California Department of Tax and Fee Administration (CDTFA)

CDTFA Administers Many Tax and Fee Programs. CDTFA’s largest program is the sales and use tax, which accounts for roughly 80 percent of the department’s 2019-20 budget. The department also administers dozens of smaller tax and fee programs, such as taxes on cannabis, tobacco, and fuel.

Cannabis and Tobacco Tax Programs

In this section, we examine one aspect of the Governor’s proposals for CDTFA’s administration of cannabis taxes and tobacco taxes. In February, we published reports that took a broader look at the Governor’s cannabis proposals and e-cigarette tax proposals.

Cannabis Tax Proposal. The Governor’s main CDTFA cannabis tax proposal includes two parts:

An augmentation of $8.4 million in 2020-21, $8.2 million in 2021-22, and $8 million in 2022-23 and ongoing from the Cannabis Tax Fund to administer the cannabis tax program.
A reduction of $1.1 million in 2020-21 and 2021-22 and $0.9 million in 2022-23 and ongoing from various funds—primarily the General Fund and reimbursements from local governments.

Tobacco Tax Proposal. The Governor’s CDTFA tobacco tax proposal includes two parts:

An augmentation of $3.5 million in 2020-21, 2021-22, and 2022-23 and $0.6 million in 2023-24 and ongoing from Proposition 56 (2016) tobacco tax funds to administer the tobacco tax program.
A reduction of $2.6 million in 2020-21, 2021-22, and 2022-23, dropping to $0.5 million in 2023-24 and ongoing from various funds—primarily from the General Fund and reimbursements.

Augmentations and Reductions Best Considered Separately. The Governor’s cannabis tax and tobacco tax proposals include augmentations for those two programs and reductions elsewhere in CDTFA—primarily in the department’s field operations. (CDTFA’s field operations include audit and compliance activities based in field offices around the state.) We commend the administration for identifying resources that CDTFA does not need and proposing budget reductions accordingly. That said, the administration treats the augmentations and reductions as a package of related actions (“redirections”) without presenting a compelling reason for doing so. Instead, we advise the Legislature to consider each part of these proposals on its own merits.

Recommendation: Make All Proposed Reductions Permanent. We do not have any concerns with the Governor’s proposed augmentations for CDTFA’s cannabis tax and tobacco tax programs. We do recommend, however, that the Legislature modify the CDTFA budget reductions that the administration included in those proposals. Just $1.4 million of the $3.7 million in proposed reductions would be ongoing. Notably, $2.1 million of the proposed savings would expire after 2022-23. Scheduling the expiration of budgetary savings is akin to planning a future budget augmentation, and we see little reason to commit to such plans this far in advance. Accordingly, we recommend that the Legislature modify these proposals to make the entire $3.7 million reduction permanent. If CDTFA needs more resources in 2023-24, it can request an appropriation at that time.

International Fuel Tax Agreement (IFTA)

IFTA Requires Minimum Number of Audits. IFTA is a fuel tax reporting agreement that applies to motor carriers operating in multiple U.S. states or Canadian provinces. Under federal law, California must participate in IFTA in order to receive federal highway transportation matching funds estimated at $3 billion annually. To remain a member of IFTA in good standing, the state must audit at least 3 percent of California-based IFTA accounts annually.

California Has Fallen Short of Audit Requirements. CDTFA audited roughly 2 percent of accounts in 2017 and 2018—well short of the 3 percent requirement. The International Fuel Tax Association plans to review California’s compliance with the agreement in 2021. If the Association finds that California is out of compliance, it may impose a variety of sanctions. The most severe sanction available is expulsion from the agreement, which would jeopardize the federal highway funding mentioned above.

Governor’s Proposal. The Governor proposes an augmentation of $1.4 million in 2020-21 and $1.3 million in 2021-22 and ongoing from the Motor Vehicle Fuel Account, Transportation Tax Fund for seven new positions (including five Associate Tax Auditors [ATAs]) and five reclassified positions to perform audits and related functions for the IFTA program.

Proposal Risks Further Audit Shortfalls. Based on data provided by the administration, we estimate that the Governor’s proposal likely would not provide sufficient resources for CDTFA to meet IFTA’s audit requirement. The proposal would fund five new ATAs, bringing the total number of IFTA ATAs to 22. With these resources, CDTFA could perform 660 audits per year, but we estimate that IFTA will require the department to perform roughly 750 audits per year by 2021. We estimate that CDTFA would need three additional ATAs (at a cost of roughly $570,000 per year) to increase its audit capacity to 750 per year.