Publications & Resources

January/February 2008
Focus: Compliance

Location-Based Tax Credits for Banks

By James D. Goeller & Deborah Van Horn

To encourage job development in targeted areas, “enterprise zones” began to emerge in many states across the U.S. in the early 1980s. The purpose of these zones was to revive depressed urban areas by targeting tax breaks to encourage business to relocate or expand operations in these depressed areas. As job creation is the primary objective of many of these policies, the most prevalent incentives given are tax credits for increased hiring.  Historically, hiring tax credits were effectively restricted to manufacturing, transportation and distribution centers; however, changes within the enterprise zone programs over the last ten years have made these incentives very attractive to banks, especially in California . 

Currently there are 32 states with hiring tax credits including Arizona , California , Colorado , New Mexico and Utah. The qualifications to be eligible for these hiring credits differ from state to state. In California , the enterprise zone program is designed to encourage businesses to hire employees living in targeted communities who meet one of 13 eligibility categories. In Arizona , if the bank is located in a zone then all new hires qualify the bank for hiring credits. The generosity of these tax credits also varies widely from state to state. For example, Arizona allows a $3,000 hiring tax credit over a three-year period while California allows a $35,000 hiring tax credit over a five-year period for each eligible employee. 

In addition to these hiring tax credits, banks lending to businesses in a zone enjoy special tax breaks in three states. Indiana allows a five percent tax credit for qualifying gross interest to borrowers in zones. California and Illinois allow lenders to exclude net interest income from borrowers in the zone from taxation. 

California provides an example of the changing landscape for these incentives. There are 45 designated zones in California . In November of 2006, the governor reinstated 23 zones that were set to expire and added three new zones in Southern California . Currently, each zone administrator is announcing their new street designations with many zones significantly increasing in size. Newly increased zones include San Francisco and North Sacramento (both nearly doubling in size), Long Beach (up to 72% of the city designated) and the entire city of Compton . 

The California enterprise zone program entitles qualifying businesses to claim tax credits, which can often virtually eliminate their California tax obligations. Unused tax credits can be carried forward indefinitely and applied to offset tax liabilities in future years. 

In addition to the increase in the size of the zones, the California State Board of Equalization (“SBE”) provided new, taxpayer friendly, guidance on hiring tax credits (“HTC”). The recent decision in the Jessica McClintock case is significant as it provides the only guidance currently available for interpreting the eligibility categories for HTC. 

In brief, the SBE found that an employee does not have to be registered in the Work Investment Act (WIA) to qualify for the hiring tax credit; the employer can claim the credit on behalf of any individual eligible to participate in the program. 

Conclusion

Banks with operations in the southwest have an opportunity to significantly reduce their taxes in a number of states. With the expansion of the enterprise zones in California , banks have an opportunity to significantly reduce their California taxes by taking advantage of the CAEZ. Even if your bank is not located in a California zone substantial California tax benefits can still be obtained by lending to businesses located in a zone. 

James D. Goeller is partner and Deborah Van Horn is senior vice president for Perry-Smith LLP in Sacramento , Calif. They can be reached at jgoeller@perry-smith.com and dvanhorn@perry-smith.com respectively.

Unauthorized reproduction of all or part of this material without the express written consent of the author is strictly prohibited. All rights reserved.