BILL ANALYSIS
AB 2218
Page 1
Date of Hearing: May 15, 2006
ASSEMBLY COMMITTEE ON REVENUE AND TAXATION
Johan Klehs, Chair
AB 2218 (Torrico) - As Amended: May 2, 2006
VOTE ONLY
Majority vote. Tax Levy. Fiscal Committee.
SUBJECT : Sales and Use Tax: Exemption: Manufacturing
Equipment
SUMMARY : Creates a state sales and use tax (SUT) exemption
(5.25%) for purchases of manufacturing equipment for calendar
years beginning on or after January 1, 2007. Specifically, this
bill :
1)States legislative intent to enact a Job Retention and
Economic Recovery Act that would provide for an exemption of
purchases of manufacturing equipment used in the manufacturing
process from the state sales and use taxes.
2)Specifies that for calendar years beginning on or after
January 1, 2007, the following tangible personal property
(TPP) is exempt from SUT:
a) Purchased by a qualified person to be used primarily in
any stage of the manufacturing, processing, refining,
fabricating, or recycling of property.
b) Purchased by a contractor either as an agent of a
qualified person or for resale to a qualified person for
use in the performance of a construction contract for a
qualified person who will use 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.
3)Provides that the exemption does not apply to TPP that is used
primarily in administration, general management, or marketing.
4)Defines "fabricating" as making, building, creating,
producing, or assembling components or property to work in a
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new or different manner.
5)Defines "manufacturing" as the activity of converting or
conditioning property by changing the form, composition,
quality, or character of the property 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 property.
6)Defines "primarily" as TPP used 50% or more of the time in an
activity described above.
7)Defines "process" to mean the period beginning at the point at
which any raw materials are received by the qualified taxpayer
and introduced into the manufacturing, processing, refining,
fabricating, or recycling activity of the qualified taxpayer,
and ending at the point at which the qualified activity has
altered TPP to its completed form. Raw materials are
considered to have been introduced into the process when the
raw materials are stored on the same premises where the
qualified activity is conducted.
8)Defines "processing" as the physical application of the
materials and labor necessary to modify or change the
characteristics of property.
9)Defines "qualified person" as a person who is engaged in those
lines of business described in Codes of the North American
Industrial Classification System (NAICS) Manual, 2002 edition,
and an affiliate of a qualified person, as specified.
10)Defines "refining" as the process of converting a natural
resource to an intermediate or finished product.
11)Specifies that TPP would not include:
a) Consumables with a normal useful life of less than one
year, except for fuels used in the manufacturing process;
and
b) Furniture, inventory, equipment used in the extraction
process, or equipment used to store finished products that
have completed the manufacturing process.
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12)Provides that "TPP" includes, but is not limited to,
machinery, equipment, devices, property used in pollution
control that meets or exceeds state or local standards,
special purpose buildings, and fuels.
13)Requires the purchaser to furnish the retailer with an
exemption certificate, containing the sales price of the
exempt machinery or equipment, and in accordance with
instructions and forms from the Board of Equalization (BOE).
14)Does not apply to any tax levied by a county, city, or
district.
15)Denies the exemption if the qualified property is removed
from California or from the exempt use within one year of the
date of purchase. Provides for a recapture of the tax in this
case.
16)Applies to leases of TPP up to a period of six years
beginning with commencement of the lease. At the close of the
six-year period, lease receipts are subject to SUT without
exemption.
17)Remains in effect for 10 calendar years.
EXISTING LAW :
1)Imposes a tax on the gross receipts from the sale in
California, or the storage, use, or other consumption in this
state of TPP, and provides various exemptions from the tax.
2)Treats leases of TPP as continuing sales, and imposes sales
tax based on the lease payment.
3)Does not provide special tax treatment for entities engaged in
manufacturing activities that make purchases of equipment and
other supplies.
PRIOR STATE LAW contained until January 1, 2004 various tax
incentives, referred to as the Manufacturer's Investment Credit
(MIC), to encourage investment in manufacturing equipment to be
used in California. The MIC provided for an exemption from the
state share of SUT for purchases of manufacturing equipment, or
a credit against the personal income tax (PIT) or corporate tax
(CT) liability (equal to 6%) of the amount paid or incurred for
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qualified property placed in service in California.
Specifically:
1)Defined a "qualified taxpayer" as any taxpayer engaged in the
manufacturing activities described in specific Standard
Industrial Classification (SIC) Manual Codes.
2)Limited the availability of SUT exemption to a qualified
taxpayer engaged in a new trade or business, i.e., one that
has been conducted by the taxpayer for not more than 36
months.
3)Defined "qualified property" as equipment used primarily for
manufacturing, refining, processing, fabricating, or
recycling; for research and development; for maintenance,
repair, measurement, or testing of qualified property; and,
for pollution control meeting state or federal standards.
Special purpose buildings were also included as qualified
property.
4)Provided that the MIC was repealed on the later of January
2001 or on January 1 of the earliest subsequent year if total
manufacturing jobs in California, as determined by the
Employment Development Department (EDD) on the preceding
January 1, did not exceed the total manufacturing jobs in
California on January 1, 1994 by 100,000 jobs.
FISCAL EFFECT : Board of Equalization (BOE) staff estimate an
annual revenue loss of $683 million.
Proposition 98 Fiscal Effect : Based upon the anticipated Budget
for FY 2006-07, this bill will have no revenue impact on funding
for K-14 schools in FY 2006-07. Committee staff estimate a
revenue loss to K-14 school funding of $369 million in FY
2007-08, and between $273 million and $410 million in FY
2008-09.
COMMENTS :
1)Background : Prior to January 1, 2004, California tax law
contained various tax incentives referred to as the MIC to
encourage investment in manufacturing equipment to be used in
California. The MIC expired on January 1, 2004 pursuant to a
finding by EDD that total manufacturing jobs on the preceding
January 1 did not exceed the total manufacturing jobs in
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California on January 1, 1994 by 100,000 jobs.
a) The total employment in manufacturing for the years 1994
to 2002:
-----------------------------------------------------------
|Time Period |Total |Increase from |
| |Manufacturing |January 1, 1994 |
| |Employment | |
|-------------------+-------------------+-------------------|
|January 1, 1994 |1,550,250 |N/A |
|-------------------+-------------------+-------------------|
|January 1, 1995 |1,585,750 | 35,500 |
|-------------------+-------------------+-------------------|
|January 1, 1996 |1,642,350 | 92,100 |
|-------------------+-------------------+-------------------|
|January 1, 1997 |1,694,900 |144,650 |
|-------------------+-------------------+-------------------|
|January 1, 1998 |1,763,900 |213,650 |
|-------------------+-------------------+-------------------|
|January 1, 1999 |1,744,650 |194,400 |
|-------------------+-------------------+-------------------|
|January 1, 2000 |1,761,850 |211,600 |
|-------------------+-------------------+-------------------|
|January 1, 2001 |1,814,950 |264,700 |
|-------------------+-------------------+-------------------|
|January 1, 2002 |1,694,150 |143,900 |
-----------------------------------------------------------
b) According to the Legislative Analyst's Office (LAO):
i) Most studies conducted on manufacturing jobs created
by tax incentives show revenue reductions were greater
than revenue increases.
ii) Industry representatives noted that a SUT exemption
is preferable to an income tax credit, since it would be
less complicated to calculate, result in less
administrative work and auditing, and not be limited only
to firms with taxable income. LAO noted that a partial
exemption of the state SUT may even be preferable in some
respects to an income tax credit as provided under the
previous MIC.
1)Committee staff note several implementation and policy
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concerns with this bill. Specifically:
a) It does not contain specific NAICS codes in the
definition of "qualified person", thereby allowing any type
of business to qualify for the exemption. It is
recommended the codes be specified to limit this bill to
specific types of businesses. However, Committee staff
note that BOE included only those businesses classified as
manufacturers (NAICS codes 31-33) in their revenue
calculation.
b) Long-term leases of qualifying property would not enjoy
the same tax privileges that this bill would provide to
actual purchasers of the same property, as the exemption
for specified leases of qualified property is limited to a
six-year period.
c) This bill does not require the manufacturer to notify
BOE if the property is removed from California or converted
from an exempt use within one year, and there is currently
no means, other than an audit, through which BOE would
learn of the new sales tax liability.
d) There is no mechanism specified for determining an
item's "useful life".
e) This bill contains legislative intent to enact a Job
Retention and Economic Recovery Act; however, there is no
further reference to jobs nor is there a job retention or
creation requirement attached to this SUT exemption.
Committee staff have been working with the author to amend
this bill to add an employment requirement.
2)Proponents cite the need for California to compete with
incentivized opportunities in other states, as California is
one of the only states that taxes manufacturing equipment with
no credit or exemption.
3)Opponents state that a portion of the exemption and credit
will go to companies which would have made the same
investments, regardless of the tax incentive, as they operate
in market-oriented industries. Opponents urge the author to
amend the bill to limit it to specific types of businesses.
4)Several bills have been introduced in this legislative session
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that would reinstate the expired exemption for specific
manufacturing or research and development property. AB 2395
(Villines), pending in this committee, would provide a SUT for
TPP purchased for use by manufacturers that have "gross
aggregate gross assets" used in manufacturing that do not
exceed $5 million. SB 1291 (Alquist), currently pending in
Senate Revenue and Taxation Committee, would provide a SUT for
purchases used by entities engaged in manufacturing, research
and development, software production, and printing, and for
semiconductor, biotechnology and pharmaceuticals cleanrooms
and equipments. SB 1643 (Runner), currently pending in Senate
Revenue and Taxation Committee, would allow a SUT for TPP used
by new manufacturers and computer programmers in the
manufacturing, processing, refining, fabricating, or recycling
of property.
REGISTERED SUPPORT / OPPOSITION :
Support
Alcoa
AeA
Baster Healthcare Corporation
BIOCOM
California Chamber of Commerce
California Healthcare Institute
California Manufacturers & Technology Association (Sponsor)
California Space Authority
California Taxpayers' Association
Hewlett Packard Company
Intel Corporation
Lockheed Martin Space Systems
New United Motor Manufacturing Incorporated
NUMMI
Silicon Valley Leadership Group
Smurfit-Stone Container Corporation
Solectron
TechNet
The Dow Chemical Company
TXI Riverside Cement
Wine Institute
Xilinx
Opposition
AB 2218
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California Tax Reform Association
Analysis Prepared by : Sabrina Landreth / REV. & TAX. / (916)
319-2098