BILL ANALYSIS Ó AB 2234 Page 1 Date of Hearing: May 4, 2016 ASSEMBLY COMMITTEE ON APPROPRIATIONS Lorena Gonzalez, Chair AB 2234 (Steinorth) - As Amended April 20, 2016 ----------------------------------------------------------------- |Policy |Revenue and Taxation |Vote:|9 - 0 | |Committee: | | | | | | | | | | | | | | |-------------+-------------------------------+-----+-------------| | | | | | | | | | | | | | | | ----------------------------------------------------------------- Urgency: No State Mandated Local Program: NoReimbursable: No SUMMARY: This bill extends the tax relief for income generated from the discharge of qualified principal residence indebtedness (QPRI). Specifically, this bill: 1)Provides that the Internal Revenue Code (IRC) Section 108, relating to income from discharge of QPRI, as amended by The Protecting Americans from Tax Hikes Act of 2015, shall apply, AB 2234 Page 2 except as otherwise provided. 2)Applies to discharges of QPRI occurring from January 1, 2014 to January 1, 2017. 3)Provides that, notwithstanding any other law, no penalties or interest shall be due to the discharge of QPRI for the 2014 or 2015 taxable year, regardless of whether or not a taxpayer reports the discharge during the 2014 or 2015 taxable year. 4)Makes findings and declarations stating that the retroactive application of this bill is necessary for the public purpose of preventing undue hardship to taxpayers whose QPRI was discharged on or after January 1, 2014, and before January 1, 2016, and does not consider a gift of public funds. FISCAL EFFECT: Annual GF revenue loss of $95 million in FY 2015-16 and $50 million in FY 2016-17. COMMENTS: 1)Purpose. According to the author, AB 2234 will remove an obstacle to financial independence for troubled homeowners. By allowing those who get mortgage debt relief to avoid paying taxes on that relief, this legislation provides relief to these families who hope to stabilize their finances. 2)Background. Qualifying principal residence indebtedness is defined under federal law as the acquisition indebtedness or AB 2234 Page 3 indebtedness incurred for substantial improvement to the residence. Current federal law allows taxpayers to exclude income up to $1 million for individuals and $2 million for married couples for discharge of the qualifying principal residence indebtedness. Current California law limits the total amount of qualifying indebtedness to $400,000 for individuals or $800,000 for married couples, and allows taxpayers to exclude income up to $250,000 for individuals and $500,000 for married couples from the discharge of the qualifying indebtedness, though that exclusion expired for income incurred after January 1, 2014. Income from the cancellation of indebtedness is normally taxable because the individual's net worth has been increased as a result of the debt cancellation, just as any other income increases an individual's net worth. Under California case law, income is generally defined as accession to wealth, that is clearly realized, over which the taxpayer has complete dominion. When debt is cancelled, money that was given to the taxpayer as loan is freed from future obligation, allowing the taxpayer to use it in the same manner as any other income. Without this fundamental rule, cancelled debt becomes simply a tax-free receipt of cash. Problems can arise, however, with the collection of such tax AB 2234 Page 4 owed because the circumstances that often gave rise to the debt cancellation reflect the inability of the borrower to pay. This is particularly true for mortgage debt, where the loan received was spent entirely on a property and is not available as a liquid asset to the borrower. Cancellation of a portion of this debt may occur in order to restructure the financial position of the borrower, and may be preferable to lenders over foreclosure. However, because the borrower realizes the value of the cancelled debt through a restructured mortgage, the borrower often does not have sufficient cash to pay the tax that results. The estimated decrease in revenues resulting from this bill reflect the lost income tax that ought to be paid on this debt cancellation, but whether FTB could successfully collect this tax without considerable effort may be debatable. 3)Related legislation. SB 907 (Galgiani) would extend the state exclusion of mortgage forgiveness debt relief for three years. The bill is currently pending in the Senate Appropriations Committee. Analysis Prepared by:Luke Reidenbach / APPR. / (916) 319-2081 AB 2234 Page 5