BILL ANALYSIS Ó
SENATE COMMITTEE ON APPROPRIATIONS
Senator Ricardo Lara, Chair
2015 - 2016 Regular Session
SB 38 (Liu) - Personal income tax: credit: earned income: tax
preparer education
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|Version: May 6, 2015 |Policy Vote: GOV. & F. 6 - 0 |
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|Urgency: No |Mandate: Yes |
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|Hearing Date: May 18, 2015 |Consultant: Robert Ingenito |
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This bill meets the criteria for referral to the Suspense File.
Bill
Summary: SB 38 would (1) create a refundable Earned Income Tax
Credit (EITC), and (2) require the Franchise Tax Board (FTB) to
establish an advance payments pilot program.
Fiscal
Impact:
The fiscal impact depends in large part on future
funding decisions by the Legislature. FTB estimates that,
if there is no appropriation made by the Legislature, this
bill would reduce General Fund revenues by $60 million in
2015-16, $300 million in 2016-17, and $350 million in
2017-18. Conversely, if the Legislature does make a yearly
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appropriation, FTB estimates that this bill would reduce
General Fund revenues by $600 million in 2015-16, $2.9
billion in 2016-17, and $3 billion in 2017-18.
Administration costs to FTB have not yet been
identified, but would likely be in the millions of dollars
annually (General Fund).
Background: Tax credits differ from other tax expenditures in that they
directly reduce income tax liability, as opposed to indirectly
by reducing taxable income. For instance, a one dollar credit
reduces tax liability by one dollar, whereas a tax deduction of
one dollar will reduce taxable income by one dollar, but reduces
tax liability by the marginal tax rate. For example, an
additional one dollar of deduction for a taxpayer in the 10
percent tax bracket reduces tax liability by 10 cents, while a
taxpayer in the 39.6 percent tax bracket reduces tax liability
by 39.6 cents.
The federal EITC was enacted in 1975. It was originally intended
to be temporary in nature, to mitigate the impact of (1) the
Social Security payroll tax, and (2) rising food and energy
prices. Instead, the EITC was made permanent in 1978. The Tax
Reform Act of 1986 indexed both the maximum earned income and
phase-out income levels to inflation. The EITC differs from most
other tax credits in that it is partially or fully refundable. A
taxpayer with $100 in tax liability and $200 in a refundable tax
credit would receive a tax refund of $100.
The EITC is considered both (1) an anti-poverty program and (2)
an alternative to cash-transfer programs because it incentivizes
work. The EITC is work-oriented in that the amount of the credit
is based on earnings. The amount of the credit (which varies
depending on the number of qualifying children in addition to
earned income) initially rises as earnings increase, then
reaches a plateau, and then falls as earnings increase further.
For example, for a couple with two children in 2014, the credit
is equal to 40 percent (the credit rate) of the first $13,700 in
earnings. The maximum credit of $5,460 is received by taxpayers
with earnings between $13,700 and $23,300. The credit phases out
at a rate of 21.06 percent (that is, it is reduced by 21.06
cents for every additional dollar of earnings) for earnings over
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$23,300 and is zero for taxpayers with earnings over $43,950.
The value of the EITC has increased over time. For example, the
maximum credit for a worker with three children has increased
from $400 in 1978 (roughly $1,465 in 2014 dollars) to $6,143 in
2014.
Current state law provides that individuals with income below
specified levels are not required to file a return, as the
standard deduction and personal exemption credit eliminate any
tax liability. For 2013, these thresholds are $12,838 in
adjusted gross income for single filers, and $25,678 for married
individuals filing jointly. These thresholds are increased
based on the number of dependents claimed and are increased
annually for inflation.
Twenty-five states, the District of Columbia, and two local
jurisdictions (New York City and Montgomery County, Maryland)
currently provide the EITC in varying forms and amounts.
Proposed Law:
This bill would allow a refundable tax credit, upon
appropriation of the Legislature, equal to 30 percent of the
federal EITC for eligible individuals (as defined) with
qualifying children, and 100 percent for eligible individuals
without qualifying children. The credit would be nonrefundable
but could be carried over in years when an appropriation is not
made by the Legislature.
The bill also would require FTB to (1) establish a pilot program
to allow eligible individuals to secure advance payments of the
EITC through their employers, and (2) report findings on the
program, as specified. The pilot program would apply to taxable
years 2017 and 2018.
Additionally, the bill would require providers of basic and
continuing education to tax preparers to include instruction for
preparing taxes for a taxpayer who is eligible for the state
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EITC.
The bill would take effect immediately as a tax levy and apply
to taxable years 2016 through 2026.
Related
Legislation:
SB 152 (Vidak, 2015), would create a refundable EITC
equal to 15 percent of the federal EITC. SB 38 will be
heard in this Committee on May 18th 2015.
AB 43 (Stone, 2015), would create a refundable EITC
equal to 15, 35, or 60 percent of the federal EITC, as
specified. AB 43 is pending before the Assembly Revenue and
Taxation Committee.
SB 1189 (Liu, 2014), would have provided a nonrefundable
EITC equal to 15 percent of the federal EITC. SB 1189
failed to pass out this Committee.
Staff
Comments: The actual revenue loss associated with the bill is
difficult to estimate with precision. In order to claim the
federal EITC, a qualifying taxpayer must file a federal income
tax return. This is the only way to claim the credit, even for
those taxpayers who do not earn sufficient income to be required
to file. As a result, it has been estimated that in 2009, about
800,000 Californians (about 20 percent of those eligible) failed
to claim EITC refunds worth $1.2 billion. The revenue estimate
for this bill must incorporate assumptions regarding (1) whether
the introduction of the state-level EITC increases the extent to
which the federal EITC is claimed, and (2) the future growth of
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wage income (and by extension the growth of the economy).
Greater EITC participation and a stronger wage growth would
increase the revenue loss associated with this bill.
FTB notes several implementation considerations, all of which
would have a fiscal impact:
Many taxpayers eligible for the federal EITC have no
California income tax return filing requirement. These
non-filers would be required to file a California income
tax return to claim the proposed state EITC, which could
impact the department's programs and costs.
Typically, refund returns are filed early in the filing
season. If taxpayers claiming the California EITC file
late in the filing season, after they receive their federal
EITC, that behavior could have a major impact on the
processing of returns and possibly cause delays in the
issuance of refunds. The taxpayer error rate on the
federal EITC and the fraud concerns cause the IRS to adjust
many returns. Consequently, the correct federal EITC
amount may be unknown until after the taxpayer has filed
the state return, claimed the proposed California credit,
and received a refund. FTB could be required to issue an
assessment to retrieve incorrect refunds and incur costs to
do so.
Relying on the EITC under federal law may present
implementation problems for Registered Domestic Partners
(RDPs). RDPs are required to file California income tax
returns using the rules applicable to married individuals.
If the author's intent is to allow EITCs for RDPs, a rule
should be included in the bill to address the difference
between federal and state law.
Historically, the department has had significant
problems with refundable credits and fraud. These problems
are aggravated because if a refund is made that is later
determined to be fraudulent, the refund commonly cannot be
recovered.
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Finally, the Governor's 2015-16 May Revision proposes an EITC,
which would provide a refundable tax credit for wage income for
households with income limits of $6,580 (zero dependents) up to
$13,870 (three or more dependents). The credit would match 85
percent of the federal credits up to half of the federal
phase-in range; and then, begin to taper off relative to these
maximum wage amounts. The credit would be available beginning
with tax returns filed for wages earned in 2015. The tax credit
is estimated to reduce revenues by $380 million annually
beginning in 2015-16, and benefit an estimated 825,000 families.
The estimated average household benefit is $460 per year, with a
maximum credit of $2,653.
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