ENTERPRISE ZONES:
California Enacts New Rules for Economic Development Areas

By Chris Micheli

With Governor Arnold Schwarzenegger's signatures on two bills (AB 1550, Arambula and SB 763, Lowenthal), California has adopted new rules for the designation of enterprise zones (EZs) and new fees for other geographically targeted economic development areas (G-TEDAs).

Background on the EZ Program

The California EZ Program is intended to provide state and local incentives for businesses to invest and locate in economically distressed areas of the state. State law currently authorizes 42 enterprise zones in California. In addition, the law allows existing zones to expand up to 15 percent in geographic size.

The legislative purpose of the EZ Program is to "stimulate business and industrial growth in the depressed areas of the State." The other purposes are to establish a program "to help attract business and industry to the state, to help retain and expand existing state business and industry, and to create increased job opportunities for all Californians."

Essentially, EZs are competitively designated based upon distress criteria (primarily poverty and unemployment levels) and the local government's capacity to carry out an economic development program. They must provide additional local incentives, and the EZs are designated for 15 years.

The G-TEDA programs are one of the largest state economic development programs in California. With the expiration of the manufacturers' investment credit (MIC), the only other significant tax benefit is the Research and Development tax credit. The G-TEDA programs are based on the economic principle that targeting significant incentives to lower-income communities allows these communities to more effectively compete for new businesses and retain existing businesses, which result in increased tax revenues, less reliance on social services, and lower public safety costs. Residents and businesses within these G-TEDAs also directly benefit from these more sustainable economic conditions through improved neighborhoods, business expansion, and job creation.

Under the G-TEDA programs, businesses and other entities located within the area are eligible for a variety of local- and state-provided incentives. Local governments often write-down the costs of development, fund related infrastructure improvements, provide job training to prospective employees, or establish a streamlined process of obtaining permits. The state also offers a number of incentives, including: tax credits, priority notification in the sale of state surplus lands, access to certain "brownfield" clean-up programs, and preferential treatment for state contracts.

By far, the largest G-TEDA business incentive is the income tax credit given for hiring certain targeted employment populations. According to the Franchise Tax Board, businesses located within EZs in 2003, the most recent data available, claimed $300 million in hiring and sales and use tax credits and deductions. Approximately $1.5 billion in tax credits and deductions have been claimed since 1986.

Of the credits redeemed from "known zones" in 2003, 27 percent were from businesses located in San Francisco, Long Beach, Oakland, and Santa Ana. According to the Legislative Analyst's Office, approximately 60 percent of the hiring credits are filed by small- and medium-sized businesses – businesses with assets under $5 million. However, approximately 65 percent of the total tax credits claimed are from businesses with assets of $1 billion or more. A majority of the tax benefits went to companies with assets of $1 billion or more, and 50 percent of the tax benefits went to companies with receipts of $1 billion or more.

Benefits of the EZ Program

The benefits of being in an EZ are that businesses may receive individual or corporate state tax incentives. Businesses can also receive local incentives, including regulatory relief. EZ state-level tax benefits include the following:

Background on AB 1550 (Arambula)

Existing Law:

Existing California law (see Government Code Sections 7070, et seq.) provides the following:

1.     Establishment of G-TEDA programs to stimulate business and create jobs in economically depressed areas of the state.

2.     Authorization of the EZ Program with a maximum of 42 EZs, each designated for an initial 15-year period by HCD (those designated prior to January 1, 1990 received five-year extensions for a total lifespan of 20 years).

AB 1550 makes the following changes to the enterprise zone law:

Reforms to the G-TEDA Programs:

This bill, which was signed by the Governor on September 29, 2006 as Chapter 718, includes significant provisions to improve the management, oversight and transparency of the G-TEDA programs. The language reflects over four months of oversight hearings by the Assembly Committee on Jobs, Economic Development, and the Economy (JEDE), as well as the Assembly Committee on Revenue and Taxation. A summary of these four hearings and the JEDE final list of recommendations can be found on the JEDE website at www.asm.ca.gov.

During the course of the hearings, the policy committees reviewed current and best practices related to designation, management and monitoring of the G-TEDAs in California, as well as the use of business incentives available through the G-TEDA programs with the objective of putting forth an overall evaluation of the state's return on its investment (ROI). While it was possible to estimate the "cost" of the business incentives in terms of foregone tax revenue (on a purely static economic model), determining the value of the programs' broader impact upon individuals and communities could not be ascertained (i.e., a dynamic economic model).

One of the primary impediments to the committees in determining the ROI trace back to the establishment of the EZ Program over 20 years ago, when the state did not establish benchmarks at either the state or local levels, metrics for measuring the ongoing success of the program, or placing a single state agency firmly in charge of the EZ program.

Definition of a G-TEDA:

This bill defines a G-TEDA as an area designated as any of the following: an enterprise zone (EZ) [there are 42 of these statewide], manufacturing enhancement area (MEA) [there are two of these], targeted tax area (TTA) [there is one], or local agency military base recovery area (LAMBRA) [there are eight of these zones]. This provision is effective September 29, 2006. It is found in Government Code Section 7072(f).

Noncontiguous Areas:

This bill authorizes cities and counties to apply for an EZ designation that includes noncontiguous boundaries, if the director of the Housing and Community Development Department (HCD) determines the area is needed to implement the applicant's economic development strategy and that areas between the noncontiguous areas were not excluded for discriminatory purposes. This authority is also provided for EZ and TTA boundary expansions. Effective September 29, 2006. Gov't Code Sections 7073.1(a), 7074(e), and 7099(a)(4).

Targeted Employment Area (TEA) Boundaries:

This bill requires TEA boundaries be updated within 180 days of new census data becoming available. Existing zones, which have not updated their boundaries using the 2000 census data, are required to update those boundaries by July 1, 2007. EZs which expire prior to December 31, 2008 are exempted from updating their boundaries. Effective September 29, 2006. Gov't Code Section 7072(i)(4).

New Zone Designation "Gap Closer":

This bill authorizes an expiring EZ that applies for a new designation (in this 2006 competitive round for EZs expiring in 2006-07), and receives a conditional designation letter from HCD (which are expected in November 2006), to offer all enterprise zone benefits until such time as HCD makes a final designation or declines to designate the EZ. The effective date of the new EZ designation shall be the expiration date of the old EZ designation. So, for example, an enterprise zone expires on October 14, 2006, applies for a new designation and receives it in January 2007, HCD will back-date the effective date of the new zone to October 15, 2006 so that there is no lapse in tax benefits to the businesses in the EZ. Effective September 29, 2006. Gov't Code Section 7074.2(c).

EZ Selection Process:

This bill requires applications in response to zone designation solicitations after January 1, 2007 (i.e., the changes apply to the next competitive round for zone expirations) be ranked based on their economic development strategy and implementation plan, including the extent the strategy; sets reasonable and measurable benchmarks, goals, and objectives; identifies local resources, incentives, and programs; provides for the attraction of private investment; includes regional and community-based partnerships; and, addresses hiring and retention of unemployed or underemployed residents or low-income individuals. Effective for new EZ designations after January 1, 2007. Gov't Code Sections 7073 and 7073.1.

G-TEDA Performance Review:

This bill adds a new audit element that requires the review of an EZ's administrative support and whether financial commitments made in the G-TEDA application to HCD for designation and memorandum of understanding (MOU) have been kept. The bill also makes technical conforming changes in the MEA, TTA, and LAMBRA audit requirement code sections. Effective September 29, 2006. Gov't Code Sections 7073.8, 7076.1, 7097, and 7116(f).

Biennial Progress Report:

This bill requires G-TEDAs to biennially report to HCD on their progress in meeting the goals and objectives identified in their implementing MOU, as well as a work plan outlining the major projects, programs, and activities the G-TEDA will undertake during the year to meet those previously identified goals and objectives. Effective September 29, 2006. Gov't Code Section 7085.1.

Current Zone Goals and Objectives Update:

This bill requires G-TEDAs designated prior to January 1, 2007 to update their goals and objectives by April 15, 2008, and meet the annual reporting requirements by October 1, 2009. In addition, this new law:

  1. Requires the updated goals and objectives be amended into the MOU between the EZ and HCD;
  2. Requires a G-TEDA, which fails to obtain approved goals and objectives by April 15, 2008, be dedesignated effective July 1, 2008;
  3. Authorizes HCD to provide up to two 60-day extensions for the failure of a G-TEDA to meet the goals and objectives requirement;
  4. Provides that businesses located in a dedesignated G-TEDA that have previously claimed tax incentives may continue to claim those tax incentives for a period equal to the original designation term of the G-TEDA (even though it was dedesignated prior to its original expiration date); and,
  5. Exempts EZs that expire prior to January 1, 2010 from updating their goals and objectives.

Effective September 29, 2006. Gov't Code Section 7085.1.

Background on SB 763 (Lowenthal)

The Enterprise Zone Act (see Gov't Code Sections 7070, et seq.) also prescribes the duties and responsibilities of the Department of Housing and Community Development in connection with the establishment of G-TEDAs. The Act authorizes HCD and local governments to charge and collect fees in connection with these provisions, and to assess each enterprise zone a fee of not more than $10 for each application it accepts for the issuance of a specified tax certificate issued by a local government for the purpose of claiming the hiring tax credit.

Existing law also requires HCD to administer the Targeted Tax Area (TTA) program and to rank and designate applicant communities that meet specified criteria as a TTA. Existing law also requires HCD to administer the Local Agency Military Base Recovery Area Act (LAMBRA) and to designate a military base or a former military base as eligible to be a LAMBRA.

This bill authorizes HCD to charge a fee in connection with the costs of administering provisions relating to the TTA Program and the LAMBRA Act and would require HCD to also assess a G-TEDA the same fee of not more than $10. The bill also makes specified findings and declarations with respect to the imposition of these fees.

Signed on September 29, 2006 and effective January 1, 2007, SB 763 (Chapter 634) also requires HCD to develop regulations for the issuance of specified tax certificates for the MEA, TTA, and LAMBRA Programs.

Analysis of the Bill:

The State currently designates four types of economic development areas intended to attract and retain businesses in economically challenged communities. Within each area, local governments provide business development incentives and the state provides business tax incentives.

In a 2004 budget trailer bill, SB 1097 [Chapter 225], the Legislature gave HCD the authority until July 1, 2006 to charge a fee of up to $10 for each hiring tax credit voucher in order to cover the state's administrative costs of the program. That 2004 bill further directed HCD to adopt regulations regarding the fees and the issuance of hiring tax credit certificates – commonly referred to as "vouchers". Though equally applicable to the other three G-TEDA programs, these provisions were only applied to the enterprise zone program.

This new bill, SB 763:

  1. Expands HCD's authority to assess a fee of up to $10 per application for a hiring credit certificate accepted by an MEA [Gov't Code Section 7076(c)], TTA [Gov't Code Section 7097.1], and LAMBRA [Gov't Code Section 7114.2(a)].
  2. Eliminates the refundability of the fee to a business when a voucher is not accepted by the FTB [Gov't Code Section 7076].
  3. Expands the application of the fee from applying to only those vouchers accepted, to any voucher applications submitted [Gov't Code Section 7076(c)].
  4. Requires HCD to adopt regulations relative to the collection of fees for vouchers issued by an MEA [Gov't Code Section 7086(d)], LAMBRA [Gov't Code Section 7114.2(b)], or a TTA [Gov't Code Section 7097.1]; and issuance of a hiring credit voucher certificate by an MEA [Revenue & Taxation Code Sections 17053.47 and 23622.8], LAMBRA [Revenue & Taxation Code Sections 17053.46 and 23646], or a TTA [Revenue & Taxation Code Sections 17053.34 and 23634].
  5. Provides legislative intent stating that the fees authorized in this bill reflect the reasonable costs of administering these programs and that the fees have not been authorized for generating revenues unrelated to the administration of those programs [Section 12 of the bill (uncodified)].

Author's Statement of Intent:

According to the author's office, this bill is intended to conform the various G-TEDA programs in order to streamline state administration and ensure adequate funding for the HCD staff. While the four EDA programs differ in terms of eligible businesses and available tax credits, the programs are essentially similar. Regulations adopted to govern the issuance of hiring tax credit vouchers under the enterprise zone program apply equally to the other EDA programs.

Moreover, the intent of SB 1097, the budget trailer bill from 2004, was for state administrative costs to be covered by fees on voucher applicants. However, that bill only applied the fee provision to the enterprise zone program. SB 763 makes uniform the fee and regulation provisions of all four EDA programs.

Chris Micheli is a principal and registered lobbyist at California Strategies & Advocacy, LLC in Sacramento (cmicheli@calstrat.com).

Caltaxletter October 13, 2006

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