Final Entry: California $ Crisis
California CPA magazine: November 2008
Kathleen “Kitty” Wright has more than a few credentials—JD, CPA, MBA (Taxation) and LLM (Taxation)—so, California CPA asked this top California CPA Education Foundation instructor for her thoughts about California’s fiscal crisis. To go more in-depth, check out her upcoming Education Foundation courses at www.calcpa.org/rsvp. Search for “California State Taxation."
What are the tax implications of California’s “budget” for individuals and businesses?
Conformity, or the lack thereof, is the single biggest issue for practitioners (and their clients). California conforms to federal law as of Jan. 1, 2005, which means we are at least 10 tax bills behind federal. Federal has enacted several “economic stimulus” plans and bailout packages and Californians can only enjoy these benefits on their federal return, and then watch most of that federal benefit disappear on their state return. This is probably the biggest single issue that could give rise to malpractice claims for practitioners. The big tax items in this year’s budget are a two-year suspension of the net operating losses (with an exception for “small” business); a limit on the use of business credits (again with same small business exception); and acceleration of payment of estimated tax payments.
Will the state budget’s various accounting changes—collecting some taxes earlier in the year, removing a few corporate tax deductions and hiking penalties charged to companies that underpay their taxes—make a difference?
The problem with these provisions is the penalty: 20 percent of the understated tax—if the understated tax is more than $1 million. The penalty does not apply if the understatement is due to a change in the law or reliance on written advice from the FTB. However, there is no reasonable cause exception (a common exception for relief from penalties). Corporations are going to be much less aggressive on the tax return as filed.
Is California any closer to federal conformity?
No. That’s the biggest problem we have. Nonconformity impacts individuals and many industries. Entertainment, for example, does not get benefits awarded under federal law or benefits, such as transferable credits, made available by other states. The California Legislature looks at many of the Bush tax cuts as only benefiting business and too expensive for our state.
If the recession spreads and tax revenues drop, will California municipalities, or the state itself, risk going bankrupt?
Well, if Iceland can go down the drain, I suppose California could evaporate. But Treasury Secretary Paulson now has authority to lend to the states. If the credit markets loosen up, the state should survive, but the cities are another story. One big problem in California is fixed costs. Union salaries and pensions and mandatory budget allocations for expenditures—like education—restrict what the state can do.
How will municipalities finance themselves if they can’t issue bonds?
Go to the voters to raise fees on various services. Not very appealing.
How will the mortgage crisis affect the state and businesses?
California is one of the states where the housing crisis has the potential for a more significant impact than others. But the California economy is more diverse than that of most countries. California may be more resilient than we think … through growth in other industries. Perhaps biotech and technology will pull us out of the housing mess.
How would you “fix” the state’s chronic budget problems?
I would significantly lower (with the objective of repealing) all income taxes on corporations and on W-2 and 1099 “wages” for individuals. I would modestly tax investment income.
Initially, I would allow business entities and individuals to “pay” most of their taxes through community service, which would ultimately become mandatory. Instead of paying taxes, a CPA/MBA could volunteer to teach a tax class at a state university. All professions and trades would be integrated into government service with a significant commitment to some aspect of the government’s operations.
To the extent that we did have a very low tax, this could be offset with tax credits awarded for research and development, investment in alternative fuels and solar energy, a manufacturing credit, a low income housing credit, enterprise zone credits and an adoption credit.
Government service would focus on safety as the No. 1 function, then education, health care and essential services (heat, light and power and transportation).
Everyone (except the ill, disabled and elderly) would be in “school” (defined as everything from work training programs to Ph.D. programs) and would be constantly training or re-training for jobs to keep them employed in the workforce for as long as they wanted to work.
Prisons would become training camps and welfare recipients would have to work for their benefits.
The result would be a California with low (possibly no) taxes, a highly trained and motivated work force and community-based government service. I’m still working on my health plan.
