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Wednesday, May 22, 2013

Governor Brown's Tax Modernization Proposal - Is It Enough?

Governor Brown's "May Revision" budget includes a "job creation and economic development proposal." Here is the text of that proposal (page 68):

"The May Revision proposes to modernize the state’s job creation and economic development incentives. Created over 25 years ago, the Enterprise Zone program should be reshaped to meet the needs of the current economy. In its current form, it fails to encourage the creation of new jobs an instead rewards moving jobs from one place to another within the state. Additionally, the New Jobs Hiring Credit created in 2009 has not been effective at stimulating job growth. The May Revision aims to strengthen both of these programs to bolster California’s business environment and reintegrate people into the workforce.

The hiring credit will be refocused to specific areas with high unemployment and  poverty rates. This credit will be available for the hiring of long‑term unemployed workers, unemployed veterans, and people receiving public assistance. The Enterprise Zone sales tax program will be expanded to a statewide, upfront sales tax exemption for manufacturing or biotech research and development equipment purchases. Finally, the California Competes Recruitment and Retention Fund will be created, to be administered by the Governor’s Office of Business and Economic Development (GO‑Biz). GO‑Biz will negotiat agreements to provide businesses tax credits in exchange for investments and employment expansion in California.

The proposal is revenue neutral and focuses on improving the performance of those dollars already spent. It will allow California to be more effective at stimulating economic growth an creating new jobs. The program will be designed to ensure that small businesses are able to easily obtain the manufacturing sales tax exemption, and will dedicate a portion of the hiring credit and the incentive fund solely to small businesses"

It is good to look at modernization of any provision that has been around for even 10 years, let along 25. Governor Brown doesn't mention what the "needs of the current economy" are. Is it to address varying unemployment rates among California communities?  Is it to be sure the California economy can attract and support jobs in the knowledge and green economies?  Is it to be sure the state's tax system is at least in sync with others?

If it means any of the above, more is needed than reforming a jobs credit and enterprise zone incentives. Why not reform the entire sales tax system to cover more types of personal consumption - modern consumption such as personal services and digital downloads?  Why not phase in exemptions for equipment of all types of businesses? A broader sales tax base would help local governments such that equipment exemptions could cover both the state and local portions of the sales tax. Ideally, the broader sales tax base for consumers would include a lower rate.

What do you think modernization of California's tax law should include?

For more, see my 3/25/13 post on California tax reform and a short paper on weaknesses in California's tax system.

2 comments:

Anonymous said...

I agree that the modernization of California’s tax law should include a broader sales tax base, which should include a tax on services. However, taxing services brings forth a number of questions. How is a service defined? Which, if any, services should be excluded? And, is it possible to draft a provision that will satisfy the principles of Equity, Certainty, and Simplicity? Here are a few examples of these issues.

Generally speaking, services are not taxed in California. However, what qualifies as a service is hazy. This link to CalCPA gives the example of a tailor. [http://www.calcpa.org/Content/25604.aspx] In summary, the alteration of new garments is taxable, but the alteration of used clothing is exempt. [CA Sales & Use Tax Regs §§1524(b)(1)(A) & (B).] Of course, the current provisions are more complex, but this is just an example of the type of analysis certain service providers must consider.

Next, to meet the principle of Simplicity, common sense would dictate that all services should be taxed. However, should the services of a tax professional be excluded? Any resident whose income exceeds a statutory level of gross income in a given year is required to file a tax return. In order to comply with this statutory obligation, many taxpayers rely on tax professionals to help them navigate our complex tax code. Since a tax preparer helps a taxpayer meet a statutory obligation, tax preparation services should be exempt. Next, should 100% of tax preparation fees be exempt, or just the part pertaining to the California returns? Just like that, the issue becomes more and more complex.

In summary, Governor Brown’s tax modernization proposal is a small step. However, the proposal is “revenue neutral” and focuses on “improving the performance of dollars already spent”. At first blush, many of the Principles of Good Tax Policy are met in Governor Brown’s proposal. While more can be done to modernize California’s tax code, the state is better off erring on the side of small, well thought out steps, versus a vast overhaul which brings tax complexity to a modern age.

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