Consumer Federation of California

In February 2009, with the state on the brink of insolvency, California lawmakers broke through the pervasive gridlock in Sacramento and, with bipartisan votes, approved a deal that averted a looming plunge off the financial cliff.

Controversially, it included 2 1/2 years of temporary tax increases totaling $18 billion on California families.

At the same time, the deal included a $700 million tax cut for multistate corporations that would kick in on Jan. 1, 2011.

Critics argued it wasn’t fair to raise taxes on individuals as part of a deal to lower taxes on businesses, and they vowed to take their argument to the people.

Now, voters are being asked to wipe that scheduled tax cut, along with two other business tax breaks approved in 2008, off the books before they have a chance to take effect. That’s what Proposition 24 on the Nov. 2 ballot would do.

The value of the three tax breaks combined is estimated at $1.3 billion a year.

The measure has triggered a reprise of familiar economic arguments over corporate tax policy.

Opponents, funded by a consortium of Fortune 500 companies including General Electric, Johnson & Johnson and Cisco Systems, argue the tax breaks will spur the state economy and lead to the creation of thousands of jobs.

Measure supporters, funded by the California Teachers Association, call the scheduled tax breaks a corporate giveaway that will come at the expense of public education and other state services. They note there is no provision in the law requiring that those who benefit from the tax reductions increase their payrolls as a result, and point to their own economic study that says the tax breaks will yield no net increase in employment.

Jean Ross, executive director of the California Budget Project, told lawmakers at a hearing on Proposition 24 last week that many of the same businesses arguing for these tax breaks today successfully lobbied for similar tax breaks as the state dealt with a recession in the mid-1990s.

‘There was no effect on employment,’ she said. ‘There is no evidence to suggest the outcome will be any different from what it was in the 1990s.’

Opponents of Proposition 24 point to the single-biggest tax break it would eliminate, something called the ‘optional single-sales factor,’ and say that if the initiative passes, California would be the only large state that does not allow companies to use such a formula to compute their taxes.

‘It’s pretty clear we would stand out,’ said Tim Valderrama, executive director of TechNet, an association of high-technology firms. ‘If the single-sales factor goes away, that puts us back in a situation where business expansion does not happen in California.’

Under the existing formula, he said, large in-state companies are penalized if they expand in California and rewarded if they build new facilities in other states.

There are three separate business tax breaks that Proposition 24 proposes to repeal:

Net operating losses. If a business has more deductible expenses than income in a given year, it has a net operating loss. Under current law, that loss can be carried forward for up to 10 years to offset gains, and thus reduce tax liability, if it makes a profit in future years. The new law would allow businesses to carry back those losses for up to two years by filing an amended return and getting a refund on taxes previously paid. Additionally, they could carry forward losses for up to 20 years.

Tax credit sharing. Under current law, only a specific business that qualifies for a tax credit can claim it. The new law would allow business groups, often operating under the same management, to transfer a credit earned by one of its businesses to reduce taxes owed by another business within the same group.

Multistate businesses. Current law requires multistate businesses to determine how much of their profits are subject to California corporate income taxes through a formula that includes how much of their property is in the state, how much of their payroll is in the state and what percentage of their sales are to California customers. The new law allows them to either use the existing formula or to make the determination solely based on sales.

Of the three, the optional single-sales factor is the biggest-ticket item, accounting for more than half of the $1.3 billion in tax savings.

Using data from the Franchise Tax Board, Ross estimates just 1.2 percent of state business would receive the entire $850 million in savings from using the single-sales factor. A third of the savings would go to just nine companies, each seeing a savings of more than $20 million.

While opponents of Proposition 24 argue strongly about the importance of the single-sales factor method, they have been silent about the merits of a law that would allow corporations the option of choosing between the two formulas.

Lenny Goldberg, president of the California Tax Reform Association, argues that the option would give corporations the best of all worlds ‘ the ability to use the formula that minimizes their taxes in good years, then to use the other formula to maximize their losses in bad years.

Valderrama of TechNet said that if Californians believe the optional formula is unfair, they should reject Proposition 24 and ask the Legislature to remove the option.

‘If you want to do that, then you can have that conversation,’ he said. ‘If Proposition 24 passes, I think it would be impossible, or at least very difficult. If Proposition 24 fails, you could come back and talk about tweaking it two days later.’

Richard Stapler, spokesman for the Proposition 24 campaign, said there’s a problem with that argument. If the measure were to fail, he said, changing the single-sales factor from optional to mandatory would require a two-thirds vote because it would be considered a tax increase. If the measure passes, it would take only a majority vote to implement the mandatory single-sales formula, because it would be considered a tax cut.

‘You tell me which scenario is more plausible,’ he said.

Proposition 24

What: Repeals three corporate tax changes approved by the Legislature as part of its 2008 and 2009 budget deals. Collectively, the new policies would save corporations $1.3 billion a year in taxes, reducing state revenues by an equivalent amount. The changes would allow business to ‘carry back’ losses in a given year, enabling them to claim refunds for taxes paid in previous years; permit multi-state corporations to choose the less expensive of two formulas to determine how much of their profits are subject to California tax; and allow corporate groups to use tax credits earned by one entity to offset the tax liabilities of another entity within the same corporate family.

Supporters: California Teachers Association, League of Women Voters, Consumer Federation of California, California Democratic Party, California Labor Federation, AFL-CIO.

Opponents: California Taxpayers Association, California Chamber of Commerce, California Building Industry Association, California Manufacturers & Technology Association, California Grocers Association.

Follow the money: Supporters had raised $6.8 million through Sept. 15, mostly from the California Teachers Association ($4.4 million) and the National Education Association ($2.1 million). Opponents had raised $11.1 million from a consortium of major corporations led by General Electric, Cisco Systems and Genentech ($1.1 million each), CBS Outdoor ($900,000), Johnson & Johnson ($750,000) and Fox Group, a division of News America ($725,000).