State & Local Tax Bulletin (March 2009)
Tax Provisions of California Budget Bills
By Michael J. Cataldo, a tax associate in the San Francisco office of Pillsbury Winthrop Shaw Pittman LLP.
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California has enacted several tax provisions as part of the recently passed budget package. For corporation franchise tax purposes, the Legislature has established a bright-line nexus standard, allowed a single sales factor apportionment election (for most multi-state taxpayers), modified the definition of gross receipts includible in the sales factor, and amended the sales factor sourcing rules. The tax provisions of the budget package also include a 20-25 percent motion picture production credit, temporary increases to personal income tax and sales tax rates and the vehicle license fee, a $3,000 income tax hiring credit for small businesses, and a tax credit for the purchase of newly constructed homes equal to the lesser of $10,000 or five percent of the purchase price.
Assembly Bill X3 15
The definition of "doing business" under California Revenue and Taxation Code ("RTC") section 23101 is amended. For taxable years beginning on or after January 1, 2011, a taxpayer is deemed to be "doing business" in this state and therefore subject to the franchise tax, if any of the following conditions are met:
The threshold amounts above will be adjusted annually for inflation. The sales, property and payroll factors include distributive shares of pass-through entities. It should be noted that in the Assembly Floor analysis for the bill, it is stated that because of federal law, nexus "does not currently, and would not under this measure, extend to companies whose only connection is that they sell tangible personal property in the state." The second alternative ground for taxation which appears to be an economic nexus standard is at odds with the Assembly Floor analysis.
Single sales factor election. Multi-state taxpayers may make an annual, irrevocable election on a timely filed original return to apportion income to California using a single sales factor. This election will be available for taxable years beginning on or after January 1, 2011. The election is not available to those taxpayers listed in RTC section 25128(b), which include businesses that derive more than 50 percent of their gross receipts from agricultural, extractive, savings and loan and banking activities, which must continue to use the equally weighted three-factor apportionment formula.
Gross Receipts. For taxable years beginning before January 1, 2011, "sales" for purposes of the sales factor includes all gross receipts not allocated under RTC sections 25123 through 25127, inclusive.
For taxable years beginning on or after January 1, 2011, gross receipts include the gross amount realized in a transaction producing business income and recognized under the Internal Revenue Code ("IRC"), without reduction for basis or costs of goods sold. However, the following items are excluded from the sales factor, irrespective of whether such gross receipts are business income:
Finnigan Returns (Again). For taxable years beginning on or after January 1, 2011, all sales of a combined reporting group must be included in the sales factor numerator regardless of whether the member of the combined reporting group making the sale is subject to tax in California. Sales by members of the combined reporting group not assignable to California are not included in the California sales factor numerator if any member of the combined reporting group is subject to tax in the state of the purchaser.
Sourcing of Sales from Intangibles. For taxable years beginning on or after January 1, 2011, for sales factor purposes, sales of other than tangible personal property are sourced:
For taxable years beginning on or after January 1, 2011, a credit is allowed for 20 percent of the qualified expenditures of qualified motion pictures, or 25 percent of qualified expenditures for independent films or for a TV series whose production was relocated to California primarily because of the credit. The credit may be carried forward for six taxable years, and is available for individuals and corporations. Taxpayers must first apply to the California Film Commission ("CFC") for a credit allocation and, upon completion, receive a credit certificate from the CFC.
A "qualified motion picture" must have a production budget of between $1 million and $75 million, be a miniseries or movie of the week with a minimum production budget of $500,000, a new television series produced in California with a production budget of at least $1 million, an independent film, or a television series that relocated to California primarily because of the credit. An "independent film" must have a budget of between $1 million and $10 million and be produced by a non-publicly traded company. Publicly traded companies may not own, directly or indirectly, more than 25 percent of a company that produces an "independent film." A "qualified motion picture" must have at least 75 percent of its production days occur wholly within California or 75 percent of its production budget spent for property or services used or performed in California. Production of a "qualified motion picture" must be completed within 30 months from the date the taxpayer applies for the credit with the CFC. A "qualified expenditure" includes amounts paid or incurred to purchase or lease tangible personal property used in California to produce a qualified motion picture and payments for services performed in California for purposes of qualified motion picture production.
If the credit exceeds a corporate taxpayer's tax liability, it may irrevocably elect to assign the credits to affiliated corporations that are owned 100 percent, directly or indirectly, by the taxpayer. Taxpayers may sell credits attributable to an independent film to an unrelated party so long as it reports the sale to the FTB. Taxpayers (or their assignee affiliates) may also irrevocably elect to apply the credit against sales and use taxes, or elect to have such sales and use taxes refunded. No interest is paid on these sales and use tax refunds.
Pass-through entities are not entitled to claim any credits to offset entity level taxes. Rather, the credits must be passed through to the shareholders or owners of the pass-through entities.
The CFC is limited to $100 million of credit allocations in any fiscal year, beginning in 2009-2010 through 2013-2014. The first tax credits may not be claimed until taxable year 2011. The credit is allowed in the taxable year the CFC issues a credit certification, irrespective of the tax year or years in which the qualified expenditures were incurred.
The California Administrative Procedures Act does not apply to any rules or guidance issued by the FTB relating to the credit.
For taxable years beginning on or after January 1, 2009, small businesses may claim a $3,000 tax credit for each qualified full-time employee hired during the taxable year which results in a net increase in full-time employees from the previous year.
Only employers having 20 or fewer employees may qualify for the credit as a small business. Related businesses (as determined under IRC sections 267, 319 and 707) are treated as a single business. For taxpayers who first commence doing business in California during the taxable year, the number of full-time employees for the immediately preceding prior taxable year is deemed to be zero.
A qualified full-time employee must work either an average of 35 hours per week in a calendar year or be classified as a full-time employee under the California Labor Code. The wages of any employee used to obtain Enterprise Zone, Manufacturing Enhancement Areas, LAMBRA, or any other California income tax credits are not eligible for this credit. The deduction from gross income for wages is not required to be reduced by the amount of credit allowed.
The credit must be claimed on a timely filed original return with the FTB on or before the "cut off" date. The "cut off" date is the last day of the calendar quarter in which the FTB estimates the cumulative amount of credit claimed equals $400 million. No credits will be allowed after the "cut off" date. Credits disallowed because they were claimed after the "cut off" date, or not claimed on a timely filed original return will be treated as mathematical errors. FTB's determinations of the "cut off" date and whether a credit was claimed on a timely-filed original return are not reviewable in any administrative or judicial proceedings. Excess credits may be carried over to reduce tax for eight taxable years.
Assembly Bill X3 3
The state sales and use tax is increased by one percent, to a rate of 7.25 percent, effective beginning April 1, 2009. The rate increase expires on July 1, 2011, unless voters approve the proposed Budget Stabilization constitutional amendment. If the constitutional amendment passes, the rate increase will expire one year later, on July 1, 2012.
A temporary VLF increase of 0.50 percent of the fair market value of non-commercial vehicles from 0.65 percent to 1.15 percent becomes effective May 19, 2009, and is imposed through July 1, 2011, unless voters approve the proposed Budget Stabilization constitutional amendment. If the constitutional amendment passes, the VLF increase will expire on July 1, 2013. The temporary VLF increase may be reduced from 0.50 percent to 0.35 percent if funds from the excess 0.15 percent VLF increase are not spent on local public safety.
A temporary 0.25 percentage point increase to each of the existing Personal Income Tax brackets is effective for taxable years beginning on or after January 1, 2009. This increase expires for taxable years beginning on or after January 1, 2011, unless voters approve the proposed Budget Stabilization constitutional amendment, in which case the increase expires for taxable years beginning on or after January 1, 2013. Thus, the lowest bracket is increased to 1.25 percent (from 1 percent), and the highest bracket is increased to 9.55 percent (from 9.3 percent). If the amounts received through the federal stimulus package reach a specified amount, then the increases referenced above will be reduced by 50 percent, causing a 0.125 percentage point increase for each Personal Income Tax bracket. The Alternative Minimum Tax rate is increased correspondingly. The temporary increases do not alter the additional 1 percent tax on individuals with incomes over $1 million.
The credit for each dependent is reduced from $227 to $52 for taxable years beginning on or after January 1, 2009. The provision reducing the credit for dependents becomes inoperative on January 1, 2011, unless voters approve the proposed Budget Stabilization constitutional amendment. If the constitutional amendment passes, the provision becomes inoperative on January 1, 2013.
Senate Bill X2 15
For the purchase of a "qualified principal residence" after March 1, 2009 and before March 1, 2010, a personal income tax credit is allowed for the lesser of $10,000 or five percent of the purchase price of a "qualified principal residence." The credit must be claimed in equal amounts over three successive tax years beginning with the tax year of the purchase. The credit is only allowed once for any taxpayer, and is allocated among multiple purchasers.
A "qualified principal residence" is a single-family home that has never been occupied, is purchased to be the principal residence of the taxpayer for at least two years and qualifies the taxpayer for the homeowner's property tax exemption provided by RTC section 218. If the residence is not occupied by the taxpayer for at least two years, any credit claimed in prior years must be recaptured.
The taxpayer must obtain a certification from the seller that the home was never previously occupied. The seller must provide this certification to the buyer and the FTB within one week of the sale. Taxpayers must submit the seller's certification with their tax return. The credit must be claimed on a timely filed original return. The total amount of credit allowed may not exceed $100 million, which is allocated to taxpayers by FTB after receipt of the certification from the seller, on a first-come, first-served basis. FTB's determinations of the date it receives certifications and whether the credit was claimed on a timely filed original return are not reviewable in any administrative or judicial proceedings. The credit is repealed by its own terms on December 1, 2013.
This material is not intended to constitute a complete analysis of all tax considerations. Internal Revenue Service regulations generally provide that, for the purpose of avoiding United States federal tax penalties, a taxpayer may rely only on formal written opinions meeting specific regulatory requirements. This material does not meet those requirements. Accordingly, this material was not intended or written to be used, and a taxpayer cannot use it, for the purpose of avoiding United States federal or other tax penalties or of promoting, marketing or recommending to another party any tax-related matters.
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