even makes a profit. This bill would help reduce the $800
burden "on 'dormant business entities' or 'inactive business
entities' that have not done business in the state within the
last year, or do not reasonably believe that they will conduct
any business in the state. Specifically, for a maximum of
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five years, the minimum franchise tax would be reduced to $200
for a dormant business entity, and $50 for an inactive
business entity. This reduction protects those businesses
that have not benefitted from transacting any business in the
state, and therefore should not have to pay the $800 minimum
franchise tax as a prepayment for taxes they will never owe."
Proponents further state, "Over 85% of the small businesses do
not incorporate because of having to pay the minimum franchise
tax in years they do not make a profit or are inactive. This
leaves them vulnerable as individuals and in the end costs the
State of California revenues."
3)Minimum Tax . The minimum franchise tax, the annual tax, and
annual fee, were enacted to ensure that all corporations and
LLCs pay at least a minimum amount of tax for the privilege of
doing business in California, regardless of the businesses
income or loss. Thus, the minimum tax is not an "income tax",
but rather a tax on the right to exercise the powers granted
to a corporation doing business in California. Even when a
business earns no income, it still receives the benefits of
its corporate status, including the limited liability
protection under California law.
4)Purpose of this bill . As explained by the author, the purpose
of this bill is to provide a way for businesses to pay a
smaller amount of the minimum franchise tax if the business is
inactive or dormant. By doing this, the author hopes to
encourage collection of what is generally an uncollectable tax
and to reduce workload on the part of the FTB. There are
several reasons why a business may decide not to pay the
minimum franchise tax. Some businesses may open up, be
successful, and, for whatever reason, close the business
abruptly. An example of this might be a Halloween store that
operates for a limited period of time. In some cases, the
business may close without properly winding up and without
paying the minimum franchise tax. Other businesses may
operate successfully for a period of time and then, for a
number of reasons, close. Still, other businesses may have
filed with the Secretary of State but never actually engaged
in business. If the businesses were not properly closed, the
company still exists. Theoretically, FTB can collect the
minimum franchise tax from a business that has ceased
operations or never started operating. In reality, however,
it is easy for an owner to avoid paying the tax. Depending on
how much is owed, it may not be worth the agency's time and
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resources.
5)Proposed Solution . As explained above, it is not unusual for
a business to cease operations without properly winding up and
paying the minimum franchise tax. Unfortunately, penalties
and fees may continue to accrue on a tax that the FTB has
little or no chance of collecting. It is unclear to Committee
staff if the proposed solution would fare any better than
current law. Many businesses, especially those that file with
the SOS but never engage in business, may not even realize
that the minimum franchise tax is owed. Therefore, even if
the owners were given the option of paying $200 by claiming
that the entity did not engage in business, without a desire
to continue on with the business it seems unlikely that a
person would pay the tax.
The "inactive" provision of this bill also presents a number
of problems. Specifically, this bill allows an entity that
reasonably believes that it will not do business in the
following year to pay $50 in lieu of the $800 minimum
franchise tax. However, this bill provides that if the entity
engages in business, an additional tax of $750 must be paid
upon filing a return. The bill is silent on whether interest
or penalties will be imposed. If interest and penalties are
not imposed, this provision appears to allow business entities
an interest-free loan. Additionally, as stated above, owners
with no intention of continuing with the business are unlikely
to pay the tax even if provided with these options.
If the goal is to ensure payment of the minimum franchise tax
and to reduce agency resources, the Committee may wish to
consider making shareholders personally liable for the payment
of the minimum franchise tax. This may discourage certain
individuals from starting a business, but it would also
eliminate futile attempts of collecting a tax from an
insolvent company.
6)Related Legislation .
a) AB 2086 (Calderon) provides payment options for an LLC
to pay the annual minimum tax, fee, and the estimated tax.
AB 2086 will be heard in this Committee today.
b) AB 1889 (Hagman) would reduce the minimum franchise tax
in the second taxable year for a new corporation, and in
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the first taxable year for a limited partnership, new
limited liability partnership, and new LLC with gross
receipts of $5,000. AB 1889 will be heard in this
Committee today.
c) AB 2428 (Patterson) provides a deduction for income
derived from a qualified business, provides an exemption
from the minimum franchise tax, and extends the sunset date
of the minimum franchise tax for deployed armed forces. AB
2428 will be heard in this Committee today.
d) AB 2466 (Nestande) reduces the minimum tax for new
veteran-owned businesses and eliminate the tax if the
business operates at a loss or ceases operation. AB 2466
will be heard in this Committee today.
e) AB 2495 (Melendez) exempts new qualifying corporations,
limited partnerships, limited liability partnerships, and
limited liability companies from the annual minimum tax for
the first five consecutive taxable years. AB 2495 will be
heard in this Committee today.
7)Prior Legislation .
a) AB 2671 (Cook), Chapter 394, Statutes of 2010, exempts,
until 2010, certain small corporations and LLCs solely
owned by a deployed member of the U.S. Armed Forces from
the annual minimum franchise tax.
b) AB 327 (Garrick), of the 2009-10 Legislative Session,
would have reduced the minimum franchise tax from $800 to
$100. AB 237 was held under submission in this Committee.
c) AB 2178 (Garrick), of the 2007-08 Legislative Session,
would have reduced the minimum franchise tax from $800 to
$200. AB 2178 was held under submission in this Committee.
d) AB 1179 (Garrick), of the 2007-08 Legislative Session,
is similar to AB 327. AB 1179 was held in this Committee.
e) AB 1419 (Campbell), of the 1997-98 Legislative Session,
would have reduced the minimum franchise tax for a
qualified corporation from $800 to $100. AB 1419 failed
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passage in the Senate Revenue and Taxation Committee.
REGISTERED SUPPORT / OPPOSITION :
Support
California Chamber of Commerce
California Small Business Association
Opposition
None on file
Analysis Prepared by : Carlos Anguiano / REV. & TAX. / (916)
319-2098