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You Asked For Essays on the Props - Here's An Analysis of Prop 39: Ending Corporate Tax Choices

by Sheila Kuehl
November 3, 2012

This is the tenth in a series of essays analyzing the Propositions appearing on California's November ballot.  This essay analyzes Prop 39, which would end the ability of multi-state corporations to choose the more favorable way of figuring their California corporate tax liabilities and require all multi-state businesses to calculate their California income tax liability based on the percentage of their sales in California, period.

The first essay in this series explained Proposition 30.  The second presented the competing tax measure, Prop 38, and indicated possible outcomes, should both Prop 30 and 38 pass.  The third analyzed the many proposals contained in Prop 31.  The fourth discussed the anti-union agenda of Prop 32.  The fifth presented Prop 33, the Mercury Insurance initiative allowing companies to penalize auto policy holders who have not had continuous auto insurance coverage.  The sixth discussed Prop 34 and the abolition of the death penalty.  The seventh explored the provisions of Prop 35, which would amend California's sex- and labor-trafficking laws.  The eighth analyzed Prop 36, which would modify California's Three Strikes law.  The ninth discussed Prop 37, which requires labeling of genetically engineered food.  The next, and last, essay will discuss Prop 40.

How Multi-State Corporations Currently Figure Their California Taxes

Although the TV ads for Prop 39 (there have been none against) maintain that "Sacramento politicians" created a big tax giveaway to corporations, the big tax giveaway (which is real) was actually insisted on by Gov. Schwartzenegger in exchange for his signature on the 2009-2010 budget.  


Generally, the amount of money a business owes in corporate income taxes is based on the business' taxable income.  For a multi-state business, the state taxes only that portion of their income somehow associated with California.  In 2010-11, the corporate income tax generated about 9.6 billion dollars in state revenue.


Because of the deal, state law currently allows multi-state businesses to pick one of two methods to calculate their lowest taxable California income:


1.  The "three factor" approach takes into account the amount of the company's sales in California, how much property they own here and how many people they employ in California. Under this method, the more sales, property or employees a business has in California, the more they pay.  This has come to look like an open invitation to move property and employees out of state and, indeed, benefits those corporations without jobs and property here.


2.  The other method, called the "single sales factor method" uses only the location of the company's sales.  The more sales a multi-state corporation has in California, the more of their income is rendered taxable by the state, but they are not "punished" for having jobs and property in-state.

Prop 39 Would Restore the Single Sales Factor as the Only Method


Prop 39 amends the Revenue and Taxation Code to state that, beginning in 2013, multi-state corporations would no longer be allowed to choose the method most favorable to them, but, rather, must calculate their state corporate income tax based on their sales in California.  Businesses that operate only in California would be unaffected.  Prop 39 also includes specific rules regarding how multi-state businesses, i.e. large cable companies, calculate their total sales in California for state tax purposes. 


Prop 39 Directs the Expenditure of the Potential Extra State Revenue


Most likely responding to an analysis that voters like to know where their money is going, Prop 39 directs the new revenue generated by limiting corporate tax calculation to the single sales factor method in two ways:


1.  Schools: In 2012-13 (the current budget), the Legislative Analyst predicts an increase of 500 million dollars in state revenue from this change in tax calculation method. Because California's schools receive at least 40% of state revenue under the old Prop 98 formula, schools would receive at least 200 million in the current budget year, but could, under the measure, receive all the new money, at the discretion of the legislature.


2.  Energy and Schools:  For 2013-14, and all years until 2018, the measure establishes a new state fund, the Clean Energy Job Creation Fund, to support projects to improve energy efficiency and expand the use of alternative energy. A specific portion of the new monies are to be used for retrofits and alternative energy projects in public schools, colleges, universities and other public facilities, or financial and technical assistance for energy retrofits or job training and related workforce development. 


All projects are to be overseen by a citizen oversight board and must be coordinated with the California Energy Commission and the California Public Utilities Commission.  In 2013-14, half of the estimated one billion dollars generated by this measure would go to such energy projects, and the other half (calculated on the total new income under the Prop 98 formula) would go to schools.


3.  Schools  For all years after 2018, no more money would go for the designated energy projects.  The Legislative Analyst estimates that, in these years, 500 million to over 1 billion could be generated in Prop 98 funds for the schools.


California Companies Want the Single Sales Factor


Corporations with property and employees in California wanted the single sales factor to be established in order to lower their tax liability. Out of state corporations also, of course, wanted to pay less even though their jobs and properties were out of state. Arnold gave both what they wanted.  Nearly a third of the benefit of the 2009 change went to nine California companies, which each saved about 33 million a year.  These included Silicon Valley companies and motion picture studios.  These corporations would continue to save money, but, to be fair, they are saving money because they kept their jobs and property in California.  Estimated tax increases from Prop 39 would come from multi-state corporations who are now benefiting from having property and jobs outside California.  That loophole would be closed and they would pay only on their sales here, which would raise their overall corporate taxes.  


Next:  Prop 40: To Keep or Not To Keep the New State Senate Districts?