City of Sacramento
Law and Legislation Committee Report
915 I Street Sacramento, CA 95814
www.cityofsacramento.org
File ID: 2023-01252 10/3/2023 Discussion Item 3.
Business Operations Tax Modernization
File ID: 2023-01252
Location: Citywide
Recommendation: 1) Receive a report on options to modernize the City’s Business Operations Tax (BOT); and 2) Pass a Motion directing staff to draft a BOT modernization ballot measure for Council consideration.
Contact: Pete Coletto, Director of Finance (916) 808-5416, [email protected]; Jackie Rice, Finance Manager (916) 808-5844, [email protected]; Bryan Howard, Program Manager (916) 808-4847, [email protected], Department of Finance Presenter: Pete Coletto, Director of Finance, (916) 808-5416, [email protected]; Jackie Rice, Finance Manager, (916) 808-5844, [email protected], Department of Finance Attachments:
1-Description/Analysis
2-Business Operation Tax Modernization
3-Resolution 2017-0078
Additional Description/Analysis
Issue Detail: The City’s BOT was enacted by Ordinance in 1975 and, for non-cannabis businesses, was last updated in 1991. Minimum payment, maximum payment, and gross receipts thresholds have not been adjusted for inflation since 1991. In 2010 and again in 2020 Management Partners recommended modernization of the City’s BOT as a strategy to enhance revenue. The City’s 5-year forecast in the Fiscal Year (FY) 2023/24 Approved Budget projects a structural deficit with ongoing expense growth outpacing revenue growth over the term of the forecast. In 2010 Council considered placing a measure on the ballot but ultimately did not move forward. During the FY 2023/24 budget hearings, Council directed staff to explore options to modernize the City’s BOT.
City staff has examined practices in similarly sized cities in California to develop options for updating BOT policies and rates (Attachment 1). Staff findings include the need to adjust for
File ID: 2023-01252 10/3/2023 Discussion Item 3.
previous and future inflation, the need to increase the maximum annual payment cap, and opportunities to standardize rules to make the BOT easier to understand and administer. Based on these findings staff developed three options for consideration to modernize the City’s BOT.
Option 1 - Inflation Adjustment
· Inflation adjustments for gross receipt tax businesses based on Consumer Price Index (CPI) growth from 1991 to 2023:
· Gross Receipts minimum threshold from $10,000 to $22,810; · Minimum payment from $30 to $68;
· No change to 0.04% rate
· Inflation adjustment of flat fee for all professionals to $684 and per employee rate to $68.
· Inflation adjustment of flat fee for all rentals/hotels to $114 and per room/unit rate to $2.85.
· Add an annual inflation adjustment tied to CPI.
· Increase maximum annual payment cap from $5,000 to $11,405.
Staff estimates that Option 1 would result in additional revenue of approximately $3.0 million in the first full fiscal year.
Option 2 - Higher Rate/Remove Cap
· Inflation adjustments for gross receipt tax businesses:
· Gross Receipts minimum threshold from $10,000 to $22,810; · Minimum payment from $30 to $68;
· Increase rate from 0.04% rate to 0.06%
· Inflation adjustment of flat fee for all professionals to $684 and per employee rate to $68.
· Inflation adjustment of flat fee for all rentals/hotels to $114 and per room/unit rate to $2.85.
· Add an annual inflation adjustment tied to CPI.
· Remove maximum annual payment cap.
Staff estimates that Option 2 would result in additional revenue of approximately $17.2 million in the first full fiscal year.
Option 3 - Staff Recommendation
· Inflation adjustments for gross receipt tax businesses:
· Gross Receipts minimum threshold from $10,000 to $50,000; · Minimum payment from $30 to $50;
· No change to 0.04% rate
· Inflation adjustment of flat fee for all professionals to $684 and per employee rate to $68.
File ID: 2023-01252 10/3/2023 Discussion Item 3.
· Inflation adjustment of flat fee for all rentals/hotels to $114 and per room/unit rate to $2.85.
· Add an annual inflation adjustment tied to CPI.
· Increase annual maximum payment cap from $5,000 to $150,000.
Staff estimates that Option 3 would result in additional revenue of approximately $6.6 million in the first full fiscal year.
There are pros and cons associated with each of the three options:
Staff is recommending Option 3 as it strikes the best balance between raising revenue and impacting business while having a minimal impact on businesses grossing under $12.5 million per year.
In order to meet deadlines for the March 2024 ballot, the Committee must pass a motion directing staff to draft a BOT modernization measure for Council consideration on October 31, 2023.
Council would then need to take additional action on November 14, 2023 to put the item on the March 2024 ballot.
Policy Considerations: Modernization of the BOT is consistent with council adopted Core Budget Policies and Guidelines adopted February 14, 2017 (Resolution 2017-0078, Attachment 2). These policies call for one-time resources only be used for one-time costs; ongoing expenditures should be matched with ongoing financing sources and reserves are to be used in a planned and strategic manner. The City's BOT has not been updated since 1991 and since that time City expenses have increased, while the $5,000 annual BOT payment cap has not increased, nor have minimum BOT
File ID: 2023-01252 10/3/2023 Discussion Item 3.
payments. The City Budget is forecast to be in structural deficit with expense growth outpacing revenue growth.
In addition, the City’s low maximum annual BOT payment cap creates a regressive tax rate structure.
When considering adjustments to the BOT, it is important to recognize that a gross receipts tax is a ‘top line’ tax that does not consider business expenses and can have a larger impact on low margin businesses. The City must also take into consideration that some businesses with high gross receipts may also be large sales tax generators, and a high BOT rate could cause those firms to move or close, negatively impacting other general purpose revenues.
Economic Impacts: The economic impact of a BOT modernization would be dependent on the modernization strategy pursued. However, the increased tax burden will support and help offset the increased cost of essential City services, which also serve local businesses.
Environmental Considerations: Not applicable.
Sustainability: Not applicable.
Commission/Committee Action: Not applicable.
Rationale for Recommendation: During the FY 2023/24 Budget Hearings, Council directed staff to explore modernization options for the City’s BOT. Given best practices in similarly situated jurisdictions and consideration of impact to local businesses, staff is recommending Option 3 as it balances the goal of modernization with minimizing the impact on businesses grossing under $12.5 million per year.
Financial Considerations: The City's FY2023/24 Budget projects a structural deficit with the City facing increased cost growth. Staff revenue estimates were based on FY2022/23 BOT data.
Increased revenues from the three options presented by staff range from $3.0 million per year to $17.2 million per year. Adjusting annually for inflation would increase revenues in subsequent years.
In addition, the City has substantial unfunded pension and capital infrastructure liabilities.
Modernizing the BOT and raising general purpose revenue is an important step in improving the City’s fiscal position.
Local Business Enterprise (LBE): Not applicable.
BUSINESS OPERATIONS TAX
MODERNIZATION
BUSINESS OPERATIONS TAX MODERNIZATION
• During the Fiscal Year 2023-24 Budget Hearings, Council directed staff to explore modernization options for Business Operations Tax (BOT). • The BOT on non-cannabis businesses has not been updated since 1991, and the limits established in 1991 have not been adjusted for inflation. • In 2010, Council considered a recommendation to increase the gross receipts rate and the maximum payment cap, but did not advance it to the ballot • Proposal was to increase BOT rate from 0.04% to 0.064% over 3 years and increase the maximum payment cap to $30,000
• As the voters have recently acted on the Business Operations Tax for cannabis businesses, the following presentation is to present options for updating the BOT for non-cannabis businesses.
CURRENT SACRAMENTO BOT
• Established in 1975 and last updated in 1991.
• The maximum BOT payment cap is $5,000 per year for all businesses. • Charitable and non-profit organizations that are exempt under State or Federal law are exempt from payment of the City’s BOT.
• Landlords renting 3 or fewer units are exempt from BOT. • Accountants, Architects, Attorneys, Doctors, Engineers etc • Flat rate based on # years with license up to $300 plus $30 per licensed employeeProfessional Business Owners • Real Estate Broker, Insurance Broker, or Stock Broker • Flat rate of $100 for primary broker plus $30 per licensed employeeProfessional Brokers •Flat rate of $50 for hotel/motel/short term rental plus $0.75 for each unit in excess of 4 •If renting 4 or more residential units, $25 flat fee + $1.75 per each unit in excess of 4Housing & Shelter •Gross receipts equivalent amount determined by expenses in the City or by building permit cost. •0.04% of gross receipts equivalent ($0.40 tax for every $1,000 in gross receipts) for gross receipts over $10,000
Construction / Manufacturing /
Admin Headquarters
• 0.04% of gross receipts ($0.40 tax for every $1,000 in gross receipts) for gross receipts over $10,000. All Other Businesses
BOT REVENUES BY FISCAL YEAR EXCLUDING CANNABIS (MILLIONS) $8.2
$9.3
$10.0
$7.3
$8.0
$8.9
$8.1
$9.1
$8.5
$9.7
$8.9
2012-13 2013-14 2014-15 2015-16 2016-17 2017-18 2018-19 2019-20 2020-21 2021-22 2022-23 BOT REVENUE BY CATEGORY FY 2022-23 (MILLIONS)
Professional Owner
$0.6
7%
Professional Broker
$0.1
1%
Residential Rental
$0.1
1%
Hotel/Motel/Short-
T erm Rental
$0.1
1%
Gross Reciepts Based
$7.5
84%
Construction /
Manufacturing /
Admin
$0.5
6%
BOT BUSINESS PROFILE – FY 2022-23
Annual Gross Receipts FY 23 # Businesses T otal BOT
Revenue
Effective BOT
Rate
$0 - $10,000 6,433 $0.3 0.869%*
$10,001 - $100,000 5,872 $0.3 0.125%
$100,001 - $1,000,000 5,306 $1.0 0.051%
$1,000,000 - $5,000,000 2,310 $2.1 0.042%
$5,000,001 - $12,500,000 569 $1.8 0.040%
$12,500,001 - $25,000,000 201 $1.0 0.029%
$25,000,001 - $50,000,000 96 $0.5 0.014%
$50,000,001 - $100,000,001 54 $0.3 0.008%
$100,000,000+ 37 $0.2 0.001%
Total – Gross Receipts Businesses 20,878 $7.5M 0.020%
Total Professionals 1,859 $0.7M
Total Rentals 1,735 $0.2M
Total Other 155* $0.5M
Grand T otal 24,627 $8.9M
*Excludes count of construction businesses (associated revenue is included)
COUNCIL REQUEST METHODOLOGY
T o examine BOT modernization options, staff considered the following:
• Practices in peer city jurisdictions to examine best practices among similarly sized California cities.
• Generally accepted criteria for a good tax system:
• Adequacy – provides enough revenue to meet demand for public services; • Administrative Ease – rules are well known and fairly simple; the taxing authority can tell if taxes are paid correctly and on-time, and the taxing authority can conduct audits in a fair & efficient manner;
• Efficiency – minimize economic distortions of a tax;
• Fairness/Equity – similarly situated taxpayers pay similar amounts & differing ability to pay taken into account;
• Simplicity - taxpayers can easily calculate how much they owe; and • Transparency – taxpayers can easily find information about the tax system & how tax dollars are spent.
PEER JURISDICTIONS (EXCLUDING CANNABIS)
Jurisdiction Min Max
Gross
Receipts
Threshold
T ax Rate Other Info
Bakersfield $25 None None 0.03% then lower at higher GR levels Folsom $40 None None Varies based on level of GR with high of
0.125% and low of 0.005%
Indexed to inflation
For certain businesses
flat fee plus per
employee or per sq ft
charge
Fresno
Some
businesses
assessed flat
fee
$21,200 $5,000 ($1,250 per
quarter)
0.09% to 0.28% (lower rate at higher
GR level)
Long Beach $272 None N/A Per employee charge ranging from $11 to $34 per employee
Some businesses have
flat rate plus per
vehicle, per space etc
charge
Oakland $60 None Varies from $17k to
$120k
0.05% to 0.5% based on business type &
GR levels
Property rentals
1.395%
San Francisco None None None 0.09% to 0.94% based on business type & GR levels
San Jose $213 $176,439 N/A Per employee tax ranging from $35 to $71 per employee Indexed to inflation
FINDINGS
• Inflation – The $5,000 maximum established in 1991 would equate to over $11,000 in 2023 dollars. City operating costs have also experienced inflation. A modernized BOT should adjust for inflation & contain a mechanism for future inflationary adjustments.
• Peer Jurisdictions – Many peer jurisdictions do not have a cap on annual BOT payments. Those with a cap have it set significantly higher than the current $5,000 cap in the City of Sacramento.
• Administrative Factors – Standardizing rules where possible makes the tax easier to understand and administer.
MODERNIZATION OPTIONS
Based on the findings, staff developed 3 modernization options for consideration:
Option 1 – Inflation Adjustment
Option 2 – Increase Rate / Remove Annual Cap
Option 3 – Staff Recommendation (Maintain Rate / Higher Annual Cap) In each of the options, staff is recommending other modernizations such as indexing any caps or thresholds to inflation, standardizing flat & per employee rates for brokers & professionals, standardizing flat rate and per unit rate for rentals and hotels, and lowering the exemption for rentals to fewer than 2 units.
OPTION 1 – INFLATION ADJUSTMENT
Assumptions:
Gross receipts tax:
Gross Receipts minimum threshold from $10,000 to $22,810; Minimum payment from $30 to $68; and
No change to 0.04% rate.
Flat fee for all professionals to $684 & Per Employee Rate to $68 to account for inflation. Flat fee for all rentals/hotels to $114 and per room/unit rate to $2.85 to account for inflation. Annual inflation adjustment going forward tied to Consumer Price Index. Increase annual maximum payment cap from $5,000 to $11,405.
Revenue Impact:
~$3.0M in the first full Fiscal Year with increases in future Fiscal Years OPTION 2 – INCREASE RATE / REMOVE CAP
Assumptions:
Gross receipts tax:
Gross receipts minimum threshold from $10,000 to $22,810 Minimum payment from $30 to $68
Increase rate from 0.04% to 0.06%.
Flat fee for all professionals to $684 & Per Employee Rate to $68 to account for inflation. Flat fee for all rentals/hotels to $114 and per room/unit rate to $2.85 to account for inflation. Annual inflation adjustment going forward tied to Consumer Price Index. Remove annual maximum payment cap.
Revenue Impact:
~$17.2M in the first full Fiscal Year with increases in future Fiscal Years OPTION 3 – STAFF RECOMMENDATION
Assumptions:
Gross receipts tax:
Gross receipts minimum threshold from $10,000 to $50,000; Minimum payment from $30 to $50; and
No change to 0.04% rate.
Flat fee for all professionals to $684 & Per Employee Rate to $68 to account for inflation. Flat fee for all rentals/hotels to $114 and per room/unit rate to $2.85 to account for inflation. Annual inflation adjustment going forward tied to Consumer Price Index. Increase annual maximum payment cap from $5,000 to $150,000.
Revenue Impact:
~$6.6M in the first full Fiscal Year with increases in future Fiscal Years
OPTIONS REVENUE IMPACT BY BUSINESS SIZE
Annual Gross Receipts
FY 23
#
Businesses
Option
1 Option
2 Option
3 $0 - $10,000 6,433 $0.14 $0.14 $0.03
$10,001 - $100,000 5,872 $0.13 $0.16 ($0.01)
$100,001 - $1,000,000 5,306 $0.08 $0.46 ($0.07)
$1,000,000 - $5,000,000 2,310 $0.04 $1.05 ($0.03)
$5,000,001 - $12,500,000 569 $0.01 $0.89 ($0.00)
$12,500,001 - $25,000,000 201 $0.41 $1.11 $0.41
$25,000,001 - $50,000,000 96 $0.60 $1.54 $0.87
$50,000,001 - $100,000,001 54 $0.34 $1.93 $1.19
$100,000,000+ 37 $0.24 $8.76 $3.11
T otal – Gross Receipts 20,878 $2.00 $16.05 $5.49
T otal Other Categories 3,749* $1.00 $1.13 $1.07
T otal 24,627 $3.0 $17.2 $6.6
Revenue Impact vs Current BOT ($ millions)
*Excludes count of construction businesses (associated revenue is included)
GROSS RECEIPTS EFFECTIVE TAX RATE BY BUSINESS SIZE
Annual Gross Receipts
FY 23
#
Businesses Current Option
1 Option
2 Option
3 $0 - $10,000 6,433 0.869%* 1.486%* 1.486%* 1.093%*
$10,001 - $100,000 5,872 0.125% 0.176% 0.186% 0.121%
$100,001 - $1,000,000 5,306 0.051% 0.056% 0.074% 0.048% $1,000,000 - $5,000,000 2,310 0.042% 0.043% 0.062% 0.041% $5,000,001 - $12,500,000 569 0.040% 0.041% 0.061% 0.040% $12,500,001 - $25,000,000 201 0.029% 0.040% 0.060% 0.040% $25,000,001 - $50,000,000 96 0.014% 0.032% 0.060% 0.040% $50,000,001 - $100,000,001 54 0.008% 0.017% 0.060% 0.040% $100,000,000+ 37 0.001% 0.003% 0.060% 0.022%
T otal 0.020% 0.026% 0.063% 0.035%
*Excludes businesses with zero reported gross receipts
MODERNIZATION OPTION SUMMARY
Option 1 – Inflation
Adjustment
• Adjusts all levels for inflation
• Maintains 0.04% rate
• Standardizes
professional/rental rates &
adjusts for inflation
• Future inflation adjustments
• Maintains more regressive
structure
• $3M/year revenue impact
Option 2 – Higher Rate /
Remove Cap
• Adjusts all levels for inflation
• Increases rate from 0.04% to
0.06%
• Standardizes
professional/rental rates &
adjusts for inflation
• Future inflation adjustments
• Removes annual payment cap
• $17.2M/year revenue impact
Option 3 – Staff
Recommendation
• Smaller adjustment to
minimum payment & raises
gross receipts threshold
• Maintains 0.04% rate
• Standardizes
professional/rental rates &
adjusts for inflation
• Future inflation adjustments
• Maximum annual cap to
$150k
• Businesses under $12.5M per
year in gross receipts
generally see reduction in
BOT
• $6.6M/year revenue impact
MODERNIZATION OPTION IMPACTS
Option 1 –
Inflation Adj
Pros
•Lowest impact on businesses
•Accounts for inflation in future
years
Cons
•Lowest revenue increase
•Maintains regressive tax rate
structure
Option 2 – Raise
Rate / Remove
Cap
Pros
• Largest revenue impact
• Accounts for inflation in future
years
• More progressive tax structure
Cons
• Largest impact on business
• Larger share of revenue reliant on
smaller number of businesses
• Potential impact on sales tax
revenue
Option 3 – Staff
Recommendation
Pros
• Significant revenue impact
• Firms with GR under $12.5M see
net decrease
• Accounts for inflation in future
years
Cons
• Lower revenue than Option 2
• Higher impact on business than
Option 1
OTHER CONSIDERATIONS
• Projected structural budget deficit
• BOT limits unchanged since 1991 & not indexed to inflation • City expense growth outpacing revenue growth
• Impact on businesses
• Low $5k current tax creates regressive effective tax rate structure on businesses • Gross receipts tax is ‘top line’ tax and can have larger impact on lower margin businesses • Large gross receipts businesses may also be large sales tax generators & too large of a BOT could cause firms to close or leave
• Increases could be phased in to help mitigate impact on businesses • Timing of ballot measure & budget development process
NEXT STEPS
Earliest opportunity to put on the ballot would be the March 2024 primary. T o make March 2024 ballot deadlines, the City would need to follow the timeline below:
Oct 3, 2023 - Law & Leg Committee to provide direction and/or advance recommendation to Council
Oct 31, 2023 – Council considers BOT Modernization Ordinance Nov 14, 2023 – Council acts to put item on March 2024 Primary Election
QUESTIONS & DISCUSSION
RESOLUTION NO. 2017-0078Adopted by the Sacramento City Council February 14, 2017 APPROVING FY2017/18 BUDGET DEVELOPMENT PRINCIPLES BACKGROUNDA. The City Manager is required to present a balance budget to the Mayor and City Council no less than 60 days prior to the beginning of each fiscal year pursuant to Article 9, Section 111 of the City Charter. B. Establishing and adopting budget development principles by the Council at the beginning of the annual budget process provides direction to the City Manager and establishes a framework for developing and discussing the City’s proposed budget for next fiscal year. C. The City of Sacramento, through the leadership and direction of the Mayor and City Council, has maintained a sustainable budget philosophy. Given this concept of fiscal sustainability, the Council adopted Core Budget Policies on March 17, 2015 (Motion No. 2015-0059) and modified them on March 1, 2016 (Motion No. 2016-00265), for the development of an annual budget. BASED ON THE FACTS SET FORTH IN THE BACKGROUND, THE CITY COUNCIL RESOLVES AS FOLLOWS:Section 1. The FY2017/18 Proposed Budget shall be based on the following core budget policies: 1. City Council must adopt a balanced budget. 2. Funding decisions should be consistent with Council adopted policies. 3. The Economic Uncertainty Reserve shall be maintained at a minimum of 10% of budgeted General Fund revenues. Resources shall be added to maintain this level through the budget and midyear processes as necessary. Resolution 2017-0078 February 14, 2017 Page 1 of 3 Section 2. The FY2017/18 Proposed Budget shall be developed and managed based on the following budget guidelines: 1. Maintain a fiscally sustainable, balance budget. 2. The Mayor and Council’s priorities, based on community input, should drive the budget creation. 3. Continue a community-based budget process where city residents are engaged and educated on budget processes and provide feedback on budget priorities. 4. Look for ways to grow the reserve beyond its current goal. 5. All budget actions must be considered in a five-year context, with new revenues not counted or spent until realized. One-time resources should be used for one-time needs, not ongoing expenses. 6. Do not make spending decisions in isolation. Avoid spending money on one-off projects or without looking at the big picture. Understand long-term consequences and opportunity costs. 7. Keep Council informed on the fiscal condition of the City and conduct continuous evaluations for efficiencies and effectiveness. 8. The City must consistently look for opportunities to proactively grow revenues instead of simply being reactive. 9. Make every effort to identify private financing or federal and state grant opportunities before using City resources. Pursue new and enhance existing revenue sources. 10. Before new expenditures are made, identify return on investments and impacts; fiscal and social benefits. 11. Address unfunded long-term liabilities. 12. Remain a full-service City. Resolution 2017-0078 February 14, 2017 Page 2 of 3 Adopted by the City of Sacramento City Council on February 14, 2017, by the following vote:Ayes: Members Ashby, Carr, Guerra, Hansen, Harris, Jennings, Schenirer, Warren and Mayor Steinberg Noes: None Abstain: None Absent: None Attest:The presence of an electronic signature certifies that the foregoing is a true and correct copy as approved by the Sacramento City Council.
Resolution 2017-0078 February 14, 2017 Page 3 of 3
e-Signed by Shirley Concolino on 2017-03-16 17:41:53 GMTCity Clerk, MMCMarch 16, 2017