The Sales and Use Tax Law, and other laws by reference to that law, provide that interest is paid by taxpayers and feepayers with respect to underpayments of various taxes, surcharges, and fees at a modified adjusted rate per annum, as defined by reference to a specified federal statute, and that interest is paid to taxpayers and feepayers with respect to overpayments of various taxes, surcharges, and fees as determined in accordance with a specified federal statute, which requires that the rate paid on overpayments be based on the rate of 13-week treasury bills, as specified.

This bill would revise the definition of modified adjusted rate per annum, which would thereby require that interest on overpayments be determined in the same manner as interest on underpayments is now determined.

Date of Hearing: May 6, 2015

ASSEMBLY COMMITTEE ON APPROPRIATIONS

Jimmy Gomez, Chair

ABPCA Bill Id:AB 405

Author:(Brough) – As Introduced Ver:February 19, 2015

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

SUMMARY:

This bill applies the same interest rate to overpayment refunds as is currently applied to late tax payments with respect to Board of Equalization (BOE) administered tax and fee programs, and specifies that both shall be determined by adding 3% to the rate specified as the underpayment rate in the federal Internal Revenue Code (IRS). As applied to the current IRS rate, both the overpayment and underpayment interest rates would be 6%.

FISCAL EFFECT:

1) Minor and absorbable administrative costs to BOE.

2) Assuming an overpayment interest rate of 6%, estimated GF revenue decreases from the increased interest payable on overpayments of $3.5 million, $13.0 million, $29.6 million, and $30.1 million for FY 2015-16, FY 2016-17, FY 2017-18, and FY 2018-19, respectively. The interest rate change affects interest accrued only after the bill's effective date, and as a result, the full effect of the increased overpayment interest rate will only be realized after 4 years.

COMMENTS:

1) Purpose. According to the author, the Legislature significantly reduced the interest rates on overpayments in 1991 to avoid substantial interest payments on refunds owed following an unfavorable court decision (Aerospace v. BOE). The author contends it is unfair and inequitable to impose a different interest rate on taxpayers who underpay than is charged to state government on tax overpayments. The Howard Jarvis Taxpayers Association posits taxpayers are often required to pay any disputed tax before entering litigation, and in the event they win their case, those taxpayers should receive a fair interest rate on their overpayment.

2) Corporate Overpayment Interest. From 1937 to 1991, the interest charged on underpayments and the interest paid on overpayments by the BOE were the same. In 1991, however, the Legislature lowered the interest rate on overpayments.

The IRS and the Franchise Tax Board (FTB) each use the same interest rates for non-corporate overpayments and underpayments, while both agencies pay less interest on corporate overpayments – 1% for the IRS and 3% for FTB – than they charge for underpayments.

3) Heads I Win, Tails You Lose? The state has long since paid the judgment in the Aerospace case, and proponents assert the disparity lacks continued justification, and remains an issue of fundamental fairness. Previous attempts to resolve the interest disparity, however, have all failed to pass the Legislature or been vetoed by the Governor. Governor Wilson argued in a notable veto message that imposing a lower rate for refunds minimizes the impact on the state in the event of large refund liabilities, while imposing a higher rate on amounts owed incentivizes taxpayers to remit the correct amounts in a timely manner.

Opponents, led by the California Tax Reform Association, argue this bill removes the incentive for taxpayers to take due care when paying and calculating tax. Providing 6% interest for such payments could incentivize overpayments at the expense of the state, and introduces additional volatility to state finances. Given the differences in core purpose and motives between government and private enterprise, the Committee may wish to consider whether it is appropriate to seek alignment of incentives in this instance, or whether state behavior would change as a result of additional interest payable on tax overpayments.

4) Tax Interest Verses Penalty. In general, tax penalties are imposed for the late payment of tax, and are intended to incentivize compliance. Interest, on the other hand, is charged for the use of funds, as a late taxpayer enjoys the use of funds it owes to the state during the period the tax payment is late. In the same manner, the state enjoys the use of taxpayer funds during the period prior to refund of the overpayment. Assigning two different rates of interest on the use of funds arguably confuses tax interest with penalties and generates windfall revenues for the state without disincentivising unwanted taxpayer behavior.

5) Prior Legislation. Since the interest rate was changed in 1991, there have been 17 previous attempts to repeal the change, including bills in SB 421 (Correa) in 2011, AB 2048 (Donnelly) in 2012, AB 1049 (Harkey) in 2013, and AB 2429 (Patterson) in 2014. This bill represents the 18th such attempt. While two of the previous attempts made it to Governor Wilson and were vetoed, the majority were held in the Revenue & Taxation or Appropriations Committees of the Assembly and Senate.

Analysis Prepared by: Joel Tashjian / APPR. / (916) 319-2081

Date of Hearing: April 27, 2015

ASSEMBLY COMMITTEE ON REVENUE AND TAXATION

Philip Ting, Chair

ABPCA Bill Id:AB 405

Author:(Brough) – As Introduced Ver:February 19, 2015

SUSPENSE

Majority vote. Fiscal committee.

SUBJECT: State Board of Equalization: administration: interest

SUMMARY: Applies the same interest rate to both late tax payments and overpayment refunds, for purposes of the tax and fee programs administered by the State Board of Equalization (BOE). Specifically, this bill:

1. Amends Revenue and Taxation Code Section 6591.5 to revise the definition of “modified adjusted rate per annum”.
   
   

2. Provides that the rate shall be determined by adding three percentage points to the rate specified in Internal Revenue Code (IRC) Section 6621(a)(2), which establishes the IRC underpayment rate.
   
   

3. Results in determining the interest on overpayments in the same manner as interest on underpayments.

EXISTING LAW:

1. Requires those who are late in paying their BOE-administered taxes, fees, or surcharges to pay a penalty equal to 10% of the tax, plus interest on the unpaid tax, from the date the tax became due. The underpayment interest rate is established by adding three percentage points to the rate specified in IRC Section 6621, and is adjusted semiannually. The underpayment rate is currently 6%.

2. Grants credit to taxpayers who have overpaid their BOE-administered taxes. The credit is first applied to offset any additional taxes owed. Then any remaining credit will accrue interest until remitted back to the taxpayer. The overpayment interest rate is based on 13-week treasury bills auctioned, adjusted semi-annually, and rounded to the nearest full percent. Since July 2009, that rate has been 0%.

3. Additionally, the BOE is required to pay interest on tax overpayments only if the overpayment was unintentional or not due to carelessness.

FISCAL EFFECT: Assuming the overpayment interest is 6%, the BOE estimates state and local revenue losses of $3.5 million in fiscal year (FY) 2015-16, $13 million in FY 2016-17, $29.5 million in 2017-18, and $30.1 million in 2018-19.

COMMENTS:

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

AB 405 revises the interest calculation for tax and fee programs administered by the Board of Equalization so that the same rate of interest is applied to both underpayments and overpayments of tax.  In 1991, the Legislature significantly reduced the interest rates on overpayments to avoid substantial interest payments on refunds owed as a result of an unfavorable court decision.  We should not hold the government to a different standard than taxpayers.  Allowing the Board of Equalization to pay taxpayers interest on their overpayments at the same rate as the interest rate these taxpayers are charged when they are late in paying their taxes is not only a taxpayer friendly concept, but it is a matter of principle and fairness.  This bill attempts to fix a gross inequity in the law under which taxpayers have been treated unfairly for over two decades.

2. Arguments in Support. The California Chamber of Commerce states “[m]andating the payment of interest on taxpayers for underpayments to the state, without imposing the same burden on the state is simply unfair.” The Howard Jarvis Taxpayers Association notes that “[t]axpayers are often required to pay what they owe before entering litigation. In the event they win their case, they should receive a fair interest rate for the time the government has been holding their money. . . [t]axpayers willing to expend their time, energy, and resources to contest their taxes deserve nothing less than just treatment by tax agencies.”
   
   

3. Arguments in Opposition: The California Tax Reform Association states that this bill “addresses a problem that does not exist and would remove from current law an incentive for taxpayers to take due care when paying and calculating their tax. . . . Providing interest for such overpayments, as this measure suggests, could incentivize overpayments at the expense of the state.” The California Professional Firefighters notes that, “interest paid by the state on carelessly or intentionally made overpayments is needed revenue that could otherwise be earmarked for critical firefighting and other vital public safety services. . . . ”
   
   

4. Background. From 1937 to 1991, the BOE’s interest rate for overpayment and late payment were the same. However, in 1991, the Legislature reduced the interest rate on overpayments as a result of an unfavorable court decision in Aerospace Co. v. State Board of Equalization (1990) 218 Cal.App.3d 1300 [requiring the state to refund significant amounts with interest]. The State has since repaid the balance and proponents argue the disparity is outdated and lacks continued justification. There have been 15 previous attempts to enact legislation to address the issue and only one bill reached the Governor’s desk; that bill was subsequently vetoed by Governor Wilson. Governor Wilson noted the following in his veto message:

Imposing a lower rate for refunds minimizes the impact on the state in the event of large taxpayer refund liability. Imposing a higher rate on amounts owed by taxpayers serves as an incentive for taxpayers to remit those amounts in a timely manner as well as to comply with the law. I do not wish to change these incentives.

5. The Overpayment Interest Rate: Internal Revenue Services (IRS) and Franchise Tax Board (FTB). The IRS and the FTB have the same interest rates for non-corporate overpayments and underpayments. The IRS has only a 1% disparity for corporate overpayments (the disparity is higher if the corporate underpayment is over $100,000 or the corporate overpayment [exceeds $10,000]). The FTB has a 3% disparity for corporate overpayments. The Committee may want to consider adjusting BOE’s overpayment interest rate to bring it in-line with the rates used by the IRS and the FTB.

6. Interest v. Penalty. BOE staff, in its analysis of this bill, notes that the law “imposes penalties for late payments of tax. Interest, however, is a charge for the use of funds. In the same manner the state charges interest when a taxpayer makes a late payment, the state too should pay interest when taxpayers overpay." Charging interest is what allows banks and other institutions to continue lending and provide the necessary funding to drive the economy. Penalties are consequences intended to prevent a certain pattern of behavior.

Requiring the State to pay an equitable interest rate for overpayments, while minimizing the impact on the state’s General Fund, and maintaining the efficacy of a penalty are not incompatible goals. If the concern is to minimize the impact on the State in the event of large taxpayer refund liability, the State could temporarily lower interest rates as it did in the past when Aerospace Co. v. State was decided. Additionally, adjusting the overpayment interest rate to conform to the underpayment rate would not reduce the incentive created by the penalty because both rates address fundamentally different purposes. As noted above, interest incentivizes the use of money, penalties incentivizes the cessation of a pattern of behavior. In other words, increasing the interest rate on overpayments would not disincentivize taxpayers to pay on time. Moreover, existing law prevents taxpayers from gaming the system by intentionally overpaying and acquiring a greater return from the government than from the marketplace.

7. Prior legislation:

1. AB 2429 (Patterson), of the 2013-2014 Legislative Session, contained provisions identical to this bill. AB 2429 was held in this Committee.

2. AB 1049 (Harkey), of the 2013-13 Legislative Session, contained provisions identical to this bill. AB 1049 was held in this Committee.

3. AB 2048 (Donnelly), of the 2011-12 Legislative Session, contained provisions nearly identical to this bill. AB 2048 was held in the Assembly Appropriations Committee.

4. SB 421 (Correa), of the 2011-12 Legislative Session, would have reduced the interest rate on underpayments by 3%. SB 421 was held in the Senate Appropriations Committee.

5. AB 1926 (Horton), of the 2007-08 Legislative Session, would have equalized the underpayment and overpayment interest rates. AB 1926 was held in this Committee.

REGISTERED SUPPORT / OPPOSITION:

Support

California Chamber of Commerce

California Taxpayers Association

Howard Jarvis Taxpayers Association

Member, First District, State Board of Equalization

Member, Second District, State Board of Equalization

Member, Fourth District, State Board of Equalization

State Board of Equalization

Opposition

American Federation of State, County and Municipal Employees

California Profession Firefighters

California Tax Reform Association

Analysis Prepared by: Paul Kim / REV. & TAX. / (916) 319-2098

Date of Hearing: April 13, 2015

ASSEMBLY COMMITTEE ON REVENUE AND TAXATION

Philip Ting, Chair

ABPCA Bill Id:AB 405

Author:(Brough) – As Introduced Ver:February 19, 2015

Majority vote. Fiscal committee.

SUBJECT: State Board of Equalization: administration: interest

SUMMARY: Applies the same interest rate to both late tax payments and overpayment refunds, for purposes of the tax and fee programs administered by the State Board of Equalization (BOE). Specifically, this bill:

1. Amends Revenue and Taxation Code Section 6591.5 to revise the definition of “modified adjusted rate per annum”.
   
   

2. Provides that the rate shall be determined by adding three percentage points to the rate specified in Internal Revenue Code (IRC) Section 6621(a)(2), which establishes the IRC underpayment rate.
   
   

3. Results in determining the interest on overpayments in the same manner as interest on underpayments.

EXISTING LAW:

1. Requires those who are late in paying their BOE-administered taxes, fees, or surcharges to pay a penalty equal to 10% of the tax, plus interest on the unpaid tax, from the date the tax became due. The underpayment interest rate is established by adding three percentage points to the rate specified in IRC Section 6621, and is adjusted semiannually. The underpayment rate is currently 6%.

2. Grants credit to taxpayers who have overpaid their BOE-administered taxes. The credit is first applied to offset any additional taxes owed. Then any remaining credit will accrue interest until remitted back to the taxpayer. The overpayment interest rate is based on 13-week treasury bills auctioned, adjusted semi-annually, and rounded to the nearest full percent. Since July 2009, that rate has been 0%.

3. Additionally, the BOE is required to pay interest on tax overpayments only if the overpayment was unintentional or not due to carelessness.

FISCAL EFFECT: Assuming the overpayment interest is 6%, the BOE estimates state and local revenue losses of $3.5 million in fiscal year (FY) 2015-16, $13 million in FY 2016-17, $29.5 million in 2017-18, and $30.1 million in 2018-19.

COMMENTS:

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

AB 405 revises the interest calculation for tax and fee programs administered by the Board of Equalization so that the same rate of interest is applied to both underpayments and overpayments of tax.  In 1991, the Legislature significantly reduced the interest rates on overpayments to avoid substantial interest payments on refunds owed as a result of an unfavorable court decision.  We should not hold the government to a different standard than taxpayers.  Allowing the Board of Equalization to pay taxpayers interest on their overpayments at the same rate as the interest rate these taxpayers are charged when they are late in paying their taxes is not only a taxpayer friendly concept, but it is a matter of principle and fairness.  This bill attempts to fix a gross inequity in the law under which taxpayers have been treated unfairly for over two decades.

2. Arguments in Support. The California Chamber of Commerce states “[m]andating the payment of interest on taxpayers for underpayments to the state, without imposing the same burden on the state is simply unfair.” The Howard Jarvis Taxpayers Association notes that “[t]axpayers are often required to pay what they owe before entering litigation. In the event they win their case, they should receive a fair interest rate for the time the government has been holding their money. . . [t]axpayers willing to expend their time, energy, and resources to contest their taxes deserve nothing less than just treatment by tax agencies.”
   
   

3. Arguments in Opposition: The California Tax Reform Association states that this bill “addresses a problem that does not exist and would remove from current law an incentive for taxpayers to take due care when paying and calculating their tax. . . . Providing interest for such overpayments, as this measure suggests, could incentivize overpayments at the expense of the state.” The California Professional Firefighters notes that, “interest paid by the state on carelessly or intentionally made overpayments is needed revenue that could otherwise be earmarked for critical firefighting and other vital public safety services. . . . ”
   
   

4. Background. From 1937 to 1991, the BOE’s interest rate for overpayment and late payment were the same. However, in 1991, the Legislature reduced the interest rate on overpayments as a result of an unfavorable court decision in Aerospace Co. v. State Board of Equalization (1990) 218 Cal.App.3d 1300 [requiring the state to refund significant amounts with interest]. The State has since repaid the balance and proponents argue the disparity is outdated and lacks continued justification. There have been 15 previous attempts to enact legislation to address the issue and only one bill reached the Governor’s desk; that bill was subsequently vetoed by Governor Wilson. Governor Wilson noted the following in his veto message:

Imposing a lower rate for refunds minimizes the impact on the state in the event of large taxpayer refund liability. Imposing a higher rate on amounts owed by taxpayers serves as an incentive for taxpayers to remit those amounts in a timely manner as well as to comply with the law. I do not wish to change these incentives.

5. The Overpayment Interest Rate: Internal Revenue Services (IRS) and Franchise Tax Board (FTB). The IRS and the FTB have the same interest rates for non-corporate overpayments and underpayments. The IRS has only a 1% disparity for corporate overpayments (the disparity is higher if the corporate underpayment is over $100,000 or the corporate overpayment [exceeds $10,000]). The FTB has a 3% disparity for corporate overpayments. The Committee may want to consider adjusting BOE’s overpayment interest rate to bring it in-line with the rates used by the IRS and the FTB.

6. Interest v. Penalty. BOE staff, in its analysis of this bill, notes that the law “imposes penalties for late payments of tax. Interest, however, is a charge for the use of funds. In the same manner the state charges interest when a taxpayer makes a late payment, the state too should pay interest when taxpayers overpay." Charging interest is what allows banks and other institutions to continue lending and provide the necessary funding to drive the economy. Penalties are consequences intended to prevent a certain pattern of behavior.

Requiring the State to pay an equitable interest rate for overpayments, while minimizing the impact on the state’s General Fund, and maintaining the efficacy of a penalty are not incompatible goals. If the concern is to minimize the impact on the State in the event of large taxpayer refund liability, the State could temporarily lower interest rates as it did in the past when Aerospace Co. v. State was decided. Additionally, adjusting the overpayment interest rate to conform to the underpayment rate would not reduce the incentive created by the penalty because both rates address fundamentally different purposes. As noted above, interest incentivizes the use of money, penalties incentivizes the cessation of a pattern of behavior. In other words, increasing the interest rate on overpayments would not disincentivize taxpayers to pay on time. Moreover, existing law prevents taxpayers from gaming the system by intentionally overpaying and acquiring a greater return from the government than from the marketplace.

7. Prior legislation:

1. AB 2429 (Patterson), of the 2013-2014 Legislative Session, contained provisions identical to this bill. AB 2429 was held in this Committee.

2. AB 1049 (Harkey), of the 2013-13 Legislative Session, contained provisions identical to this bill. AB 1049 was held in this Committee.

3. AB 2048 (Donnelly), of the 2011-12 Legislative Session, contained provisions nearly identical to this bill. AB 2048 was held in the Assembly Appropriations Committee.

4. SB 421 (Correa), of the 2011-12 Legislative Session, would have reduced the interest rate on underpayments by 3%. SB 421 was held in the Senate Appropriations Committee.

5. AB 1926 (Horton), of the 2007-08 Legislative Session, would have equalized the underpayment and overpayment interest rates. AB 1926 was held in this Committee.

REGISTERED SUPPORT / OPPOSITION:

Support

California Chamber of Commerce

California Taxpayers Association

Howard Jarvis Taxpayers Association

Member, First District, State Board of Equalization

Member, Second District, State Board of Equalization

State Board of Equalization

Opposition

American Federation of State, County and Municipal Employees

California Profession Firefighters

California Tax Reform Association

Analysis Prepared by: Paul Kim / REV. & TAX. / (916) 319-2098