Runaway Production: It’s Not About Lower Taxes, It’s About Cash Handouts
One of the common misconceptions about runaway production concerns the underlying economic conditions that cause it. Some people argue California’s high tax rate is to blame, and runaway productions are going to states that offer lower overall taxes. This is not correct. Lower taxes seem to have little to do with runaway production. Cash handouts, on the other hand, have everything to do with why California is losing its grip on its signature industry. The way in which the California Film & Television Tax Credit functions is very different from the competition. California is the only place where the film incentive operates as a pure reduction in taxes owed. Let’s take a look at how film incentives in other states and nations work…
Most states’ film incentives come in one of two forms: transferable tax credits and refundable tax credits. What’s the difference? Transferable tax credits allow filmmakers to sell their credits to third-party taxpayers in the issuing state. Refundable tax credits allow filmmakers to obtain direct payments from the state for any credits that exceed their total tax liabilities.
The Center on Budget and Policy Priorities offers the following explanation of how refundable tax credits work:
If a producer lacks sufficient tax liability to use all of a refundable film tax credit, the state pays the producer the whole credit anyway, in effect giving the producer an outright cash grant. For example, suppose that a producer is awarded a film tax credit of $100,000 but has a pre-credit tax liability of only $50,000. A non-refundable credit would reduce the producer’s tax liability to $0 but leave it with $50,000 in unusable credits. If the tax credit is refundable, the state pays the producer $100,000, which includes the $50,000 in credits it otherwise could not use.
Thus, with refundable tax credits, the issuing jurisdiction is issuing direct payments to filmmakers. In New Mexico (which offers refundable tax credits), a $100 million film budget spent in the state only costs the producer $75 million, as the remaining $25 million is financed by the state’s 25 percent refundable tax credit. The New Mexico Film Office itself calls the film credits “cash” and boasts the state “literally sends you a check”:
Is it a rebate or a credit? Technically, New Mexico has a “refundable tax credit.” In other words, cash for the full amount – with no brokering required. TRD literally sends you a check or deposits the amount into your bank account.
Is the credit on the full amount or just the tax portion? The full amount. Example: you spend $95.00 and $5.00 on tax for a total of $100.00. You get $25.00 back.
For transferable tax credits, payments to producers come more indirectly from the state. Unlike a refundable credit, which gives the producer 100 percent face value of the credit, transferable credits must be sold to third parties at a discount. Typically, producers can sell the credits for about 90-cents on the dollar. In Massachusetts (which offers transferable tax credits), insurance companies, financial institutions (such as Bank of America) and corporations (such as Wal-Mart) are also beneficiaries of the tax credits:
Why are most film tax credits refundable or transferable? Because the production companies rarely, if ever, have any tax liability in the leading incentive states. If the credits could only be used to satisfy the productions’ own tax liability, they would be practically worthless. As the chart above shows, of the $276.1 million in credits issued from 2006-2010 in Massachusetts, just $7.9 million were used by production companies to relieve actual tax liabilities. The vast majority ($254 million) of the credits were sold.
Similarly, in Pennsylvania, of $101 million in tax credits issued to film and television productions from 2008-2010, just $1.4 million was used by producers to satisfy their tax liabilities in the state. The remaining $100 million in credits was sold to other Pennsylvania taxpayers. Even Pennsylvania’s most famous resident filmmaker, director M. Night Shyamalan did not use credits for one of his films to offset Pennsylvania taxes. From 2008-2009, Shyamalan’s film The Last Airbender received $37.7 million in tax credits based on the film’s $158 million worth of in-state spending (Pennsylvania’s credit covers 25% of in-state spending). According to state records, all of those credits were sold to third parties; none were used to satisfy film producers’ tax liabilities.
So what does this all mean? For one, it begs the question: does the benefit vs. cost of having a tax credit ultimately pay off for Pennsylvania residents?
Massachusetts and Pennsylvania both use a transferable tax credit. New York’s film incentive, however, offers a refundable tax credit. Any credits issued that exceed the production companies tax liabilities are refunded as direct payments to the producers. In November 2013, New York Governor Cuomo’s special commission on tax reform took issue with calling film tax credits “refundable” because the word is easily misinterpreted.
[R]efundable credits are best thought of as cash payments made through the tax system… rather than as refunds of taxes paid.
According to the commission, 93% of all New York film tax credits issued in 2008 were paid directly to productions, and 7.5% were used to reduce tax liability.
Like New York, North Carolina also offers refundable film tax credits. Once again, the numbers show the vast majority of issued tax credits issues were refunded:
If the amount of credits refunded in 2011 is similar to the rate refunded vs. claimed from 2008 to 2010, producers will be getting almost $23 million from the state of North Carolina. From 2008-2011, the largest recipient of money is the CW Network’s One Tree Hill at roughly $27 million. The largest payment to a single movie was $20 million for Iron Man 3.
The Canadian Province of Saskatchewan, like North Carolina, also offers a refundable film credit (currently being phased out). Saskatchewan Premier Brad Wall recently explained the difference between a traditional tax credit/reduction for industries like oil and potash mining and the refundable film credits. According to Wall, just 2% of film credits were used to satisfy taxes and a whopping 98% were refunded as direct payments:
Some have incorrectly argued that similar grants occur in other industries such as oil and potash. Oil gets no subsidy. Potash companies receive a temporary decrease in royalties during major capital expansions like the construction of a new mine. This is significantly different for two reasons. One, this is a tax reduction applied against taxes payable in Saskatchewan, and the potash companies still wind up paying a significant amount of taxes and royalties in our province. Two, it is not a permanent tax reduction. The incentive ends after the capital investment ends, and when it ends, Saskatchewan potash producers pay the highest royalties in the world.
And then there is Louisiana. Louisiana is one of just three states whose film tax credits are transferable or refundable. Either way, William Doyle, the lead location manager on “The Curious Case of Benjamin Button”, said the Louisiana film credits were “cash…literally right off the top of your budget”:
I think that the only way that this movie was made possible was what Louisiana was doing to foster a new industry, which were massive tax credits, and tax credits are basically cash. You can sell them on the open market. It’s literally right off the top of your budget.
Unlike New Mexico or North Carolina, however, the refund for tax credits in Louisiana is not for 100% of their value. In Louisiana, the cash refund option operates under a buy-back provision. For many years, the price Louisiana paid to producers for tax credits was 74-cents on the dollar and virtually no one elected to sell their credits back to the state when they could get 85-95 cents on the dollar by selling them to a broker. But in 2009, Louisiana began paying 85-cents on the dollar and the buy-back part of the program has taken off. By 2012, almost half of Louisiana’s film credits were paid out directly from the state coffers:
Why the California Film & Television Tax Credit is Different:
In California, our Film & Television Tax Credit Program isn’t about money up front. California’s incentive functions uniquely when awarded to a non-independent project. Most California state credits cannot be sold or refunded and the major studios can only use them to satisfy a portion of their state taxes. Only independent productions can sell their credits, which account for roughly 15% of total credits issued each year. For the 85% of credits awarded to non-independents, the credits are a reduction on taxes owed that can only be earned after spending millions to hire Californians and make the project in the Golden State. It is not a tax cut based on the hope business will spend the money to hire workers and expand, rather it works as a tax cut that REQUIRES business to hire and spend locally.
Some critics of the California film incentive argue that it would be better to lower taxes on all California businesses, rather than single out the entertainment industry and “pick winners and losers.” Most people would prefer lower taxes, but the real reason the California film incentive is effective in stemming runaway production is because it requires that productions spend most of their money in California. A broad corporate tax cut for everyone probably wouldn’t be as effective in bringing productions back.