California legislators released bill language addressing Governor Gavin Newsom’s “May Revise” to the state budget that includes the Governor’s so-called “apportionment fix.” If enacted, Assembly Bill 167 and Senate Bill 167 will suspend net operating losses for tax years beginning on or after January 1, 2024 and before January 1, 2027. Similarly, the legislation applies a $5,000,000 limit on most business tax credits for those same years.

As expected, both bills contain language that retroactively changes California’s apportionment provisions by excluding factors from the apportionment formula if the related income is not taxed. Specifically, the bills create new section 25128.9 to the California Revenue and Taxation Code, and exclude from apportionment formulas “[a] transaction or activity, to the extent that it generates income or loss not included in ‘net income’[.]” The term “‘not included in “net income”’” is defined to mean:

“income from transactions and activities that is not included in net income subject to apportionment for any reason, including, but not limited to, exclusion, deduction, exemption, elimination, or nonrecognition.”

The legislation authorizes the Franchise Tax Board to promulgate regulations to implement the statute free from the strictures of the California Administrative Procedure Act. Moreover, the bills characterize these tax changes as a “clarification” that have retroactive effect, applying to “any apportionment formula currently and formerly allowed under” under California’s Uniform Division of Income for Tax Purposes Act provisions, and “to taxable years beginning before, on, or after the effective date of the” legislation. The “clarification” language is intended to end-run California law that requires a two-thirds super-majority vote on any tax increases.

In total, the language of the bills largely mirrors that of Governor Newsom’s May 14 proposal. Unlike the Governor’s proposal, though, AB 167 and SB 167 expressly codify the legislative intent declarations in new Section 25128.9.

As discussed in our Legal Alert describing the Governor’s May 14 proposed trailer bill language, this new provision constitutes a massive de facto tax increase, codifies troubling tax policy, and effectively neuters one of the state’s newest tax agencies – the Office of Tax Appeals.

Under the California Constitution, a budget bill must be passed by midnight of June 15. Votes on both bills are expected by the end of this week.

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