Highlights
California law now restricts taxpayers with more than $1 million in income from claiming a California net operating loss deduction for the tax years 2024 to 2026
Net business tax credits used to offset California tax liabilities cannot exceed $5 million for the tax years 2024 to 2026; however, some credits may be eligible for a partial refund
Businesses with income excluded from taxable income must also exclude that income from the apportionment formula when calculating income attributed to California
California has officially enacted budget legislation that includes important California state tax provisions, including for net operating losses (NOLs) and credit limitations, apportionment for deductible income, and eliminating the sales tax bad debt deduction for certain non-retailers.
For effective tax years 2024 to 2026, the legislation has suspended California NOL deductions for taxpayers reporting over $1 million in net business income or modified adjusted gross income. Modified adjusted gross income excludes deductions from NOLs. Combined with the NOL suspension during 2020 to 2021, with the current pause on NOL deductions, only the taxable years 2022 to 2023 are eligible for the California NOL deduction.
The legislation states total business tax credits cannot offset more than $5 million in California tax liabilities for tax years 2024 to 2026 subject to a few exceptions, such as for the Low-Income Housing Tax Credit and the Pass-Through Entity Elective Tax Credit. Any excess business credits are carried forward and those credits with time limitations will be extended based on when the credit is freed up from the $5 million limitation.
However, there are delayed state refundable tax credits for corporations for tax years 2024 to 2026. Those taxpayers claiming certain credits, such as the Low-Income Housing Tax Credit or the Research and Development Tax Credit, can make an irrevocable election and have the credit partially refunded beginning in the third taxable year after the election is made and any excess is carried forward and refundable for the following five years. This refund is 20 percent of the qualified credit amount that would have been otherwise available but for the $5 million limitation.
This suspension and limitation can sunset earlier if, by May 14 of the taxable year beginning in 2025, the director of the California Department of Finance determines the budget is sufficient over a multiyear forecast without the added revenue from this provision.
Apportionment
In an effort to mitigate the effect of a recent apportionment court case ruling unfavorable to the State of California, the new legislation “clarifies” that any income that is excluded for net income purposes shall be excluded from income in the apportionment formula for allocating taxable income to California. Specifically, “not included in ‘net income” means 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.”
This is effective for tax years beginning before, on, or after July 1, 2024.
Retailers Sales Tax Refund and Bad Debt Reduction
Qualifying lenders that have purchased accounts from retailers that have sales and use tax previously reported and paid on accounts that have become worthless and written off will no longer for California tax purposes be able to write off the amounts or receive a refund of the tax paid beginning 2028. However, qualifying lenders will be able for California tax purposes to take the deduction until Jan. 1, 2028 so long as the account was written off before Jan. 1, 2025.
Beginning Jan. 1, 2025, entity affiliates of retailers can no longer take any California deduction related to bad debt or refunds of sales tax.
For more information, please contact the Barnes & Thornburg attorney with whom you work or Stanley Heyman at 310-284-3880 or sheyman@btlaw.com. Anna Gurr, summer associate, assisted with this alert.
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