SB681 (Hill)6/29/15Page 1 of 2
SENATE COMMITTEE ONGOVERNANCE AND FINANCE
SenatorRobert M. Hertzberg, Chair
2015 - 2016 Regular
Bill No: / SB681 / Hearing Date: / 7/15/15Author: / Hill / Tax Levy: / No
Version: / 6/29/15 / Fiscal: / Yes
Consultant: / Grinnell
Corporation taxes: deduction: public utilities (Urgency)
Denies business expense deduction for fine imposed on PG&E by the California Public Utilities Commission.
Background and Existing Law
On September 9th, 2010, a pipeline owned and operated by the Pacific Gas and Electric (PG&E) Company exploded in the Crestmoor neighborhood of San Bruno, California. This disaster killed eight people, injured 58, destroyed 38 homes, and caused extensive property damage. PG&E’s regulator, the California Public Utilities Commission (CPUC), subsequently found that the utility had not made the proper investments in gas transmission infrastructure despite rates designed to generate revenue necessary to do so. CPUC initially proposed a fine of $1.4 billion: $950 million as a criminal penalty for the General Fund, $400 million credit to rate payers, and $50 million in remedies to enhance pipeline safety. CPUC eventually fined PG&E $1.6 billion: $850 million for gas safety improvements paid by shareholders, $400 million to ratepayers in a one-time bill credit, $300 million to the state's general fund as a fine, and $50 million toward various pipeline safety-related remedies. In a subsequent letter, Commissioners stated “every dollar the Commission ordered (PG&E’s) shareholders pay in the final decision was intended to penalize PG&E for its egregious actions and legal violations.” PG&E has also been indicted by a federal grand jury, and faces civil litigation as well.
Current federal and state laws generally allow taxpayers engaged in a trade or business to deduct all expenses that are considered ordinary and necessary in conducting that trade or business, unless specifically excluded by statute, such as fines and penalties paid to government for violating the law. Under federal and state laws, taxpayers can deduct fines or penalties paid to a non-government entity, such as a fine on a professional athlete violating codes of conduct; however, last year, the Legislature prohibited professional sports franchise owners from deducting fines and penalties imposed by the professional sports league that includes that franchise (AB 877, Bocanegra, 2014). The author wants to ensure that PG&E won’t be able to deduct fines imposed by CPUC on PG&E due to the San Bruno pipeline explosion.
Proposed Law
Senate Bill 681 states that for purposes of deducting regular business expenses for state tax purposes, expenses or expenditures for plant and equipment by Pacific Gas and Electric Company that the Public Utilities Commission determined in Decision 15-04-024 (April 9, 2015), “Decision on Fines and Remedies to be Imposed on Pacific Gas and Electric Company for Specific Violations in Connection with the Operation and Practices of its Natural Gas Transmission System Pipelines,” should be borne by the shareholders of the utility, and not the utility’s ratepayers, because of the utility’s numerous violations of law relating to public safety. The measure also states amounts that the Public Utilities Commission, in Decision 15-04-024, ordered Pacific Gas and Electric Company to pay to reimburse the commission for its costs incurred in investigating and enforcing a violation of law relating to public safety by the utility.
State Revenue Impact
Due to the measure’s limited scope, Franchise Tax Board cannot estimate the revenue for SB 681 without potentially violating taxpayer confidentiality laws. However, SB 681 would deny approximately $1.3 million in normally deductible expenses, which when multiplied by California’s corporation tax rate of 8.84% equals $115 million.
Comments
1. Purpose of the bill. According to the author, “The CPUC’s decision to apply the majority of the PG&E’s penalty to safety improvements and bill reduction rather than sending it to the General Fund was not made to reduce PG&E’s financial responsibility for the gas explosion that killed 8 and leveled a neighborhood, but to ease the burden faced by PG&E’s customers who continue to pay PG&E to bring its neglected gas system to an acceptable safety standard. The CPUC made it clear to the IRS and the FTB that the penalty for this tragedy should not be considered a business expense but a punishment. This bill is meant to ensure that FTB will be able to carry out the CPUC’s intention to levy an historic penalty against PG&E for its negligence.”
2. Special treatment. As a general matter in tax law, taxpayers can deduct fines and penalties levied by government when no violation of the law occurred. Taxpayers can also deduct business expenses incurred to improve physical infrastructure, such as pipelines. SB 681 would alter these standards that apply to almost all taxpayers because of a singular event. While the damage to lives and property of the San Bruno pipeline explosion is horrific, is changing tax law meant to apply equally to all taxpayers the appropriate way to sanction PG&E? CPUC could have simply increased the non-deductible penalty amount payable to the General Fund instead. On the other hand, SB 681 is not unprecedented; AB 877 responded to the National Basketball Association’s fine against Donald Sterling in a very similar way. The Committee may wish to consider whether amending tax law is the best response to this tragedy.
3. Follow the lead. Generally, FTB would follow IRS’s determination regarding whether a fine is deductible for state purposes. Section 162(f) of the Internal Revenue Code simply states “No deduction shall be allowed … for any fine or similar penalty paid to a government for the violation of any law.” Federal regulations and an extensive body of case law generally holds that compensatory, non-punitive damages paid to government are deductible, such as civil judgment where the government recovers actual damages and court costs from taxpayer. Other important factors include the severity of the conduct, and whether the penalty was punitive or compensatory in nature, among others. As such, the tax treatment of fines and penalties can be different according to the facts and circumstances of each case. In its letter to IRS Commissioner John Koskinen, CPUC Commissioners state that their intent in levying the penalty against PG&E was punitive, not compensatory. However, absent legislation, the deductibility of the penalty for federal or state purposes will remain unknown because any information on PG&E’s return is protected by taxpayer confidentiality laws.
4. Reverse nonconformity. California law does not automatically conform to changes to federal tax law, except under specified circumstances. Instead, the Legislature must affirmatively conform to federal changes. Generally, when the federal government changes its tax laws, California catches up by enacting its own legislation in subsequent year to reduce differences between the two codes, thereby easing the tax preparation burden on taxpayers, tax preparers, and the Franchise Tax Board. As discussed above, IRS may allow PG&E to claim the deduction based on its interpretation of current law as applied to CPUC’s fine, but if SB 681 is enacted, the same deduction denied for state tax purposes maybe allowed for federal.
5. Another way? SB 681 refers to Section §162(a) of the Internal Revenue Code (IRC) when denying a deduction for state purposes; however, PG&E could be applying IRC §162(f), §167, or §179, depending on the nature of the expense. Instead of referring to federal law, the Committee may wish to consider amending SB 681 to instead enact a stand-alone section of the Corporation Tax stating that expenses of expenditures resulting from the CPUC’s decision are not deductible for state tax purposes.
6. To tell the truth. The tax return of a firm as sophisticated as PG&E will be long and complex. As such, it may be difficult for FTB to easily determine whether PG&E complies with SB 681 should it be enacted. The Committee may wish to consider requiring any taxpayer to additionally certify under penalty of perjury that it didn’t claim any expenses affected by the bill.
7. 2/3. Because SB 681 denies a normally deductible business expense, it increases a tax on any taxpayer for purposes of Section Three of Article XIIA of the California Constitution. As such, Legislative Counsel has keyed the measure a 2/3 vote.
8. Urgency. In order for the bill to apply in the current taxable year, and to ensure the effectiveness of PG&E decisions, SB 681 contains an urgency clause, and is keyed a 2/3 vote.
Support and Opposition
(7/9/15)
Support: None received.
Opposition: California Taxpayers Association.
-- END--