This article is from Cal-Tax Digest, published
by the California Taxpayers' Association.
Cal-Tax Home Page | About Cal-Tax | Subscribe

It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity, it was the season of Light, it was the season of Darkness, it was the spring of hope, it was the winter (nay summer) of despair . . .

With apologies to Charles Dickens, this first half of the two-year legislative session was reminiscent of the famous introduction in "A Tale of Two Cities." While certainly not so stark as Mr. Dickens' contrast of England and France during the time of the French Revolution, this year's legislative activities produced its share of light and darkness, wisdom and foolishness.

The year began with a new governor and single party rule in Sacramento for the first time 16 years. To welcome the new governor, the Legislative Analyst's Office (LAO) predicted a budget deficit of $1 billion that the Department of Finance later projected to be in excess of $2.3 billion. These early projections weighed heavily on the policy choices available to the governor who chose to propose a "workload budget" and consequently included "no new tax relief" - but neither would it include consideration of new tax increases.

One person's tax relief, however, is another's "tax expenditure," is another's fairness, is another's reform, is another's administrative clarification, is another's conformity, is another's loophole. And indeed, the Assembly Revenue and Taxation Committee began debating this very point, based on the LAO's recurring "parade of horribles" (a.k.a. the list of "tax expenditures"). Of course, LAO never attempted to define tax expenditures (they knew them when they saw them, according to their testimony), opting instead for the quick sound bite of "$27 billion in tax expenditures," which they derived by including every exclusion, exemption, deduction, credit, deferral or divergent treatment in the tax code. It did not focus on the fact that merely a fraction of that amount related to "incentive-based" tax policies. The vast majority relate to personal income tax items (home mortgage deduction and Social Security income exclusion for example) and sales tax exclusions (like that for food or electricity). As if there would be even a whisper of threat to those "expenditures."

Fortunately, the committee is chaired by one of the Legislature's more thoughtful and deliberative members, Wally Knox. He recognized that the important question for the committee was whether appropriate criteria should be established by proponents of tax-incentive legislation. With such criteria, it was argued, the effectiveness of the legislative change could be more readily evaluated currently and in the future. After some discussion, the committee adopted rules with bipartisan support that require tax-incentive legislative proposals to include such criteria, as well as sunset dates.

And so, the stage was set. Tax policy would be driven by the revenue estimation gods (because believing these numbers requires a great deal of faith) and evaluation criteria to judge the effectiveness of tax-incentive proposals.

There was a bumper crop of taxpayer-friendly legislation: AB 152 (Lempert), providing for 100 percent conformity to the federal treatment of net operating losses (NOLs); AB 68 (Cunneen), increasing the research and development (R&D) credit to 15 percent; AB 1392 (Hertzberg), permitting taxpayers to post a bond in-lieu of payment of tax to seek judicial relief; AB 185 (Hertzberg), establishing an advisory board to create local government performance measurement reports; AB 465 (Nakano), conforming the alternative incremental R&D credit amount to federal levels; AB 473 (Hertzberg), repealing the 2001 sunset on the manufacturers investment tax credit (MIC); AB 753 (Kaloogian), withdrawing California from the Multistate Tax Commission; AB 765 (Machado), extending the MIC to extractive industries; SB 933 (Poochigian), providing a "new construction" exemption for underground storage tank repairs to meet compliance standards; SB 1015 (Karnette), providing true elective combined reporting; AB 1077 (Cardoza) and SB 256 (Johannessen), reinstating the pre-Wilson era sales tax exemption for newspapers; AB 1315 (Ashburn), allowing the MIC to be claimed against the combined group's tax liability, and SB 1293 (Schiff), allowing trial de novo for property tax appeals.

Greg Turner is Cal-Tax general counsel and legislative director.

As well as, a share of darkness. AB 790 (Honda), the "Scarlet Letter" list, publicizing delinquent taxpayers; AB 1254 (Strom-Martin), eliminating a deduction for compensation in excess of $1 million and prohibiting deductions for club dues in excess of $500; AB 1220 (Romero), requiring taxpayers claiming tax credits to divulge private unrelated information to the public about employees, compensation and health benefits; AB 1643 (Floyd), an assessor-sponsored bill limiting appeals after audits; not to mention lingering threats of the split role.

By the month of May, the gloom of a budget deficit turned to astonishment as the California economic juggernaut produced a $4.3 billion surplus. That's a nearly $7 billion (or 10 percent) error in estimation by the Department of Finance (7 percent error for LAO) in case you were counting.

Even in light of the surplus, talk of any "expensive" alterations to the tax code (whether for tax incentives or simply such administrative reform as net operating loss conformity) was quickly squashed. Instead, the governor and Legislature worked on the governor's education priorities and other issues, including the decision to accelerate recognition of the next vehicle license fee (VLF, or car tax) reduction. Although more of an accounting exercise than real tax relief, the course was set and discussion of additional tax incentives or tax reform ideas was by and large put to rest.

The budget accord, remarkable mostly because it was on time for a change, did provide for some tax changes that included a modest increase in the R&D credit to 12 percent (SB 704, Sher); elimination of the minimum franchise tax for the first two years for a new corporation (AB 10, Correa); permanent enactment of the 50 percent capital gains exclusion on small business stock (AB 1120, Havice), and extending VLF relief to international-registered vehicles (SB 688, Burton). Once the accord was signed, tax bills having revenue loss estimates began to slowly rot on the vine of the Appropriations suspense files in both houses.

The remainder of the summer was spent lobbying for and speculating whether the Legislature would convene its customary late-session tax conference committee, and jockeying for what bills would be considered as part of the rumored meeting. However, the governor signaled in August that he was not interested in bills reducing state revenues outside the context of the budget accord. Consequently, hopes for a conference committee were dashed.

The Assembly Revenue and Taxation Committee's conformity bill did provide some glimmer of hope that some modest tax reform might be yet achieved as that measure included some revenue-producing federal conformity items. Even that modicum of hope faded, however, in the last days of session as various provisions of that bill became the subject of debate and uncertainty. It eventually was held in the Senate Appropriations Committee.

By September there began persistent rumors about last-minute deals and shenanigans. The first to surface was an attempt to restructure the Franchise Tax Board. The target vehicle, SB 1293 (Burton), was reported out of Assembly Appropriations "as amended." No one knew at the time that the this bill would contain the FTB restructuring proposal because no one was provided the "as amended" language. A brief remark about the bill being amended relating to taxpayer appeals sparked taxpayers' inquiries. Still, printed amendments did not surface for almost a week after the committee had adopted them.

The original version of the FTB restructuring would have additionally placed limits upon the FTB and Board of Equalization's authority to adopt regulations costing the general fund in excess of $ 1 million. Here again, the authority of the revenue estimation gods was at play. Query: how can a regulation produce any degree of general fund losses without exceeding the scope of the authorizing legislation (a legal restraint on all regulations)? Answer: When the revenue estimation gods say it does!

By September there began persistent rumors about last-minute deals and shenanigans. The first to surface was an attempt to restructure the Franchise Tax Board.

When the entirety of the business community registered its opposition by joint letter, the regulatory language was removed. Efforts to "pack" the board continued, however, as much of the business community halted its "active opposition." This version actually might have succeeded if not for the impatience of Senators, who adjourned for the year rather than awaiting action of the Assembly to pass an amended Senate bill. The Senate hijacked an Assembly bill (AB 858) and dumped it back to the Assembly for concurrence. This measure would have simply replaced the state controller with the state treasurer on the FTB. The Assembly was faced with simply an up-or-down vote on concurrence. As the evening wore on, intensive lobbying efforts continued, members began to leave and the margins for supporters dwindled and eventually disappeared.

Coterminously, AB 84 (Floyd) was amended two days prior to adjournment to essentially prohibit "big box" retailers like Costco and Wal-Mart from building new facilities in California. Although strong opposition was registered from many sectors of the public, Cal-Tax and its allies were unable to stop this measure in the Legislature and had to rely on the governor's appropriate veto.

In the end, tax reform was not of great interest to the Legislature in 1999. Some modest proposals were adopted and some altogether taxpayer-unfriendly legislation was either defeated or vetoed. Here is a quick synopsis of some of the bills Cal-Tax worked on this year:

• AB 84 (Floyd and Villaraigosa) - Prohibits "big box" retailers from developing in California - vetoed.
• AB 858 (Kuehl) / SB 1239 (Burton) / SB 1038 (Burton) - Restructuring the FTB - died on Assembly floor.
• AB 1392 (Hertzberg) - Bond in-lieu payment to obtain judicial review - pending in Senate Appropriations Committee.
• SB 1234 (Schiff) - Assessment Appeals Board training by county - signed into law (Chapter 942).
• SCA 3 (Burton) - Majority vote transportation bonds - stalled in Senate.
• AB 704 (Honda) - Personal property tax filing date/ information - signed into law (Chapter 334).
• SB 1293 (Schiff) - Trial de novo on property tax appeals - died in Senate Revenue and Taxation Committee.
• AB 790 (Honda) - "12 most wanted list" for sales tax delinquents greater than $1 million - signed into law (Chapter 443).
• AB 1643 (Floyd) - Assessor-backed bill to limit taxpayers' rights to challenge assessments after four-year audit - died in Assembly Revenue and Taxation Committee.
• AB 152 (Lempert) - Net operating loss 100 percent with 20-year carryforward - held in Assembly Appropriations Committee.
• SB 546 (Solis) - Unemployment tax and benefit increases - held in Assembly Appropriations Committee.
• SB 656 (Solis) - State disability tax and benefit increases - signed into law (Chapter 973).
• AB 470 (Wildman) - Requires prevailing wage or project labor agreements in school facility contracts - vetoed.
• SB 1125 (Polanco) - Permits deduction of interest as expense of insurance subsidiary - vetoed.
• SB 933 (Poochigian) - Excludes underground storage tank repairs from new construction - signed into law (Chapter 352).
• AB 1291 (Corbett) - Extends seismic retro-fit exclusion - signed into law (Chapter 504).
• SB 93 (Chesbro) / SB 94 (Chesbro) AB 1208 (Assembly Revenue and Taxation Committee) - Selected conformity - signed into law as SB 93 (Chapter 8) SB 94 (Chapter 931); AB 1208 was held in the Legislature.
• AB 68 (Cunneen) / AB 465 (Nakano) / SB 705 (Sher) - Expands R&D Credit - SB 705 (Chapter 77) was signed; AB 68 was held in Assembly Appropriations, AB 465 was held in Senate Revenue and Taxation.
• SB 1237 (Escutia) - Reinstates Royal Globe doctrine, permitting third-party lawsuits - signed into law (Chapter 720).
• AB 196 (Kuehl) - Enacts major child-support enforcement reform giving Franchise Tax Board greater responsibility in collection - signed into law (Chapter 478).