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Matthew A. Stevens
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Jamie C. Yesnowitz
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On July 1, 2019, California Gov. Gavin Newsom signed legislation, A.B. 91, which selectively conforms to various provisions of the Tax Cuts and Jobs Act of 2017 (TCJA).1
The legislation only conforms to specific sections of the TCJA, while the state’s overall conformity date to the Internal Revenue Code (IRC) remains Jan. 1, 2015, for provisions not included in A.B. 91. Thus, California does not conform to key provisions of the TCJA such as deemed repatriation, the new tax treatment of foreign income, the net business interest limitation and 100% bonus depreciation. The enactment of A.B. 91 is the first time California has conformed to federal income tax changes since 2015. Unless otherwise noted, the legislation is effective July 1, 2019, and applies to tax years beginning on or after Jan. 1, 2019.
Disparity between federal and California tax law
California generally conforms to the IRC in effect on Jan. 1, 2015.2
Because California has a fixed IRC conformity date, legislation must be enacted to advance the conformity date or selectively adopt IRC amendments enacted after the conformity date. The enactment of the TCJA3
in December 2017 created a disparity between federal and state tax regimes. Prior to the recent enactment of A.B. 91, the California Revenue and Taxation Code wholly excluded the IRC sections amended or added by the TCJA. Through the enactment of A.B. 91, California tax law gains parity with certain business and personal income tax provisions enacted by the TCJA.
California conformity to IRC
A.B. 91 provides selective conformity to IRC provisions relating to individuals and businesses in addition to a few California specific updates. The items impacting business and individual taxpayers are summarized below:
- Disallowance of Federal Deposit Insurance Corporation (FDIC) premiums for income tax purposes4
- Elimination of net operating loss (NOL) carrybacks with 20-year carryforward5
- Elimination of separate IRC Sec. 338 elections6
- Expansion of the limit on “excessive employee remuneration” to include performance-based compensation and commission payments7
- Limitation on excess business losses for taxpayers other than corporations8
- Repeal of technical termination of partnerships9
- Small business accounting method “reform and simplification”10
- Elimination of NOL carrybacks with 20-year carryforward11
- Limitation of like-kind exchanges12
- Exclusion for student loan debt discharged due to death or disability13
- Expansion of the earned income tax credit;14
- Provision of the young child tax credit;15 and
- Increase of contributions to Achieving a Better Live Experience (ABLE) Act accounts and rollover of IRC Sec. 529 accounts to ABLE accounts.16
Despite California’s conformity to certain IRC provisions by A.B. 91, California law does not conform to other provisions added or amended by the TCJA, including the most significant corporate tax provisions. A.B. 91 does not conform the California tax code to the following domestic tax provisions: the net business interest limitation under IRC Sec. 163(j); 100% bonus depreciation;17
the 80% limitation on NOLs;18
and the dividends received deduction (DRD).19
In addition, A.B. 91 does not conform the California tax code to the following international tax provisions: the base erosion payments of taxpayers with substantial gross receipts (BEAT) regime;20
foreign-derived intangible income (FDII) and global intangible low-taxed income (GILTI);21
and the deemed repatriation of deferred foreign income (transition tax).22
California’s selective conformity under A.B. 91 presents additional complications to taxpayers from a complexity standpoint, paired with an uncertain impact from a tax liability perspective. Prior to this legislation, California taxpayers were tasked with understanding and complying with two parallel tax regimes: (i) the provisions of the TCJA for federal purposes; and (ii) California’s Revenue and Taxation Code, essentially the IRC as it existed prior to tax-reform taking effect with certain modifications.
A.B. 91 presents California taxpayers with the challenge of moving forward in a post-TCJA world with state tax law that does not reflect many aspects of the TCJA. As a result, taxpayers will need to evaluate and revise their current state tax reporting methods that will take effect for the 2019 tax year, and consider the broader impact of this legislation on their business operations as a whole. At the same time, taxpayers should not ignore the fact that A.B. 91 will, at least for the time being, preserve some beneficial aspects of the pre-TCJA law, such as less restrictive interest deduction limitations. Furthermore, some of the changes made by A.B. 91 will allow for flexibility in business operations such as repealing the technical termination of partnerships. Ultimately, A.B. 91 is likely to be the first of several steps that California takes to address the TCJA, since subsequent legislation will be required to affirmatively conform or decouple from the more prominent TCJA provisions. The potential still remains for prospective, or even retroactive, application of some of the more prominent TCJA provisions if California so chooses.
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