The Personal Income Tax Law provides various exclusions from gross income in determining tax liability, including an exclusion for combat-related special compensation and death benefit payments received by a surviving spouse or other beneficiary designated by a military veteran, as prescribed, who dies or is killed in the performance of duty, as provided.

This bill, for taxable years beginning on or after January 1, 2018, and before January 1, 2023, would exclude from gross income specified percentages of retirement pay received by a taxpayer with gross income that, excluding that retirement pay, does not exceed $50,000, from the federal government for military service performed in the Armed Forces of the United States, the reserve component of the Armed Forces of the United States, or the National Guard.

This bill would take effect immediately as a tax levy.

The Personal Income Tax Law provides various exclusions from gross income in determining tax liability, including an exclusion for combat-related special compensation and death benefit payments received by a surviving spouse or other beneficiary designated by a military veteran, as prescribed, who dies or is killed in the performance of duty, as provided.

This bill, for taxable years beginning on or after January 1, 2018, would exclude from gross income specified percentages of retirement pay received by a taxpayer from the federal government for military service performed in the Armed Forces of the United States, the reserve component of the Armed Forces of the United States, or the National Guard.

This bill would take effect immediately as a tax levy.

The Personal Income Tax Law provides various exclusions from gross income in determining tax liability, including an exclusion for combat-related special compensation and death benefit payments received by a surviving spouse or other beneficiary designated by a military veteran, as prescribed, who dies or is killed in the performance of duty, as provided.

This bill, for taxable years beginning on or after January 1, 2018, would exclude from gross income specified percentages of retirement pay received by a taxpayer from the federal government for military service performed in the Armed Forces of the United States, the reserve component of the Armed Forces of the United States, or the National Guard.

This bill would take effect immediately as a tax levy.

Date of Hearing: May 3, 2017

ASSEMBLY COMMITTEE ON APPROPRIATIONS

Lorena Gonzalez Fletcher, Chair

ABPCA Bill Id:AB 528

Author:(Gray) – As Amended Ver:April 3, 2017

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

SUMMARY:

The bill excludes from gross income, for taxable years beginning on or after January 1, 2018, and before January 1, 2023, retirement pay from the federal government for military service. The exclusion is limited to those military veterans whose gross income, excluding military retirement pay, is $50,000 or less.

FISCAL EFFECT:

Annual GF revenue loss of $2.2 million in 2017-18, $3.8 million in 2018-19, and $3.8 million in 2018-19.

COMMENTS:

1. Purpose. The author notes that California has the third largest population of military retirees in the country, with an estimated 165,000 retired military personnel. This bill is intended to create an exclusion from gross income for retirement pay received for the military service performed in the US Armed Forced, the reserve component of the US Armed Forces, or the National Guard.
2. Background. Under federal and state tax law, some income tax benefits are extended to military personnel or their families. Military death benefits paid to qualified survivors, military pay for service in combat zones, and the premium paid into a survivor annuity account are all excluded from the calculation of gross income.
3. Previous legislation. AB 528 is substantively similar to previous legislation that sought to expand income tax benefits to military veterans. Other bills include:
   1. AB 1791 (Lopez), of the 2015-16 Legislative Session, would have excluded from gross income military retirement pay received by a taxpayer and survivor benefits received by a beneficiary of a taxpayer for a period of three taxable years, but only if funds were appropriated for this purpose. AB 1791 was held in this committee’s Suspense File.
   2. AB 1275 (Gray), of the 2015-16 Legislative Session, would have excluded from gross income military retirement pay received by a taxpayer and survivor benefits received by a beneficiary of a taxpayer, if that taxpayer was a Purple Heart or Medal of Honor recipient. AB 1275 was held in this committee’s Suspense File.
   3. AB 505 (Melendez), of the 2015-16 Legislative Session, would have excluded from gross income CRDP for retirees that were active, reserve, or retired members of the military who served in active duty. AB 505 was held in this committee’s Suspense File.

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

Date of Hearing: March 27, 2017

ASSEMBLY COMMITTEE ON REVENUE AND TAXATION

Sebastian Ridley-Thomas, Chair

ABPCA Bill Id:AB 528 (

Author:Gray) – As Amended Ver:March 14, 2017

Majority vote. Tax levy. Fiscal committee.

SUBJECT: Personal income taxes: exclusion: military retirement pay

SUMMARY: Excludes from gross income portions of retirement pay received by a taxpayer from the federal government for military service performed in the Armed Forces of the United States (Armed Forces), the reserve component of the Armed Forces, or the National Guard. Specifically, this bill:

1. Excludes from gross income, for each taxable year beginning on or after January 1, 2018, "qualified retirement pay" received by a taxpayer from the federal government for military service performed in the Armed Forces, the reserve component of the Armed Forces, or the National Guard.
2. Defines "qualified retirement pay" as all of the following:
3. 100% of retirement pay received in the first 12-month period after the taxpayer leaves military service;
4. 80% of retirement pay received in the 12-month period immediately after the 12-month period during which 100% of retirement pay was excluded;
5. 60% of retirement pay received in the 12-month period immediately after the 12-month period during which 80% of retirement pay was excluded;
6. 40% of retirement pay received in the 12-month period immediately after the 12-month period during which 60% of retirement pay was excluded; and,
7. 20% of retirement pay received in the 12-month period immediately after the 12-month period during which 40% of retirement pay was excluded.
8. Provides that a taxpayer who leaves military service but subsequently performs military service would be allowed the gross income exclusion for qualified retirement pay, as specified, as long as subsequent military service is performed in the same service branch as the original military service.
9. Provides that performance of military service means a tour of duty lasting no less than six months.
10. Takes immediate effect as a tax levy.

EXISTING LAW:

1. Provides that gross income, under state and federal law, includes all income from whatever source derived, including compensation for services, business income, gains from property, interest, dividends, rents, and royalties, unless specifically excluded.
2. Excludes from gross income, under state and federal law, certain types of income for an individual's active service in the Armed Forces, such as military pay for time served in combat zones, disability compensation, and death benefits paid to qualified survivors. Military retirement pay, however, is generally taxable under state and federal law.
3. Defines "Armed Forces of the United States" to include all regular and reserve components of the uniformed services that are subject to the jurisdiction of the Secretary of Defense, the Secretary of the Army, the Secretary of the Navy, or the Secretary of the Air Force, and the Coast Guard. The members of such forces include commissioned officers and personnel below the grade of commissioned officers. (Revenue and Taxation Code (R&TC) Section 17022.)

FISCAL EFFECT: The FTB estimates General Fund revenue losses of $5.3 million in fiscal year (FY) 2017-18, $9.1 million in FY 2018-19, and $9.2 million in FY 2019-20.

COMMENTS:

1. The author has provided the following statement in support of this bill:

Despite having the nation's largest veteran population, California's policies are increasingly driving veterans out of the state. Our policies are especially burdensome for newly retired, post-9/11 veterans just transitioning to civilian life.

Retiring from the service creates an incredible amount of uncertainty for military families. Newly retired veterans are less likely to have civilian employment or permanent housing and are more likely to struggle with post-traumatic stress and the lack of military structure.

Unlike most other states, California provides no form of tax exemption for military retirement pay. The Service to Civilian Act would provide a limited tax exemption over the course of the first five years after a veteran retires from military service. The bill exempts 100 percent of military retirement pay from state income tax in the first year of retirement, 80 percent the second year, 60 percent the third year, 40 percent the fourth year, and 20 percent the fifth year.

The Service to Civilian Act will give our veterans a running start at a time they and their families need it most.

1. Supporters of this bill state that the "first five post-separation years can be challenging for recently retired members of the active duty US Uniformed Services…. The average officer is 47 years old and the enlisted member is 43 years old." Excluding a percentage of military retirement pay from state income tax for the first five years of retirement from the military "will incentive military retirees to retire in California and contribute to our economy, despite the higher cost of living in this state."
2. Committee Staff Comments:
3. 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 gross income exclusion for military retirement pay.
4. 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 does not include a sunset date. The Committee may wish to consider including a sunset date to allow for proper legislative review of the benefits and costs of this tax expenditure in the future.

1. Conformity Issues: California generally conforms to federal law regarding the definition of “gross income”. In general, state conformity with federal law promotes greater simplicity and eases administration of complex tax laws. Federal law does not generally allow gross income exclusions for military retirement pay so the exclusion proposed by this bill would bring California further out of conformity with federal law.
2. Overview of Military Retirement Pay: According to the Department of Defense (DOD), the military retirement system is a funded, noncontributory defined benefit plan that includes non-disability retired pay, disability retired pay, retired pay for reserve service, survivor annuity programs, and special compensation programs for certain disabled retirees. Non-disability retired pay may be approved at any age with credit of at least 20 years of active duty service, whereas reserve retirees generally must be at least 60 years old and have at least 20 qualified years of service before retired pay commences. The amount of compensation is generally dependent on time served and basic pay at retirement, with payments adjusted annually for inflation. Non-disability military retirement pay is generally taxable as income under federal and state law.

Federal law previously prohibited the concurrent receipt of military retired pay and disability compensation from the Department of Veterans Affairs (VA) for the same period of service. Instead, these retirees had to choose between receiving their full retirement pay from the DOD or receiving their disability benefit from the VA and foregoing an equal amount of their retirement. Because retirement pay is generally taxable and disability compensation is not, many retirees chose the latter option. In 2003, veterans with at least 20 years of military service and a VA disability rating of at least 50% became eligible to receive payments, known as Concurrent Retirement and Disability Pay (CRDP), to account for this forgone retirement pay. CRDP is also generally taxable as income under federal and state law.

1. Historical Treatment of Military Retirement Pay in California: The FTB's analysis of this bill notes that, for taxable years beginning December 22, 1972 through January 1, 1986, California law provided taxpayers an annual $1,000 income exclusion for compensation received during active duty in the Armed Forces or State Military Reserve. State law also provided taxpayers an exclusion of up to $500 per month for any compensation received during active duty in the National Guard in connection with an emergency. Additionally, an income exclusion applied to pensions or retirement pay received by an individual for his or her service in the Armed Forces, the State Military Reserve, or the National Guard. (See former R&TC Section 17146.)

For taxable years beginning on or after January 1, 1987 and before January 1, 1992, a member of the Armed Forces was allowed a credit, rather than an exclusion from gross income, in an amount equal to 4% of the eligible income received by an individual whose adjusted gross income was less than $27,000. Eligible income included salary, wages bonuses, allowances, pensions, retirement pay, and other compensation received by an individual for his or her services on extended active duty as a member of the Armed Forces, including the California National Guard, or the State Military Reserve. This law remained in effect until January 1, 1992 and was repealed by its own terms as of that date. (See former R&TC Section 17053.13.)

1. Purpose of This Bill: This bill would provide a gross income exclusion for military retirement pay, but specifies that the full retirement pay amount shall only be excluded from income in the first 12-month period after the taxpayer leaves military service. In the immediately subsequent 12-month period, the taxpayer would be allowed an 80% exclusion (making 20% of retirement pay includable in gross income). In subsequent 12-month periods, the taxpayer would then be allowed a 60% exclusion (making 40% of retirement pay includable in gross income), a 40% exclusion (making 60% of retirement pay includable in gross income), and a 20% exclusion (making 80% of retirement pay includable in gross income), respectively, until 100% of retirement pay becomes includable in gross income in the sixth year.

All taxpayers receiving retirement pay from the federal government for military service, not just those who served in combat zones, would be allowed this tax benefit in the first five years after they leave service. If a taxpayer subsequently returns to the same branch of military service for at least six months, the taxpayer would be allowed to exclude from gross income the retirement pay associated with that subsequent service according to the formula prescribed in this bill. As such, some taxpayers who return to military service may benefit from the proposed gross income exclusion for more than five years.

The author cites research demonstrating the difficulties post-9/11 service members face as they transition back to civilian life. For example, a 2015 survey of Orange County veterans conducted by the USC School of Social Work, Center for Innovation and Research on Veterans and Military Families, found that 74% of post-9/11 veterans did not have a job when they left the military, with many surprised to find the job search more difficult than they expected. The study further found that the salary of 76% of post-9/11 veterans working full-time was below California's median income level with more than one in three post-9/11 veterans earning an annual income below or near the national household poverty level guidelines for 2014 ($23,850). This bill would allow veterans of any income level receiving military retirement pay, not just lower income retirees, to benefit from the gross income exclusion, although this bill is structured to maximize tax benefits for retirees when they first leave military service with the benefit decreasing over time as they readjust to civilian life.

While cognizant of the personal and professional sacrifices made by members of the military, this bill would favor one group of taxpayers over another. The Committee may wish to consider whether it is establishing a precedent for excluding the retirement pay of other taxpayers the state may wish to recognize (e.g., police, firefighters).

1. Qualified Retirement Pay: The definition of “qualified retirement pay” in this bill specifies the amount of retirement pay to be excluded from gross income during certain timeframes, but does not specify what is considered to be "retirement pay." To the extent that it is the author's intent to only exclude military retirement pay from gross income, and not CRDP, the author may wish to consider an amendment to clarify this definition.
2. Prior Legislation:
3. AB 1791 (Lopez), of the 2015-16 Legislative Session, would have excluded from gross income military retirement pay received by a taxpayer and survivor benefits received by a beneficiary of a taxpayer for a period of three taxable years, but only if funds were appropriated for this purpose. AB 1791 was held on the Assembly Committee on Appropriations' Suspense File.
4. AB 1275 (Gray), of the 2015-16 Legislative Session, would have excluded from gross income military retirement pay received by a taxpayer and survivor benefits received by a beneficiary of a taxpayer, if that taxpayer was a Purple Heart or Medal of Honor recipient. AB 1275 was held on the Assembly Committee on Appropriations' Suspense File.
5. AB 505 (Melendez), of the 2015-16 Legislative Session, would have excluded from gross income CRDP for retirees that were active, reserve, or retired members of the military who served in active duty. AB 505 was held on the Assembly Committee on Appropriations' Suspense File.

REGISTERED SUPPORT / OPPOSITION:

Support

American G.I. Forum of California

AMVETS – Department of California

Association for Los Angeles Deputy Sheriffs

Association of Deputy District Attorneys

California Association of County Veterans Service Officers

California Council of the Military Officers Association of America

California Council of the Military Officers Association of America, Conejo-Simi Valley Chapter

California State Commanders Veterans Council

Los Angeles County Professional Peace Officers Association

Los Angeles Deputy Probation Officers Union, AFSCME, Local 685

Los Angeles Police Protective League

Military Officers Association of America, California Council of Chapters

Riverside Sheriffs' Association

Vietnam Veterans of America – California State Council

Opposition

None on file

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