The Personal Income Tax Law, in conformity with federal income tax law, provides that a qualified tuition program is exempt from taxes. Existing law establishes the Golden State Scholarshare College Savings Trust as a qualified tuition program. Existing law excludes from gross income of a beneficiary of, or contributor to, a qualified tuition program qualified distributions or earnings under that program, as specified.

This bill, for taxable years beginning on or after January 1, 2016, and before January 1, 2021, would allow a credit under the Personal Income Tax Law in an amount equal to 20% of the monetary contributions made to one or more Scholarshare accounts by a qualified taxpayer, as defined, during the taxable year, not to exceed $500. This bill would include findings and declarations specifying the objectives, performance indicators, and data collection and reporting requirements related to this credit.

This bill would take effect immediately as a tax levy.

Date of Hearing: May 18, 2016

ASSEMBLY COMMITTEE ON APPROPRIATIONS

Lorena Gonzalez, Chair

ABPCA Bill Id:AB 2726

Author:(McCarty) – As Introduced Ver:February 19, 2016

Urgency: No State Mandated Local Program: No Reimbursable: No

SUMMARY:

This bill allows a credit under the Personal Income Tax (PIT) Law for contributions made to one or more ScholarShare account. Specifically, this bill:

1. Allows a nonrefundable credit for each taxable year beginning on or after January 1, 2016, and before January 1, 2021, in an amount equal to the lesser of 20% of monetary contributions made to one or more ScholarShare accounts or $500.
2. Limits the credit to taxpayers based on income limits and tax filing status. Qualified taxpayers are those with adjusted gross incomes of either:
3. $75,000 or less if they are single or married and filing separately filing.
4. $150,000 or less if they file a head of household, surviving spouse, or married filing jointly.
5. Establishes performance metrics and data collection and reporting requirements.

FISCAL EFFECT:

Annual GF revenue loss of $23 million, $18 million, and $20 million in FY 2016-17, FY 2017-18, and FY 2018-19, respectively.

COMMENTS:

1. Purpose. According to supporters, this bill will provide a tax incentive for families who save for college. The author argues that incentivizing families to establish college savings accounts will ensure obtaining a higher education degree is an achievable goal without burdening students with tremendous amounts of debt.
2. ScholarShare 529 College Savings Plans: ScholarShare serves as California's state-sponsored IRC Section 529 qualified tuition program. The savings accounts enabled by ScholarShare provide families with a valuable tool that offers a diverse set of investment options, tax-deferred growth, and withdrawals free from state and federal taxes when used for qualified higher education expenses such as tuition and fees, books, certain room and board costs, computer equipment, and other required supplies.
3. Who uses 529 plans? According to the Federal Reserve, high-income households are most likely to use a 529 college savings plan. In 2013, 16% of households above the 95^th percentile of the income distribution had a 529 savings account compared to just 0.3% of households below the 50^th percentile of the income distribution. Because the proposed tax credit is nonrefundable and is only available to households with income tax liability, it may not reach lower-income households who would most benefit.
4. Incentivizing behavior or rewarding past behavior? Under AB 2726, the tax credit would be provided for ScholarShare contributions made after January 1, 2016, which means that households that are already contributing to ScholarShare accounts will receive a credit. Since the intent of the bill is to incentive households to save for college, the Committee may wish to consider making the credit operative beginning on January 1, 2017.
5. Prior legislation. AB 17 (Bonilla), in 2015, would have created a credit for contributions to a ScholarShare account. AB 17 was held in this committee’s Suspense file.

Analysis Prepared by: Luke Reidenbach / APPR. / (916) 319-2081

Date of Hearing: May 9, 2016

ASSEMBLY COMMITTEE ON REVENUE AND TAXATION

Sebastian Ridley-Thomas, Chair

ABPCA Bill Id:AB 2726 (

Author:McCarty) – As Introduced Ver:February 19, 2016

Majority vote. Tax levy. Fiscal committee.

SUBJECT: Personal income taxes: credit: Scholarshare account contributions

SUMMARY: Allows a credit under the Personal Income Tax (PIT) Law in an amount equal to the lesser of 20% of monetary contributions made to one or more Scholarshare accounts or $500. Specifically, this bill:

1. Allows a PIT credit for each taxable year beginning on or after January 1, 2016 and before January 1, 2021, for "qualified taxpayers" in an amount that is the lesser of the following:
   1. 20% of monetary contributions made by a "qualified taxpayer" to one or more accounts established pursuant to a "qualified tuition program" during the taxable year; or,
   2. $500.
2. Defines a "qualified taxpayer" as an individual who, on behalf of a beneficiary, contributes money to a "qualified tuition program" for which the individual is the account owner and has an adjusted gross income of either:
   1. $75,000 or less if the qualified taxpayer files as single or married filing separately; or,
   2. $150,000 or less if the qualified taxpayer files as head of household, surviving spouse, or married filing jointly.
3. Defines a "qualified tuition program" in the same manner as a qualified tuition program under Internal Revenue Code (IRC) Section 529 and established as ScholarShare in California.
4. Requires, in the case of any distribution from an account in excess of qualified higher education expenses and to the extent the distribution is attributable to the contributions for which a credit is claimed, that the credit claimed in any taxable year be added to the tax owed by the qualified taxpayer in the taxable year of the distribution.
5. Defines "qualified higher education expenses" in the same manner as qualified higher education expenses under IRC Section 529(e)(3).
6. Authorizes the Franchise Tax Board (FTB) to prescribe rules, guidelines, or procedures necessary or appropriate to carry out the purpose of the credit.
7. Repeals the credit on December 1, 2021.
8. Provides the following objectives, performance indicators, and data collection and reporting requirements in compliance with Revenue and Taxation Code (R&TC) Section 41:
   1. Objectives:
      1. Provide a tax incentive to motivate California families to open and contribute to a Scholarshare account to save for college, thereby encouraging more Californians to pursue postsecondary education while accumulating less debt; and,
      2. Reduce the amount of student loan debt on a dollar-for-dollar basis so individuals have greater ability to buy a home, car, or other items that stimulate the economy.
   2. Performance Indicators:
      1. Number of ScholarShare tax credits issued by the FTB;
      2. Dollar amount of ScholarShare tax credits;
      3. Taxpayer income information of those who qualified and used the ScholarShare credit; and,
      4. Number of new ScholarShare accounts opened during the calendar year.
   3. Data collection and reporting requirements:
      1. The ScholarShare Investment Board (SIB) shall collect data on the amount of tax credits issued and taxpayer income from the FTB within 120 days from the tax return filing date for the taxable year;
      2. The SIB shall collect data on the total amount of contributions made to ScholarShare accounts by March 1 of each year the credit is claimed on a tax return;
      3. The SIB shall survey new and existing ScholarShare account owners to collect information about their motivation to do the following:
         1. Open a ScholarShare account;
         2. Contribute to a ScholarShare account;
         3. Increase the frequency and amount of contributions to a ScholarShare account; and,
         4. Refer a ScholarShare account to friends and family; and,
      4. The SIB shall compile an annual report with prior year and cumulative baseline data to be delivered to the Legislature by July 31 of each year the tax credit is in effect.
9. Takes immediate effect as a tax levy.

EXISTING FEDERAL LAW:

1. Provides tax-exempt status to qualified tuition programs. Qualified tuition programs are programs established and maintained by a state (or by an eligible education institution) under which a person may purchase tuition credit or make cash contributions to meet the qualified higher education expenses of a designated beneficiary. Contributions to a qualified tuition program cannot exceed the amount necessary to provide for the beneficiary's qualified higher education expenses. Distributions to a beneficiary are excluded from income. Contributions made to a qualified tuition program are not deductible.

EXISTING STATE LAW:

1. Conforms to IRC Section 529 as of the "specified date" of January 1, 2015, with certain state modifications, including a modification to the 10% tax on excess distributions to instead be an additional tax of 2.5% for state purposes.
2. Provides its own IRC Section 529 qualified tuition program, known as the Golden State Scholarshare Trust (ScholarShare). ScholarShare enables taxpayers to save for college by putting money in tax-advantaged investments. After-tax contributions allow earnings to grow tax-deferred, and distributions, when used for tuition and other qualified expenses, are federal and state tax-free. If a ScholarShare distribution exceeds qualified higher education expenses incurred by the beneficiary, the excess amount is subject to income tax and an additional tax of 2.5% for state purposes.
3. Limits the total amount of contributions to a beneficiary to $475,000. Accounts that have reached the limit may continue to accrue earnings.
4. Allows various tax credits under the PIT Law. These credits are generally designed to encourage socially beneficial behavior or to provide relief to taxpayers who incur specified expenses.
5. Applies performance measurement standards to any new tax credit under either the PIT Law or Corporation Tax (CT) Law if enacted by a bill introduced on or after January 1, 2015. Specifically, existing law requires all of the following:
   1. Specific goals, purposes, and objectives that the tax credit will achieve;
   2. Detailed performance indicators for the Legislature to use when measuring whether the tax credit meets the goals, purposes, and objectives stated in the bill; and,
   3. Data collection requirements to enable the Legislature to determine whether the tax credit is meeting, failing to meet, or exceeding those specific goals, purposes, and objectives. The requirements shall include the specific data and baseline measurements to be collected and remitted in each year the credit is in effect, for the Legislature to measure the change in performance indicators, and the specific taxpayers, state agencies, or other entities required to collect and remit data. (R&TC Section 41)

FISCAL EFFECT: The FTB's revenue estimate for this bill is currently pending. However, the FTB estimated last year that similar legislation would have resulted in General Fund revenue losses of $24 million in fiscal year (FY) 2015-16, $48 million in FY 2016-17, and $55 million in FY 2017-18.

COMMENTS:

1. Author's Statement: The author has provided the following statement in support of this bill:

One of the greatest hurdles families face when contemplating whether to pursue a post-secondary education is the skyrocketing cost of attending college, which has grown at a rate of two to three times the rate of inflation. Nationally, tuition and fees at public four- and two-year institutions have increased 40% and 29%, respectively, over the past 10 years. From 2005-06 through 2014-15, tuition and fees at the University of California, California State University, and California Community Colleges jumped by 114%, 117%, and 130%, respectively.

During this same period, federal financial aid funding has shifted away from student grants towards guaranteed student loans. Today, nearly 60% of all federal financial aid is in the form of loans, substantially increasing the number of college graduates faced with the burden of repaying enormous student loan debt upon entering the workforce. According to the Institute for College Access and Success, the average student loan debt has soared 56% from $18,550 in 2004 to $28,950 in 2014. Nationally, total student loan debt has now surpassed $1.3 trillion.

Yet, despite this alarming trend, only 49% of families with children under the age of 18 are saving for college. Of those families, only 27% use a tax-advantaged 529 savings account. That percentage drops to 20% for families earning $35,000-$100,000. Further, research indicates that low- and moderate-income children with college savings of just $500 or less are 3 times more likely to enroll in college and 4 times more likely to graduate.

Incentivizing families to establish college savings accounts will ensure obtaining a higher education degree remains an achievable goal without burdening students with tremendous amounts of debt.

1. Arguments in Support: The sponsor of this bill, California State Treasurer John Chiang, notes the following:

California is one of a minority of states that does not offer a tax incentive for families who save for college, as 33 other states and the District of Columbia already offer some type of incentive. With college costs only going up and not enough financial assistance to help each student attend college debt-free, our state should be encouraging fiscal planning by all means possible, and AB 2726 accomplishes just that.

1. Arguments in Opposition: Opponents of this bill state that "those most in need of help with higher education cannot benefit from tax credits and deductions because their income tax liability is negligible" and that "college tuition credits put into law in the 1990s have been demonstrated to have little impact on college participation and funding, and were proposed for elimination by the Obama administration."
2. What is a "Tax Expenditure"? Existing law provides various credits, deductions, exclusions, and exemptions for particular taxpayer groups. In the late 1960s, United States Treasury officials began arguing that these features of the tax law should be referred to as "expenditures," since they are generally enacted to accomplish some governmental purpose and there is a determinable cost associated with each of them (in the form of forgone revenues). This bill would enact a new tax expenditure program in the form of a tax credit for contributions to a ScholarShare account.
3. Tax Expenditure vs. Direct Expenditure: As the Department of Finance notes in its annual Tax Expenditure Report, there are several key differences between tax expenditures and direct expenditures. First, tax expenditures are reviewed less frequently than direct expenditures once they are put in place. This can offer taxpayers greater certainty, but it can also result in tax expenditures remaining part of the tax code without demonstrating any public benefit. Second, there is generally no control over the amount of revenue losses associated with any given tax expenditure. Finally, it should also be noted that, once enacted, it takes a two-thirds vote to rescind an existing tax expenditure absent a sunset date.

This bill includes a five-year sunset date for the tax credit as generally recommended by this Committee. However, the proposed tax credit would be allowed beginning with the 2016 taxable year, allowing individuals currently making Scholarshare contributions to claim the credit for behavior that already occurred before this bill's enactment. The Committee may wish to consider shifting the allowance of the credit to taxable years between January 1, 2017 and January 1, 2022.

1. Conformity Issues: As noted above, California conforms to IRC Section 529, with slight modifications. In general, state conformity with federal law promotes greater simplicity and eases administration of complex tax laws. The Federal Government does not provide a credit for contributions to a 529 plan. By providing a credit for contributions made to qualified tuitions programs, this bill would bring California out of conformity with federal law.
2. ScholarShare 529 College Savings Plans: ScholarShare, administered by the SIB chaired by the State Treasurer, serves as California's state-sponsored IRC Section 529 qualified tuition program. The savings accounts enabled by ScholarShare provide families with a valuable tool that offers a diverse set of investment options, tax-deferred growth, and withdrawals free from state and federal taxes when used for qualified higher education expenses such as tuition and fees, books, certain room and board costs, computer equipment, and other required supplies. According to the author's office, Scholarshare has grown to include over 270,000 accounts and over $6.3 billion in total plan assets since its launch in 1999. In 2015, over $333 million was withdrawn by families for qualified higher education expenses. However, the author's office notes that the outcomes in the 33 other states and District of Columbia that provide additional tax incentives for saving indicate that these numbers could be even higher, and that the incentive provided in this bill is projected to result in the opening of more than 65,000 new accounts over three years.
3. Higher Income Earners More Likely to Save: According to a report by the Government Accountability Office (GAO), less than 3% of families have 529 or Coverdell plans and those who do tend to be wealthier. (Higher Education: A Small Percentage of Families Save in 529 Plans, GAO, Dec. 2012.) Specifically, families with 529 and Coverdell plans had a median income of $142,000 per year and a median financial asset value of about $413,500. The report also stated that families with 529 plans tend to have higher levels of education, which may increase the likelihood that their children will attend college.

The report outlined several reasons why low-income families participate far less in 529 plans, such as a lack of awareness, confusion as to how the plan works, and differences among the various 529 plans. However, 68% of those surveyed stated lack of money as the major reason for not participating. Experiments in Michigan and Oklahoma that matched contributions from low-income families into a 529 plan resulted in an overall increase in savings, but by a very incremental amount. In the end, it may be difficult to encourage families to save for college when they have little or no disposable income.

1. Lower Income Earners May Never See a Credit: This bill provides a nonrefundable credit, meaning that taxpayers may not see a benefit if their tax liability is insufficient to be offset by a credit. Accordingly, lower income earners, who often have little to no tax liability, may not be able to take advantage of the proposed credit as readily as higher income earners.
2. Rising Costs of Higher Education: State support for higher education has been dramatically reduced because of budget crises over the last 10 years. According to a report by the Public Policy Institute of California, in-state tuition at both the University of California (UC) and the California State University (CSU) has more than tripled, largely driven by dramatic reductions in state subsidies.^[1] The provisions of this bill are meant to counteract the skyrocketing costs of postsecondary education by providing a credit for contributions made to qualified tuition programs. Instead of forgoing General Fund revenues in a manner that predominantly favors higher income earners and may be used to fund college expenses out of state, the Committee may wish to consider whether funds would be better spent in direct support of UC, CSU, California Community Colleges, or financial aid programs.
3. Section 41: SB 1335 (Leno), Chapter 845, Statutes of 2014 added R&TC Section 41, which recognized that the Legislature should apply the same level of review used for government spending programs to tax preference programs, including tax credits.  Thus, Section 41 requires any bill that is introduced on or after January 1, 2015 and allows a new PIT Law or CT Law credit to contain specific goals, purposes, and objectives that the tax credit will achieve.  In addition, Section 41 requires detailed performance indicators for the Legislature to use when measuring whether the tax credit meets the goals, purposes, and objectives so-identified.

This bill provides a number of thoughtful performance measures with which to evaluate the effectiveness of the proposed tax credit. The author may also wish to consider adding more performance indicators such as the number of new contributions made to existing ScholarShare accounts and how often a tax credit must be added back to taxes owed by the taxpayer because non-qualified distributions are made from an account, and a provision in the report about how taxpayers claiming the credit learned about both the credit and ScholarShare generally to enhance education and outreach efforts. Such a provision may also help gage whether the credit, if enacted, incentivizes new savings or primarily benefits individuals otherwise already saving.

1. Related Legislation: AB 17 (Bonilla) was substantially similar to this bill. AB 17 was held under submission by the Committee on Appropriations.
2. Prior Legislation: AB 1956 (Bonilla), of the 2013-14 Legislative Session, was substantially similar to this bill but provided that the tax credit would have been refundable. AB 1956 was held under submission by the Committee on Appropriations.

REGISTERED SUPPORT / OPPOSITION:

Support

California State Treasurer, John Chiang (Sponsor)

California Business Roundtable

Common Sense Kids Action

EARN

Fiona Ma, Chair, Board of Equalization

Kidspace Children's Museum

Koreatown Youth and Community Center

Mexican American Opportunity Foundation

Mission Asset Fund

Opportunity Fund

San Diego Foundation

Zimmer Children's Museum

Opposition

California Tax Reform Association

Analysis Prepared by: Irene Ho / REV. & TAX. / (916) 319-2098

1. Hans Johnson, Kevin Cook, Patrick Murphy, and Margaret Weston, Higher Education in California: Institutional Costs. Public Policy Institute of California, November 2014. ↑