California's
Tax Expenditure Programs

Sales and Use Tax Programs--Part 5

Contents

• Replacements for Destroyed Museum Exhibits
• Sales By PTAs, Co-Op Nursery Schools, and Friends of the Library
• Rummage Sales by Qualified Nonprofit Organizations
• Handcrafted Items Sold by Qualified Organizations
• Charitable border Organization Sales and Donations
• Property Loaned to Educational Programs
• New Clothing Donated to Elementary School Children
• First $400 of Foreign Purchases Hand-Carried Into California
• Charitable border Donations Made by Sellers
• Auctions Involving Nonprofit Organizations
• Sales by Thrift Stores Operated By Nonprofit Organizations
• Option to Pay Tax on Cost Rather Than Lease Receipts
• Tax Liability on "Bad Debts"
• Acquisition Sale-Leaseback Arrangements
• Factory-Built School Buildings
• Endangered Animal and Plant Species
• Investments by Manufacturers

Exclusion/Exemption:

Replacements for Destroyed Museum Exhibits

Description

This program exempts from taxation the sale or use of replacement exhibits for a qualified museum, or for a public art display of the state or a local government. The program requires that the property be acquired to replace property physically destroyed by a calamity within three years after its occurrence, and that it be purchased and used exclusively for display purposes within the museum.

To qualify, a museum must either (1) have a significant portion of its space open to the public without charge, (2) be open to the public without charge for not less than six hours per month during any month when the museum is open to the public, or (3) be open to a segment of the student or adult population without charge. In addition, the museum must be operated by or for a local or state government entity, or by a qualified nonprofit organization.

Rationale

This program provides tax relief to qualified museums after they have incurred damage from disasters, including fire, flooding, or earthquakes. The program's rationale is that museums provide a valuable cultural and educational service and, as such, they are worthy of public financial support.

Comments

As described under a separate program, generally, original artwork purchased by a museum is exempt from taxation.

Exclusion/Exemption:

Sales By PTAs, Co-Op Nursery Schools, and Friends of the Library

Description

This program treats as consumers nonprofit Parent Teacher Associations (PTAs), Friends of the Library (or equivalent organizations), and nonprofit parent cooperative nursery schools. As consumers, such organizations pay taxes on the prices they pay rather than on the prices they charge for items they sell to raise funds. This has the effect of partially exempting from taxation the retail value of such items. The program requires that any profits derived from the sales of such property be used for furthering the purposes of the organization.

Rationale

This program provides tax relief to qualifying organizations and their patrons, to the extent that taxation of the full retail price of the property these organizations sell would increase their prices and reduce their sales potential. The program thus provides an incentive for organizations to operate, and patrons to support, qualifying activities. The program's underlying rationale is that the goals and activities of these organizations are socially desirable, and thus worthy of public financial support.

Exclusion/Exemption:

Rummage Sales by Qualified Nonprofit Organizations

Description

This program treats nonprofit organizations that perform auxiliary services to any city or county museum as the consumers of goods sold by those organizations at qualified rummage sales. As consumers, such organizations pay tax on the price they pay rather than on the price they charge for items they sell to raise funds. The effect of this is to limit the amount of sales and use taxes levied on such property. In order for the program to apply, the property must be sold at an annual rummage sale which must have been held during each of the five consecutively preceding years, and profits from the sale must be used exclusively for furthering the purposes of the organization.

Rationale

This program provides tax relief to qualified charitable border organizations and their patrons, and (indirectly) to the museums which they support. It does this to the extent that the partial sales and use tax exemption on rummage sales stimulates such sales, and thereby increases the amount of funds which charitable border organizations and museums are able to raise from rummage sales. The program's rationale is that museum-related activities are socially beneficial and deserving of public financial support.

Comments

This program results in a full tax exemption for donated items sold at these rummage sales.

Exclusion/Exemption:

Handcrafted Items Sold by Qualified Organizations

Description

This program treats qualified organizations as consumers of tangible personal property if: (1) such property is handcrafted and designed, created, or made by either individuals with developmental disabilities or children with severe emotional disturbances who are members of or receive services from the organization; (2) the price of such property does not exceed $20; (3) the organization's sales are made on an intermittent basis; and (4) the profits from sales are used exclusively for promotion of the organization.

In order to qualify, an organization must: not discriminate on the basis of race, sex, nationality, or religion; have tax-exempt status as defined under Section 501(c)3 of the Internal Revenue Code; and primarily provide services to either individuals with developmental disabilities or children with severe emotional disturbances.

Rationale

There exist several underlying rationales for this program. One is to simplify tax administration in a manner similar to the exemption for occasional sales discussed elsewhere in this report. The program also provides tax relief to charitable border organizations and their clientele, to the extent that it reduces the prices of items they sell. The program provides an incentive for individuals to purchase such items because of their reduced prices. To the extent that the lower prices increase sales, this provides additional funds for services to individuals with certain disabilities or emotional disturbances. This program is similar to the sales and use tax exemption provided for sales by qualified charitable border organizations.

Exclusion/Exemption:

Charitable border Organization Sales and Donations

Description

Commonly known as the "welfare exemption," this program exempts from taxation the sale or use of goods made, prepared, assembled, or manufactured by qualified charitable border organizations. In order for the program to apply, an organization must qualify for the welfare (local property tax) exemption and be engaged in the relief of poverty and distress. In addition, the organization's sales and donations are exempt only if they are made principally to assist purchasers or donees in poverty or distress.

Rationale

This program provides tax relief to charitable border organizations and their clientele, to the extent that it reduces the prices and costs of providing property to disadvantaged persons. The program also provides an incentive for individuals to purchase merchandise sold by charitable border organizations. It does this by removing the sales tax on such merchandise, thereby reducing the prices at which the merchandise can be sold. To the extent that the organization's sales are increased as a result, the amount of funds available for the relief of poverty and distress is increased.

The program's underlying rationale is that the qualifying organizations provide a socially desirable service in making property available to distressed persons and, therefore, are deserving of public financial support.

Comments

This program provides a tax exemption for sales in stores operated by Goodwill Industries and similar organizations. In practice, the exemption applies to all sales in these stores, and no attempt is made to determine whether the purchaser is needy or not.

Donations were included in this program by Chapter 1447, Statutes of 1989 (SB 874, Doolittle). This was done because previously, charities that purchased goods tax-free using their resale permit found that they became liable for tax when they donated these goods, because making a gift constituted a taxable use of the property.

Exclusion/Exemption:

Property Loaned to Educational Programs

Description

This program exempts from taxation the loan by retailers of certain tangible personal property to qualified educational institutions.

Specifically, the program exempts:

• Loans of tangible personal property to school districts for educational programs.



• Loans of motor vehicles to the University of California (UC) or the California State University (CSU) system for exclusive use: (1) in an approved driver education teacher preparation certification program or (2) by an employee of the UC or CSU system, so long as the loan is approved by the President or Chancellor of the university and the retailer is not guaranteed automotive-related business from the university.



• Loans of vehicles to an accredited private or parochial secondary school for exclusive use in an approved driver education and training program.



• Loans of motor vehicles to a veterans' hospital or other nonprofit institution, to provide instruction in the operation of specially equipped motor vehicles to disabled veterans.

Under existing law, if a retailer makes use of property that is ostensibly held for sale, he or she ordinarily must pay use tax on the wholesale price of the property. Loans of such property are considered "uses" of the property by the retailer and, therefore, are taxable unless otherwise exempted.

Example. In the absence of this program, an automobile retailer who loans a vehicle at no cost to a high school driver training course would pay use tax on the dealership's cost of the vehicle. This is because most retailers are considered "consumers" of merchandise that they use themselves or loan to others. This program exempts from taxation such loans to qualifying educational institutions.

Rationale

This program provides tax relief to qualified educational institutions and the students who use the qualified loaned property. It does this to the extent that exemption of sales and use taxes on such loans enables these educational institutions to service more students because of reduced costs. In addition, students who pay fees for the affected programs may pay less because of the reduced costs. The underlying rationale for the program is that providing equipment and vehicles to educational institutions is a desirable social goal worthy of public financial support.

Exclusion/Exemption:

New Clothing Donated to Elementary School Children

Description

This program exempts from taxation the sale of children's new clothing when the clothes are sold to a qualified nonprofit organization. In order for the program to apply, the clothes must be sold to a nonprofit organization organized and operated for charitable border purposes, possessing tax-exempt status and engaged in poverty and distress relief. The clothes must be distributed, free of charge, to needy elementary school children.

Rationale

This program provides tax relief to nonprofit organizations which distribute free clothes to children. The underlying rationale for the program is that such tax relief increases the amount of clothing which nonprofit organizations may acquire with their available resources, and thereby enables them to better meet the needs of the children they service. The program exists in recognition of the view that providing such clothes is a socially beneficial activity worthy of public financial support.

Comments

This program is similar to the general exemption for sales and donations by charitable border organizations. However, it does differ in three ways. First, the exemption applies to purchases by, rather than sales or use by, the charity. Thus, it is useful to charities that do not have resale permits. Second, there is no requirement that the donating charity qualify for the welfare exemption under the local property tax. Third, there is no requirement that the charitable border organization prepare, assemble, or make the donated items.

Exclusion/Exemption:

First $400 of Foreign Purchases Hand-Carried Into California

Description

This program exempts from the use tax the first $400 of purchases made by state residents in a foreign country and personally hand-carried into California. Only one such exemption can be claimed for any 30-day period, and purchases sent or shipped into California do not qualify for the exemption.

Rationale

This program provides tax relief to California residents returning from overseas with purchases that otherwise would be subject to the use tax. The exemption originally was enacted as part of a new state program which seeks to collect use taxes on foreign purchases. Such taxes generally had not been collected prior to 1990 due to administrative difficulties.

The program is largely rationalized on administrative grounds. The exemption recognizes that the state's efforts to collect the use tax on foreign purchases is dependent on the federal government's duty collection procedures. The U.S. Customs Service recently began to provide the state with customs declarations filed by returning Californians. The U.S. Customs Service does not require payment of duties on the first $400 of foreign purchases and keeps no useable records of travelers entering the state with purchases of less than $400. Consequently, the state has no cost-effective means at present to collect use tax from travelers declaring less than $400 of foreign purchases.

Although the state could attempt to collect the use tax on the first $400 of purchases brought into the state by travelers who are subject to customs duties, the administrative costs would be prohibitive.

Comments

The Board of Equalization started collecting customs declarations on October 1, 1990. This program, which was established by Chapter 1533, Statutes of 1990 (SB 2455, Morgan), exempts $400 of the taxable purchases from each billing, for a maximum state revenue loss of $24 per billing.

Exclusion/Exemption:

Charitable border Donations Made by Sellers

Description

This program provides a use tax exemption for property donated by any seller to specified educational institutions, charitable border organizations, and nonprofit museums located in California.

Rationale

This program provides tax relief to sellers who donate property to educational and charitable border organizations and museums. Generally, the purchase of goods solely for resale does not trigger the payment of sales or use tax on the purchase. Rather, tax is collected only on retail sales--that is, sales to someone who will actually make final use of the goods. If, however, property originally bought for resale is instead used by the seller rather than resold, the seller must pay use tax. This includes donations of property, which are considered a "use" of the property by the seller. This program exempts sellers from paying use tax on items donated to qualifying organizations. The program's intent is to give added incentive to donate property to nonprofit organizations and museums, the rationale being that such organizations serve a public purpose and are deserving of public financial support.

Comments

This program was enacted by Chapter 905, Statutes of 1988 (SB 2508, McCorquodale), and originally applied only to persons engaged in retail sales activity who donated property. The program was expanded by Chapter 1387, Statutes of 1989 (SB 1226, Campbell), however, to include all sellers (including wholesalers). Chapter 1387 also restricted the program to donations used exclusively for display in the case of nonprofit museums, and required qualifying museums to meet minimum standards for public access.

Exclusion/Exemption:

Auctions Involving Nonprofit Organizations

Description

This program exempts from taxation the gross receipts from the sale, storage, use, or consumption of tangible personal property sold to a bidder at an auction conducted by, or affiliated with, a nonprofit organization. The purpose of the auction must be to obtain revenue for the funding of a shelter for homeless individuals and families, and those revenues obtained must be expended for that purpose. The exemption does not apply to sales at an auction conducted more than once every 12 months.

Rationale

This program provides tax relief to charitable border organizations and their clientele by exempting the sales and use tax on merchandise sold at auction. As a result, it increases the amount of funds available to charitable border organizations for funding shelters for the homeless. The program also eases the administrative burden since the administrative costs associated with collecting taxes from such infrequent sales could exceed the amount of taxes collected.

Exclusion/Exemption:

Sales by Thrift Stores Operated By Nonprofit Organizations

Description

This program exempts from taxation the sale, storage, consumption, or use of used clothing, household goods, or other items sold by thrift stores operated by nonprofit organizations. It has a sunset date of January 1, 2002. The thrift store involved must be operated for the purpose of raising revenues for funding medical and social services for chronically ill individuals, with at least 75 percent of its net revenues being expended for these purposes.

Rationale

This program provides tax relief to nonprofit organizations (such as hospital auxiliary organizations) that raise revenues for the purpose of funding medical and social services for the chronically ill. The program's underlying rationale is that the qualifying organizations are providing a socially desirable service, and therefore deserve public financial support.

Exclusion/Exemption:

Option to Pay Tax on Cost Rather Than Lease Receipts

Description

This program provides that owners of property engaged in the business of leasing such property to others may choose to pay sales tax based on the purchase price that they paid for the property, rather than pay use tax on their lease receipts. To qualify, property must be leased in substantially the same form as it was acquired by the lessor. This program does not apply, however, to the rental of video cassettes, which are taxed solely on the basis of rental receipts under California Revenue and Taxation Code Section 6006 (g) (7).

Rationale

This program provides tax relief to lessors and lessees of qualified property. The rationale underlying the program is to facilitate the compliance of the lessor with the state sales tax code and to simplify tax administration. The program accomplishes these ends by allowing businesses to pay the sales tax once, upon the purchase of the item, rather than requiring the lessor to pay the tax repeatedly based on the property's rental receipts.

Comments

Under this program, a lessor can choose the most advantageous tax strategy for any specific situation. The State Board of Equalization indicates that lease receipts are chosen as the basis of tax for about 75 percent of all leased property. This approach is preferred by car rental companies, for example. Most rental cars are resold after a year or two, so that rental receipts for these cars are significantly less than their purchase price. Thus, paying tax on the rental receipts results in a smaller total tax liability for the rental company than paying tax based on the purchase price. Paying tax on lease or rental receipts also reduces the amount of capital required for lessors to purchase property initially. In the case of property that is leased for its full economic life, paying sales tax on the purchase price rather than on lease receipts generally would result in a smaller tax liability.

Exclusion/Exemption:

Tax Liability on "Bad Debts"

Description

This program exempts retailers from paying sales and use taxes due on accounts which have been determined to be uncollectible.

Rationale

This program provides tax relief to businesses which have incurred financial losses due to their inability to collect money from customers who have not paid their bills. The underlying rationale for the program is that businesses, especially small firms, can suffer considerable hardships when they are unable to collect money from customers who have purchased goods using credit. Such financial losses can impair a firm's ability to pay taxes, since the funds to pay these taxes normally are collected from its customers.

Comments

The above-cited rationale for this program is strongest when retailers can show that they have executed proper caution when granting credit to consumers. In the absence of such care, however, the rationale loses strength.

Exclusion/Exemption:

Acquisition Sale-Leaseback Arrangements

Description

This program exempts from sales and use taxation any transfer of the title to, or lease of, property under a qualifying "acquisition sale-leaseback." An acquisition sale-leaseback is a financing arrangement wherein the purchaser of property sells that property to a third party and then leases it back from that third party. These transactions generally are "on paper" only and do not involve any physical transfer of the property. In order to qualify for this program, an acquisition sale-leaseback must be consummated within 90 days of the first functional use of the property, and the sales or use tax must have been paid on the initial purchase of the property.

Rationale

This program reduces the cost of acquiring property financed through sale-leaseback arrangements. It does so by eliminating sales tax on the sale to the lessor or, alternatively, the use tax on the lease payments to the lessee. The rationale for the program is that qualifying sale-leasebacks are financing arrangements similar to a mortgage. On that basis, it is argued that taxing the sale-leaseback transaction, in addition to taxing the initial purchase of the property, would amount to double taxation.

Comments

Most sale-leaseback transactions probably would be exempt from sales and use taxes, even in the absence of this program. This is because the courts have ruled (prior to the establishment of this program) that no taxable sale occurs when the sole object of a sale-leaseback is to obtain financing for the purchase of equipment (Cedars-Sinai Medical Center v. State Board of Equalization, 162 Cal. App.3d.1182). This program was enacted by Chapter 558, Statutes of 1990 (AB 3382, Baker), in part to simplify tax administration by setting a specific 90-day window in which sale-leasebacks must be completed in order to be tax exempt.

Exclusion/Exemption:

Factory-Built School Buildings

Description

This program exempts from taxation 60 percent of the sales price of qualified factory-built school buildings. Additionally, it specifies that the place of sale is the retailer's place of business, regardless of whether the sale includes installation or the building is placed on a permanent foundation.

Rationale

The intent of this partial exemption is to equalize tax treatment of factory-built school buildings with that of site-built buildings. Generally, the sales and use tax applies only to the building materials used to construct a site-built building, rather than to the full price of the completed building. It was determined that approximately 40 percent of the sales price of a factory-built school building represents the value of the building materials and, thus, the remaining 60 percent of the price of such school buildings should be exempt from taxation.

This program is consistent with the 60 percent exemption which also applies to factory-built housing, described under a separate program discussed earlier (see program entitled, "Factory-Built Housing").

Comments

This program was enacted by Chapter 816, Statutes of 1989 (AB 1051, Leslie) and Chapter 763, Statutes of 1990 (AB 4029, Leslie).

The Board of Equalization (BOE) adopted regulations a few months prior to enactment of this program which classified essentially all installations of modular buildings, including factory-built school buildings, as construction projects so that they would be taxed as if constructed on the site. Under that treatment, a purchaser, such as a school district, pays sales tax only on the value of fixtures and equipment supplied with the building. The manufacturer pays sales or use tax on the materials used to make the building, but no tax is applied to the value added by the manufacturer.

According to BOE, the total tax liability for manufactured buildings under this regulation is similar to the tax liability under this program (that is, about 40 percent of the total value is taxed). Therefore, this program has no significant impact on the amount of tax revenue compared with the board's regulatory interpretation of general sales and use tax law.

Under the board's regulations, however, the local share of sales tax revenues would have been allocated to both the localities where the manufacturer's suppliers were located and to the locality where the building was installed. The main purpose of enacting this program was to ensure that the city and county in which the building manufacturer is located continue to receive the local portion of the sales tax.

Exclusion/Exemption:

Endangered Animal and Plant Species

Description

This program exempts from taxation the sale or use of endangered or threatened animal or plant species, provided that the buyer and seller are both nonprofit zoological societies.

Rationale

The intent of this program is to provide tax relief for zoos that breed and exchange animals and plants of endangered species (primarily animals). Some zoos specialize in the development and breeding of certain animal species. Prior to enactment of this program, zoos had been assessed back taxes for making animal exchanges. The program's rationale is that it is a worthy public goal to encourage zoos to breed and exchange endangered species.

Comments

This program does not apply when zoological societies purchase animals or plants from for-profit sources. This program was established by Chapter 937, Statutes of 1989 (AB 804, Peace).

Exclusion/Exemption:

Investments by Manufacturers

Description

This program provides a partial exemption from sales and use tax for manufacturing, research, and recycling property purchased by "new businesses." The exemption provided under the program is equal to five cents per dollar of the sales and use tax normally owed, which represents the portion of the sales and use tax levied by the state for the General Fund. (The taxpayer still has to pay the additional statewide sales and use tax and any local sales and use taxes.)

To qualify, a business must have (1) commenced business activities in California after 1993, and (2) been in existence for fewer than three years. In addition, the business must be engaged in certain lines of business defined in the U.S. Standard Industrial Classification Manual as "manufacturing" activities.

The program covers property costs that are considered "capital expenditures." (It also includes the value of any capitalized labor costs that are directly related to the construction or modification of these expenditures.) Eligible property is depreciable property (such as machinery and computers) or computer software used primarily in (1) manufacturing, research, pollution control, or recycling activities, or (2) maintaining, repairing, measuring, or testing property used in such activities. In addition eligible property includes, for certain activities, special purpose buildings and foundations that are primarily used in connection with manufacturing, refining, processing, fabricating, or research and storage.

A taxpayer may claim a tax refund under this program if sales and use taxes were paid on qualified costs and if the taxpayer was eligible for this exemption, but did not claim it. The program sunsets January 1, 2001, or earlier under certain conditions.

Rationale

This program provides an incentive for qualified taxpayers to expand manufacturing and research property in California. It does this by offsetting a portion of the costs incurred through a partial sales and use tax exemption. It provides tax relief to new businesses that may not be able to claim the Manufacturer's Investment Income Tax Credit (which is available to all businesses) because they do not have positive tax liabilities (which is common among new businesses with large start-up expenses, and thus, similarly large tax deductions for business expenses and losses). Thus, this program tries to equalize tax treatment between new businesses and well established businesses that may be able to readily claim the income tax credit.

Comments

To the extent that this program reduces the cost of capital acquisition to businesses, it results in an unknown expansion in business activity. Also, refer to comments under the PIT and BCT income tax program entitled "Manufacturer's Investment Tax Credit."

Pursuant to Chapter 323, Statutes of 1998 (AB 2798, Machado) this program was expanded to include teleproduction and post-production equipment.

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