The California Chamber of Commerce is opposing a newly identified “job killer” bill that creates an inequity in the tax structure, thereby harming struggling small businesses and start-ups.

AB 2408 (Skinner; D-Berkeley) repeals the Net Operating Loss (NOL) carryback deduction, a lifeline that helps employers stay afloat, retain employees, and continue investing in their businesses in an economic downturn.

The bill is similar to AB 1936 (De León; D-Los Angeles), which was held on the Assembly Appropriations Committee Suspense file in 2010 due to its fiscal impact.

AB 2408 is scheduled to be considered on July 3 by the Senate Governance and Finance Committee.

Resolving Inequity

The NOL deduction resolves an inequity in the net income tax structure. California businesses of all sizes and structures report and pay tax on their net income based on an arbitrary 12-month reporting period. An NOL occurs when a taxpayer’s business expenses exceed revenue during that arbitrary 12-month reporting period.

The NOL deduction allows a business taxpayer to offset current losses against future taxable income (carryover) or prior liabilities (carryback).

Without an NOL deduction, the income tax fails to adequately match investment expense with revenue earned on that investment, essentially penalizing capital investment. The NOL therefore serves to ensure that taxable income more closely resembles the actual net income of the business enterprise. NOLs are not economic incentive tools; they are integral to a fairly applied net income tax regime.

Reasons to Oppose

In opposing AB 2408, the CalChamber and a coalition of employer groups points out that:

• Without the NOL deduction, two businesses can have the same profits and losses, but different tax liability.

• The NOL carryback is particularly important for keeping struggling businesses afloat, allowing a company experiencing losses to amend the prior two years’ tax returns to offset tax liability going backward in time, making cash immediately available for paying bills and employee salaries, and for making business investments. The carryback deduction is particularly critical for new businesses that struggle with profitability during their initial years, and need help to get off the ground. California is not alone in seeing the value of an NOL carryback deduction. The federal government also provides one, and recently expanded the carryback period from two to five years for small businesses, and will allow all businesses to carry back their 2009 losses for five years. AB 2408 cuts off this lifeline for California businesses at a time when California’s economic growth continues to lag.

• Unreliable tax environments deter employers from investing in California. Predictability is as important to employers as overall tax burden to economic investment. Employers cannot adequately evaluate potential costs if they cannot predict future tax liabilities.

The NOL carryback was included in the 2008 budget package to help partially offset the harm to California businesses caused by a two-year suspension of the NOL deduction. The promise of a positive change in the near future helped demonstrate that California is committed to keeping employers in the state, despite the hit to businesses that year.

Unfortunately, California again suspended the NOL deduction for the 2010 and 2011 tax years. In contrast, the federal government has extended its carryback provision from two to five years.

AB 2408 not only reverses the 2008 compromise just as the taxpayers’ benefit from that agreement begins to materialize; it also reinforces with employers that California’s taxing environment is unpredictable.

Lack of predictability adds to risk, increased risk adds to overall cost of doing business, further hindering California’s economic recovery.