BILL ANALYSIS                                                                                                                                                                                                    



                                                                     AB 154


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          Date of Hearing:  May 18, 2015





                     ASSEMBLY COMMITTEE ON REVENUE AND TAXATION


                                 Philip Ting, Chair





          AB 154  
          (Ting) - As Amended March 26, 2015


          


          2/3 vote.  Tax levy.  Fiscal committee.


          SUBJECT:  Taxation:  federal conformity


          SUMMARY:  Changes California's specified date of conformity to  
          federal income tax law from January 1, 2009 to January 1, 2015  
          and, thereby, generally conforms to numerous changes made to  
          federal income tax law during that six-year period.   
          Specifically, this bill:  

          1)Conforms or partially conforms to the following federal  
            provisions relating to the:

             a)   Exclusion from gross income of qualified military base  
               realignment and closure fringe benefits.  [Worker,  








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               Homeowner, and Business Assistance Act of 2009 (Public Law  
               (P.L.) 111-92).]

             b)   Increase in penalty for failure to file a partnership or  
               "S" corporation return.  [Worker, Homeowner, and Business  
               Assistance Act of 2009 (P.L. 111-92).]

             c)   Disclosure of information with respect to foreign  
               financial assets.  [Hiring Incentives to Restore Employment  
               (HIRE) Act (P.L. 111-147).]

             d)   Increase in additional tax on distributions from Archer  
               MSAs not used for qualified medical expenses.  [Patient  
               Protection and Affordable Care Act (P.L. 111-148).]

             e)   Certain swaps not treated as Section 1256 contracts.   
               [Dodd-Frank Wall Street Reform and Consumer Protection Act  
               (P.L. 111-203).]

             f)   Special rule with respect to certain redemptions by  
               foreign subsidiaries.  [State Fiscal relief and Other  
               Provisions; Revenue Offsets (P.L.111-226).] 

             g)   Limitation on penalty for failure to disclose reportable  
               transactions based on resulting tax benefits.  [Small  
               Business Jobs Act of 2010 (P.L. 111-240).]

             h)   Removal of cellular telephones and similar  
               telecommunications equipment from listed property.  [Small  
               Business Jobs Act of 2010 (P.L. 111-240).]

             i)   Special rules for annuities received from only a portion  
               of a contract.  [Small Business Jobs Act of 2010 (P.L.  
               111-240).]

             j)   Modification of the definition of "control" for purposes  
               of Section 249 of the Internal Revenue Code (IRC).  [FAA  
               Modernization and Reform Act of 2012 (P.L. 112-95, Title  
               IX).]








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             aa)  Transfers of excess pension assets.  [Moving Ahead for  
               Progress in the 21st Century Act (MAP-21) (P.L. 112-141).]

             bb)  Modifications of provisions related to acquisitions,  
               disposition and aggregation of research credit  
               expenditures.  [American Taxpayer Relief Act of 2012 (ATRA)  
               (P.L. 112-240).]

             cc)  Indian general welfare benefits.  [Tribal General  
               Welfare Act of 2014 (P.L. 113-168).]

             dd)  Extension of Work Opportunity credit.  [Tax Increase  
               Prevention Act of 2014 (P.L. 113-295).]

             ee)  Investment direction rule for 529 plans.  [The Achieving  
               a Better Life Experience Act of 2014 (P.L. 113-295).]

          2)Provides that the state shall  not  conform to certain federal  
            provisions, including, among others:

             a)   Deferral and ratable inclusion of income arising from  
               business indebtedness discharged by the reacquisition of a  
               debt instrument.  [American Recovery and Reinvestment Tax  
               Act of 2009 (P.L. 111-5).]   

             b)   Exception from the limitations applicable to a "loss  
               corporation" that experiences an "ownership change" and the  
               extent to which it may offset taxable income in any  
               post-change taxable year by pre-change NOL, certain  
               built-in losses, and deductions attributable to the  
               pre-change period. [American Recovery and Reinvestment Act  
               of 2009 (P.L. 111-5).]

             c)   Requirements for certain tax preparers to file tax  
               returns electronically. [Worker, Homeowner, and Business  
               Assistance Act of 2009 (P. L. 111-92).]

             d)   Denial of deductions for annual fee on branded  








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               prescription pharmaceutical manufacturers and importers.  
               [Patient Protection and Affordable Care Act 9P. L.  
               111-148).]

             e)   Modification of itemized deduction for medical expenses.  
               [Patient Protection and Affordable Care Act 9P. L.  
               111-148).]

             f)   Qualified ABLE programs. [The Achieving a Better Life  
               Experience Act of 2014 (P.L. 113-295).]

             g)   Inflation adjustment for certain civil penalties.  [The  
               Achieving a Better Life Experience Act of 2014 (P.L.  
               113-295).]

          3)Conforms to the federal net operating loss (NOL) rules that  
            allow corporations expecting an NOL carryback to extend the  
            time for payment of taxes for the preceding taxable year. 
          4)Makes technical changes, corrects cross-references and deletes  
            unnecessary language that was used to conform to federal law  
            changes subsequent to January 1, 2009 and prior to January 1,  
            2015. 


          5)States legislative intent to confirm the validity and ongoing  
            effect of SB 401 (Wolk), Chapter 14, Statutes of 2010.  


          6)Provides that specified technical corrections to federal  
            income tax laws incorporated by this bill into the state law  
            are declaratory of existing law and shall be applied in the  
            same manner and for the same periods as specified for federal  
            purposes, or if later, the specified date of incorporation. 


          7)Takes effect immediately as a tax levy but will be operative  
            for taxable years beginning on or after January 1, 2015,  
            except as otherwise provided. 









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          EXISTING LAW conforms the state's R&TC, in many instances, to  
          provisions contained in the federal Internal Revenue Code (IRC).  
           California does not automatically conform to new federal  
          legislation.  Rather, California may conform to specific  
          enactments at the federal level or may conform to the IRC as of  
          a specified date.  The last IRC to which California conformed  
          was that in effect as of January 1, 2009.  


          FISCAL EFFECT:  The Franchise Tax Board (FTB) staff estimates  
          that this bill will result in a revenue gain of $3.18 million in  
          fiscal year (FY) 2015-16, an annual loss of $672,000 in FY  
          2016-17, and a revenue gain of $4.1 million in FY 2017-18. 


          COMMENTS:  


           1)Author's Statement  .  According to the author's office, "AB 154  
            is a vital measure conforming state tax law to federal tax,  
            easing tax preparation for taxpayers and tax preparers alike.   
            This measure is intended to narrow differences between state  
            and federal law and provide relief to members of the United  
            States Armed Forces, businesses, and individual taxpayers."

           2)Arguments in Support  .  The proponents argue that AB 154 "is a  
            critical first step toward reinstating comprehensive  
            conformity, and is important for taxpayers and the state."   
            They cite the independent FTB Taxpayers' Right Advocate's 2014  
            report to the Legislature stating that "non-conformity is a  
            leading cause for taxpayer error and non-compliance."  The  
            proponents assert that conformity "would reduce the number of  
            different adjustments and methodologies required when filing a  
            state return, reducing the potential for errors and penalty  
            and interest assessments."  The proponents note that, due to  
            non-conformity with federal law, the state must utilize more  
            staff "to answer questions, conduct separate audits, and  
            initiate collections on errors."  All in all, conformity  








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            "would reduce the need for many of these activities, saving  
            the state and taxpayers time and money."  
           
           3)Conformity Decisions  .  Full descriptions of each of the  
            conformity items in AB 154 are included in the FTB's annual  
            report to the Legislature, "Summary of Federal Income Tax  
            Changes," that are available on the FTB's website.  
           
           4)The Importance (and Conundrum) of Conformity  .  When changes  
            are made to the federal income tax law, California does not  
            automatically adopt such provisions.  Instead, state  
            legislation is needed to conform to most of those changes.   
            Conformity legislation is introduced either as individual tax  
            bills to conform to specific federal changes or as one omnibus  
            bill to conform to the federal law as of a certain date with  
            specified exceptions, a so-called "conformity" bill.  

          In the 1980s through the early 1990s, the state enacted  
            conformity legislation almost every year.  However, since the  
            mid-1990s, state conformity has taken place less frequently -  
            in 1997, 1998, 2001, 2005, and 2010.  In 2008, AB 1561  
            (Charles Calderon), a conformity bill, required a 2/3rd vote  
            of the membership in each house.  AB 1561 did not advance from  
            the Senate Floor because it failed to secure 27 Senate votes.   
             A year later, in 2009, the Legislature approved AB 1580  
            (Charles Calderon), but the Governor vetoed it because of a  
            "single provision inserted at the last minute" that he could  
            not support.  In 2010, the Legislature, in the 8th  
            Extraordinary Session, passed SBx8 32 (Wolk), which was  
            similar to AB 1580; the Governor also vetoed SBx8 32 for the  
            same reason.  

          Finally, SB 401, the latest California-federal conformity bill,  
            was enacted in 2010 [SB 401 (Wolk), Chapter 14, Statutes of  
            2010]; and for the last five years, businesses, tax  
            practitioners and state tax agencies have been advocating for  
            a new bill to conform state tax laws to ever-changing federal  
            tax laws.  Businesses generally prefer conformity to federal  
            tax laws because it reduces their state tax compliance costs.   








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            The tax practitioners have argued that failure to conform to  
            federal law in some areas may lead to improper tax reporting  
            to California and extra costs to the taxpayers.  As an  
            example, a taxpayer may roll-over balances in an Archer  
            Medical Savings Account to a new Health Savings Account  
            without triggering liability at the federal level, but will  
            unknowingly face penalties for the transfer since it  
            constitutes a disqualified distribution for state purposes.   
            Finally, conformity legislation is also important to state  
            agencies.  Conformity eases the burden, and reduces the costs,  
            of tax administration because the state may rely on federal  
            audits, federal case law, and regulations.   

          While state conformity to federal income tax provisions offers  
            certain advantages and reduces tax compliance costs, it can  
            also significantly impact state revenues.  Thus, it would be  
            difficult to achieve complete conformity with federal income  
            tax rules.  Often, the Legislature needs to increase tax rates  
            to fund a new or expand an existing credit or deduction  
            allowed for federal income tax purposes.  Tax credits,  
            deductions, and exemptions are designed to provide incentives  
            for taxpayers that incur certain expenses or to influence  
            behavior, including business practices and decisions.  Both  
            the federal and state governments often use tax policy to  
            influence taxpayers' behavior.  However, federal tax  
            incentives may not necessarily produce the same effect on the  
            taxpayer's behavior at the state level if adopted by the state  
            government as they do on the federal level.  Furthermore,  
            unlike the Federal Government, California cannot print money  
            to subsidize its budget.  Therefore, the Legislature must be  
            mindful of fiscal effects of conforming to federal tax laws,  
            even if those may not trigger significant fiscal concerns in  
            Congress. 

          The Legislature continues to struggle with tax conformity and  
            this bill represents the most recent attempt to ease the  
            hardship on taxpayers and tax practitioners by bringing the  
            two tax codes closer together. 









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           5)Homeowner Assistance Program Payment for Employees and Members  
            of the Armed Forces.    Under federal law, the Secretary of  
            Defense is authorized to provide assistance or reimbursement  
            for losses in the sale of family dwellings by members of the  
            Armed Forces living on or near a military installation in  
            situations where there was a base closure or realignment and  
            the property was the owner's primary residence, among other  
            requirements.  These amounts are excluded from gross income  
            for federal income tax purposes and are not considered wages  
            for FICA tax purposes. The excludable amount is limited to the  
            reduction in the fair market value of the property.  Under  
            state law, however, these assistance payments are subject to  
            the state income tax.  This bill would exclude those amounts  
            from the state income tax, in conformity with the federal law.  


           6)Annual Fee on Branded Prescription:  Manufacturers and  
            Importers  .  Under federal law effective starting in 2010,  
            certain entities engaged in the business of manufacturing or  
            importing branded prescription drugs for sale to any specified  
            government program or pursuant to coverage under any such  
            program are subject to an annual fee.  The collected revenues  
            are credited to the Medicare Part B Trust fund.  The fee  
            amount imposed on each individual entity fluctuates.  The  
            aggregate fee amount is set by the Federal Government for each  
            calendar year and is apportioned among the covered entities  
            based on the entity's relative share of branded prescription  
            drug sales taken into account during the previous calendar  
            year.  The fees are treated as excise taxes for purposes of  
            the federal income tax law and are considered a non-deductible  
            tax as described in Section 275(a)(6) of the IRC.   As  
            discussed, California conforms to the IRC as of the specified  
            date - January 1, 2009.  The federal provision imposing the  
            fee in question was enacted in 2010, after the "specified  
            date" of January 1, 2009.  Therefore, the fee is deductible  
            under the Personal Income Tax Law.  Because of the interaction  
            between the federal and state income tax laws and the lack of  
            conformity, the State is currently subsidizing the fee imposed  
            by the federal government by allowing a deduction to the  








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            affected entities for purposes of calculating their California  
            income tax liability.  The Committee may wish to eliminate  
            this subsidy and conform to the federal tax treatment of the  
            fee as a nondeductible tax. 
           
           7)NOL Carryback Procedures  . On September 30, 2008, the Governor  
            signed AB 1452 (Budget Committee), Chapter 763, Statutes of  
            2008, to implement provisions of the 2008-09 Budget agreement.  
             Among other things, AB 1452 suspended the NOL deduction for  
            the 2008 and 2009 tax years (except for taxpayers with net  
            business income of less than $500,000), authorized NOL  
            carrybacks for losses incurred in 2011 or later tax years, and  
            expanded the NOL carryforward period from 10 years to 20 years  
            for losses incurred after January 1, 2008.  AB 1452 authorized  
            taxpayers to use carrybacks to offset their income during the  
            two prior tax years.  The carryback provisions were scheduled  
            to phase in, with 50% of any 2011 NOLs available for  
            carryback, 75% of any 2012 NOLs, and full carryback for NOLs  
            in subsequent years.  

            Two years later, when the Legislature was facing another  
            difficult budget, SB 858 (Senate Budget and Fiscal Review  
            Committee), Chapter 721, Statutes of 2010, was enacted.  SB  
            858 further suspended the NOL deductions for the 2010 and 2011  
            taxable years and delayed the implementation of the NOL  
            carrybacks provisions, among other changes.  Specifically, SB  
            858 disallowed NOL carrybacks for any NOLs attributable to  
            taxable years beginning before January 1, 2013.  Consequently,  
            under existing law, the carryback provisions are scheduled to  
            phase in with 50% of any 2013 NOLs available for carryback,  
            75% of any 2014 NOLs, and full carryback for NOLs attributable  
            to tax year 2015 and thereafter.

            Federal law allows a corporation anticipating a current-year  
            NOL to file Form 1138 to postpone the payment of all or some  
            of its income tax from the immediately preceding year.   
            Generally, to take advantage of NOLs, taxpayers have to first  
            wait for the conclusion of the tax year and then file an  
            amended return or ask for a refund.  In this case, a  








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            corporation can file for a postponement of payment of taxes  
            from the preceding tax year in the current (unfinished) tax  
            year.  By allowing a corporation to postpone part or all of  
            the payments during the year, companies can keep more cash on  
            hand to pay debts or make payroll. This bill would conform  
            California law to the federal rules allowing a corporation  
            expecting an NOL carryback to extend the time for payment of  
            taxes for the immediately preceding taxable year.  

           1)SB 401 and Proposition 26  .  Proposition 26 was approved by the  
            voters on November 2, 2010.  By amending Section 3 of Article  
            XIII A of the California Constitution, Proposition 26 expanded  
            the definition of a "tax" to include many state and local  
            government assessments classified as "fees" and provided that  
            any change in state statute that results in any taxpayer  
            paying a higher tax must be passed by a two-thirds vote of the  
            Legislature.  Proposition 26 also included a provision stating  
            that any state law adopted between January 1, 2010 and  
            November 2, 2010 that conflicts with Proposition 26 would be  
            repealed one year after the proposition's approval.  This  
            repeal would not take place, however, if the Legislature  
            passed the law again in compliance with Proposition 26.  There  
            is significant ambiguity regarding the scope and meaning of  
            this provision.  According to the FTB legal staff, there is no  
            basis to believe that SB 401 is not a valid law, at least for  
            the 12-month period following the adoption of Proposition 26.   
            Furthermore, Section 3.5 of Article III of the California  
            Constitution requires the FTB to enforce SB 401 until an  
            appellate court has made a determination that some portion or  
            all of SB 401 is "void" pursuant to Proposition 26 and,  
            therefore, unenforceable.  [FTB publication, Legal Division  
            Guidance 2011-01-01 "Impact of Proposition 26 on SB 401  
            (Wolk)".]  Despite the FTB pronouncement, some taxpayers are  
            seeking reassurance that the last conformity bill stands on  
            firm legal ground, which this bill would provide.   
            Specifically, this bill includes a legislative intent  
            provision confirming the validity and ongoing effect of SB  
            401.  
           








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           2)FTB Technical Amendments  .  The FTB staff, in its analysis of  
            this bill, suggested several technical amendments to clarify  
            this bill's provisions: 

          AMENDMENT 1

          On page 15, lines 15-17, after "Code", delete "is modified by  
            substituting the phrase "Section 19307.5" in lieu of the  
            phrase "Section 6411." and insert:

          shall not apply. 

          AMENDMENT 2

            On page 21, line 12, delete "for" and insert:

            to



          REGISTERED SUPPORT / OPPOSITION:




          Support


          California Taxpayers Association (Support if amended)


          California Chamber of Commerce (Support if amended)


          California Manufacturers and Technology Association (Support if  
          amended)











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          Opposition


          None on file




          Analysis Prepared by:Oksana Jaffe / REV. & TAX. / (916) 319-2098