October 30, 2003 - Phil Hodgen

New California Water’s Edge Law

In the run-up to his removal from office, our soon-to-depart Governor Davis signed into law a revision to the water’s edge rules. Here’s a link to the new law.

In a nutshell, California will tax everything, everywhere, given a half a chance. (I am only slightly facetious here).

Companies doing business in California and abroad get a trifle miffy about this — why should California try to tax me on profits I derive from manufacturing a widget in Hong Kong that is shipped direct to Germany? Nevertheless, that’s the risk. Let’s not bore ourselves with the details. The California corporate tax is carefully disguised through arcane and complex formulas. But it’s there. You’ll feel the pain as you write the check.

There’s a way to draw some bright lines and prevent some pain. Done right, it California will then only tax income from sources within the United States.

The new law is all about the method for getting this done. It used to be that you’d sign a contract with the Franchise Tax Board. But there were too many pointy bits and sharp angles on that system and it was easy to do it all wrong.

The Franchise Tax Board recognized this and proposed changes to the way the election is done. That’s a good move. Here is the summary of the law when it was proposed. It contains a nice little explanation of the problem, the attempted fixes over the years, and what this new law is supposed to do.

In the interest of feeding the completely anal-retentive/ obsessive-compulsive side of my personality (these are good things), I must warn you that there was a June 30, 2003 modification of the proposed law as it worked its way through the sausage factory. It had nothing to do with the water’s edge election, however.