Date of Hearing: March 16, 2020

ASSEMBLY COMMITTEE ON REVENUE AND TAXATION

Autumn R. Burke, Chairwoman

ABPCA Bill Id:AB 2226 (

Author:Voepel) – As Introduced Ver:February 12, 2020

FOR TESTIMONY ONLY

Majority vote. Tax levy. Fiscal committee.

SUBJECT: Personal income taxes: exclusion: uniformed services: retirement pay

SUMMARY: Excludes from the Personal Income Tax (PIT) Law a tiered percentage of military retirement pay starting at 50% and growing to 100%. Specifically, this bill:

1. Excludes from gross income, retirement pay a taxpayer receives from the federal government for service in the uniformed services.
2. Defines the "uniformed services" as:
   1. The Armed Forces of the United States;
   2. The Army National Guard and the Air National Guard when engaged in active duty for training, inactive duty training, or full-time National Guard duty; and,
   3. The commissioned corps of the United States Public Health Service.
3. Defines the "Armed Forces of the United States" by reference to Revenue and Taxation Code (R&TC) Section 17022.
4. Applies for each taxable year beginning on and after January 1, 2021, and before January 1, 2031, in an amount equal to the following percentage of the taxpayer's retirement pay from the federal government during the taxable year:
   1. 50% for the first taxable year in which this bill allows a gross income exclusion to the taxpayer;
   2. 50% for the first taxable year following the taxable year in which the exclusion is first allowed to the taxpayer;
   3. 75% for the second taxable year following the taxable year in which the exclusion is first allowed to the taxpayer;
   4. 75% for the third taxable year following the taxable year in which the exclusion is first allowed to the taxpayer; and,
   5. 100% for the fourth taxable year following the taxable year in which the exclusion is first allowed to the taxpayer and every other taxable year thereafter.
5. Takes immediate effect as a tax levy.
6. Sunsets the gross income exclusion provisions on December 1, 2031.
7. Contains the following findings and declarations for purposes of complying with R&TC Section 41 with respect to the exclusion allowed by R&TC Section 17132.9:
   1. The specific goals, purposes, and objectives of the tax exclusion are as follows:
      1. To honor the service of California veterans and provide fiscal relief so they will remain or retire in California; and,
      2. To increase the number of highly skilled retired veterans in California’s workforce.
   2. Detailed performance indicators for the Legislature to use in determining whether the exclusion meets the described goals, purposes, and objectives are as follows:
      1. The number of veterans taking advantage of the tax exclusion;
      2. The economic security of veterans in California; and,
      3. The number of retired veterans leaving California.
   3. The data collection requirements for the exclusion are as follows:
      1. On or before December 1, 2030, the Legislative Analyst's Office (LAO), in collaboration with the Department of Veterans Affairs, shall write and submit a report to the Legislature on the effectiveness of this bill's exclusion. The report shall include, but not be limited to, an analysis of the number of veterans taking advantage of the exclusion and the impact of the exclusion on the economic security of veterans in California and the number of retired veterans leaving California. The report shall be submitted in compliance with Government Code Section 9795;
      2. Allows the LAO to request information from the Franchise Tax Board (FTB) and the Department of Veterans Affairs to write the report; and,
      3. Requires the FTB and the Department of Veterans Affairs to provide any data requested by the LAO, notwithstanding R&TC Section 19542.

EXISTING LAW:

1. Provides that "gross income" includes all income from whatever source derived unless specifically excluded. (Internal Revenue Code (IRC) Section 61 and R&TC Section 17071.)
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 these forces include commissioned officers and personnel below the grade of commissioned officers. (R&TC Section 17022.)

FISCAL EFFECT: The FTB estimates annual General Fund revenue losses of $25 million in fiscal year (FY) 2020-21, $46 million in FY 2021-22, and $60 million in FY 2022-23.

COMMENTS:

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

Veterans have sacrificed their lives for our freedom. AB 2226 is a bill that wants to alleviate yet another financial burden on veterans who may already be struggling to live in our expensive state.

1. The California Tax Reform Association is in opposition to this bill on the basis that it is a costly tax bill.
2. The FTB notes the policy concern that this bill would establish an exclusion from gross income for which federal law has no counterpart, thus increasing nonconformity. Additionally, the FTB has identified the following implementation and technical considerations as suggested amendments to this bill:
   1. "Add a section to Article 2 (commencing with Section 19542) of Chapter 7 of Part 10.2 of Division 2 of the R&TC authorizing FTB to share required information."
   2. "Specify the data that FTB must provide to the LAO, as well as the timing for the delivery of that data."
   3. "On page 3, line 22, delete the word "tax".
3. Committee Staff Comments:
   1. What does this bill do? This bill allows an exclusion from gross income for one type of military retiree compensation – retirement pay received by a taxpayer for uniformed services performed in the U.S. Armed Forces, the National Guard, certain Army National Guard and Air National Guard service, and the commissioned corps of the United States Public Health Service. The gross income excluded from state income tax starts at 50% for each retiree for the first and second year, at 75% for the third and fourth year, and at 100% for the fifth year and each year thereafter.
   2. California military retiree population declining: The San Diego Military Advisory Council commissioned a study and issued its May 2018 Report "Ending Taxation of Military Retiree Pay in California, An Analysis of the Costs and Benefits". This Report found that "between 2000 and 2016, the nation's population of military retirees increased by 17%. California, which was one of only five states that saw a reduction of its military retirees, saw a decline of 17%."
   3. Attracting California military retirees: The Military Council June 2015 "Report and Recommendations" to Governor Brown, among other recommendations, suggests state action to pursue appropriate ways to encourage veterans to stay in California. Specifically, the Report's Recommendation #14 on page 70 states:

Improve California's attractiveness to discharging service members and veterans.

California is home to 1.8 million military veterans, representing 8% of the total population of American veterans. Each year, thousands of service men and women discharging from activity duty military service choose to stay in California. In fact, due to the large military presence in the state, it is expected to receive an additional 30,000 discharged service members each year for the next several years, more than any other state.

At the same time, many veterans and discharging service members choose to move to other states. While some portion of these individuals are simply returning to their home state, others leave California based on concerns about our state's cost of living or because they are attracted to incentives provided by other states for veterans. State leaders should explore appropriate ways to incentivize veterans to stay in California.

• 1. Who gets a military pension? Nationally, about 2.1 million military retirees receive military pensions. Service members can retire from active duty at any age with at least 20 years of service. Persons who meet retirement requirements partially or entirely through reserve or National Guard service receive retirement pay after age 59. Persons with 20 years of active-duty service account for 80% of retirees, while the remaining 20% are age-based qualified.
  2. California previously offered military-specific income exclusions and later a targeted tax credit: 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 January 1, 1987 through 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 its January 1, 1992 sunset. (See former R&TC Section 17053.13.)

• 1. Restoring a military-related income exclusion limited to retirees: This bill would restore an income tax exclusion for military personnel, but limited in scope to military retirees. Providing this benefit to military retirees is a way to honor their service and incentivize them to stay in or move to California. Arguments against providing a military-retiree benefit center on the point that many retirees would choose California as their home regardless of any incentive and that the benefit extends to all military retirees without regard to financial need. Another opposing argument is that this bill favors one group of taxpayer-retirees over another. For example, other occupations may also deserve commendation, such as first responders, police, firefighters, or teachers. The Committee may wish to weigh whether re-establishing a military retiree income exclusion is appropriate, and if so, at what level.
  2. The federal government does not exclude military retirement pay from federal income tax: California typically conforms to federal law for gross income exclusions for ease of administration. This bill would create a state gross income exclusion for which federal law has no counterpart, thus increasing nonconformity.
  3. But many states do offer a benefit: States compete for military retirees and offer military-specific, income tax-related incentives. Specifically:
     1. Nine states,^[1] including California, fully tax military retirement pay;
     2. Twelve states^[2] and Washington, D.C. offer either a partial exclusion or some other preferential treatment. (Exclusions are generally a flat amount, from $2,000 up to $24,000. Also, some states offer a flat amount that increases after the retiree reaches a specific age, which ranges from 60 to 67.);
     3. Twenty states^[3] do not tax military retirement pay; and,
     4. Nine states have no state income tax.^[4]
  4. Three state economic analysis studies: Three states have funded economic analyses of the fiscal implications of military retirement pay state income tax exemptions: a 2017 study from Utah,^[5] a 2016 study from South Carolina,^[6] and a 2009 study from New Mexico.^[7] Most studies conclude that while taxes do influence the decision on where to retire, taxes are not the only determinant. Many elements factor into an attractive location for military retirees, such as a significant number of military installations, access to medical care, job availability, environmental and recreational amenities, a pleasant climate, a compatible lifestyle, and family nearby.
  5. 10-year sunset: This bill's proposed gross income exclusion includes an automatic sunset date. This Committee has a longstanding policy favoring the inclusion of sunset dates to allow the Legislature to review tax expenditure programs. In the case of military-related provisions, this Committee recommends a 10-year sunset provision, such as this bill provides.
  6. Committee’s tax expenditure policy: 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 credits introduced on or after January 1, 2015. This Committee recently adopted a new policy, requiring that all new tax expenditure^[8] proposals comply with the requirements of R&TC Section 41. A tax expenditure proposal must outline specific goals, purposes, and objectives that the tax expenditure will achieve, along with detailed performance indicators for the Legislature to use when measuring whether the tax expenditure meets those stated goals, purposes, and objectives. This Committee's policy requires that all tax expenditure proposals contain these elements to be eligible for a vote. This bill complies with R&TC Section 41 requirements.
  7. Related legislation:  
     1. AB 151 (Voepel) is substantially identical to this bill following a gut and amend of its prior education-related provisions on January 6, 2020. AB 151 was returned by the Committee on Higher Education to the Chief Clerk's office.
     2. AB 427 (Brough) is substantially identical to this bill. AB 427 was held on the Assembly Committee on Appropriations' Suspense File.
     3. AB 1258 (Salas) would have excluded from gross income: (1) active duty servicemember pay while on active duty in this state, and (2) military retirement income for an applicable time period keyed to length of active duty service, as specified, after being honorably discharged. AB 1258 was heard by this Committee for testimony only on April 8, 2019.
     4. AB 2380 (Choi) would exclude from gross income all federal Survivor Benefit Plan amounts paid to the designated survivor after the military retiree dies. AB 2380 is pending hearing by this Committee.
     5. SB 1007 (Hueso) would exclude military retirement pay from gross income and has been referred to the Senate Governance and Finance Committee.
     6. SB 1071 (Wilk) is substantially identical to this bill and has been referred to the Senate Governance and Finance Committee.
  8. Prior legislation:
     1. AB 528 (Gray), of the 2017-18 Legislative Session, would have excluded from gross income a percentage of qualified 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 if AGI, excluding military retiree pay, did not exceed $50,000. AB 528 was held on the Assembly Committee on Appropriations' Suspense File.
     2. AB 2394 (Brough), of the 2017-18 Legislative Session, would have fully excluded military retirement pay from gross income. AB 2384 was held on the Assembly Committee on Appropriations' Suspense File.

REGISTERED SUPPORT / OPPOSITION:

Support

None on file

Opposition

California Tax Reform Association

Analysis Prepared by: Rose Marie Kinnee / REV. & TAX. / (916) 319-2098

1. California, Georgia, Montana, New Mexico, North Dakota, Rhode Island, Utah, Vermont, and Virginia. ↑

2. Generally: Arizona (up to $2,500); Colorado (age variable up to $24,000); Delaware (up to $2,000, 60 or older up to $12,500); Idaho (variable benefit); Indiana (up to $5,000 with conditions); Kentucky (variable benefit based pre/post1997-retirement); Maryland (up to $5,000; 65 or older variable); Nebraska (Options: 7-year 40% exemption or a 15% lifetime exemption starting at age 67); North Carolina (variable, up to $4,000/single return and $8,000/joint return); Oklahoma (up to 75% or $10,000, whichever is greater, but cannot exceed federal AGI); Oregon (variable: "federal pension subtraction" but "special-case" Oregon residents taxable); South Carolina (with 20 years-service up to $3,000, 65 or older up to $10,000); and Washington, D.C. (up to $3,000 62 or older). ↑

3. Alabama, Arkansas, Connecticut, Hawaii, Illinois, Iowa, Kansas, Louisiana, Maine, Massachusetts, Michigan, Minnesota, Mississippi, Missouri, New Jersey, New York, Ohio, Pennsylvania, West Virginia, and Wisconsin. ↑

4. Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming. ↑

5. Pace, L., Analysis of Military Retirees in Utah: Impacts, Demographics and Tax Policy, January 2017, Kem C. Gardner Policy Institute, The University of Utah. ↑

6. Von Nessen, J., Analysis of the Economic Impact of the Exemption of Military Pension Income from South Carolina Income Tax, 2015, Moore School of Business, University of South Carolina. ↑

7. Popp and Starbuck, The Economic Impact of Exempting Retired Military Service Payments from New Mexico Personal Income Tax, January 25, 2009, Arrowhead Center, Office of Policy Analysis New Mexico State University. ↑

8. A "tax expenditure measure", is defined as legislation meeting either of the following criteria: (1) the measure proposes to extend, expand, or enact a credit, deduction, exclusion, exemption, or other tax preference (i.e., a tax expenditure program); or, (2) the measure proposes to eliminate or reduce one or more tax rates. ↑