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California Approves Substantial Tax Hikes

by Mike Godfrey,, Washington

14 November 2012

Ballots in California on November 6 passed the so-called Propositions 30 and 39 – the first of which hiked income and sales taxes and was approved with a vote of almost 54%, while the second, approved by 60%, imposes taxes on out-of-state businesses.

Proposition 30 was proposed and pushed for by California’s Governor Edmund G. Brown Jr., who hailed its passage as raising USD6bn to avoid “crippling cuts to education” this year, and also providing new revenue for California’s schools in the future, by allocating the new funds directly to local school districts and community colleges.

It raises income tax on those earning more than USD250,000 a year, effective in the 2012 tax year, and also temporarily increases sales tax by 0.25% with effect from January 1, 2013, although it was said that the new statewide sales tax rate of 7.5% will still be lower than it was in early 2011.

Both new taxes in Proposition 30 are temporary. The sales tax increase will expire in four years, and the income tax increase for the wealthiest taxpayers will end in seven years.

“Last night, Californians made the courageous decision to protect our schools and colleges,” said Governor Brown. “We joined together as Californians first in a resounding victory for education and fiscal integrity.”

In addition, with the passage of Proposition 39, out-of-state businesses will now have to calculate their Californian income tax liability based on the percentage of their sales in California.

Over the first five years, it dedicates about half of the additional revenue expected of USD1bn annually - rising over time - to fund projects that "create energy efficiency and clean energy jobs" in California. Of the remaining revenues, a significant portion is likely to be spent on public schools and community colleges.

Proposition 39 repeals an existing law that gave out-of-state businesses an option to choose a tax liability formula that provided favourable tax treatment for businesses with property and payroll outside California.

From 2009, companies could choose the ‘three-factor’ method or the ‘single-sales factor' method. The single-sales factor uses in-state sales alone to determine a company’s tax obligation, while, under the three-factor method, companies use a combination of sales, employees and property in the state to calculate their taxes. For out-of-state companies with no physical presence in the state, the three-factor method offered large savings, and, therefore, out-of-state businesses overwhelmingly chose it.

Businesses located outside of California that transacted some business within the state were therefore able to reduce their California income taxes by not locating facilities or employees within the state. Supporters of Proposition 39 therefore argue that it has now closed a tax ‘loophole’ that has previously rewarded out-of-state companies for taking jobs out of California.

TAGS: individuals | compliance | tax | business | sales tax | law | payroll | education | legislation | United States | individual income tax

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