Impact of Recently Approved Ballot Measures on San Francisco Business Tax

Among the measures approved by San Francisco voters in 2018 were a few notable propositions targeting the city’s business taxpayers. Proposition C, passed in June 2018, imposes a tax on individuals and businesses who receive income from the lease or sublease of commercial space and is intended to fund child care and education expenses for low-income residents. Another Proposition C, passed in November 2018, will fund housing and homelessness services through an increase in gross receipt or payroll tax rates.  Finally, Proposition D establishes an economic nexus standard for purposes of the city’s gross receipts and payroll tax and also increases and expands the scope of the local marijuana business tax.

Proposition C – Early Care and Education Commercial Rents Tax Ordinance

Passed in June 2018 and effective January 1, 2019, the Early Care and Education Commercial Rents Tax Ordinance (Commercial Rents Tax) generally applies to businesses leasing commercial space in San Francisco. In addition to the existing gross receipts and payroll expense taxes, this measure imposes a new gross receipts tax of:

• 1% on the amounts a business receives from the lease or sublease of warehouse space in San Francisco;
• 3.5% on the amounts a business receives from the lease or sublease of other commercial spaces in San Francisco.

Commercial space is any building or structure, or portion of a building or structure that is not residential real estate. For the purposes of this tax, commercial space does not include any building or structure, or portion of a building or structure, which is used for:

• Industrial Use, as defined in Section 102 of the San Francisco Planning Code (Planning Code);
• Arts Activities, as defined in Section 102 of the Planning Code; or
• Retail sales or service activities or retail sales or service establishments that are not Formula Retail uses as defined in Sections 303.1(b) and 303.1(c) of the Planning Code.

Businesses will file and pay the Commercial Rents Tax at the same time and in the same manner as the gross receipts and payroll expense taxes. This includes making three quarterly estimated payments of the Commercial Rents Tax liability throughout the tax year.

Proposition C – Homelessness Gross Receipts Tax

Passed in November 2018 and effective January 1, 2019, the Homelessness Gross Receipts Tax generally applies to corporate taxpayers with more than $50 million in total combined taxable gross receipts sourced to San Francisco, or to those taxpayers who are subject to the administrative office tax.

In addition to the existing gross receipts and payroll expense taxes, this measure imposes an additional gross receipts tax ranging from 0.175% to 0.69% (based on NAICS code) on combined taxable gross receipts over $50 million. Businesses or combined groups that pay the administrative office tax will pay an additional tax of 1.5% on their payroll expense in San Francisco.

These additional taxes generally would not apply to:

• Certain nonprofit organizations and businesses exempt from local taxation, such as banks and insurance companies;
• Receipts that are exempt from the gross receipts tax; and
• Receipts subject to San Francisco’s Early Care and Education Commercial Rents Tax.

Proposition D

Economic Nexus Standard

Prior to January 1, 2019, businesses were generally required to register in San Francisco and would be subject to the gross receipts and payroll tax if they had established physical presence either by maintaining a fixed place of business or having persons, employees or representatives render services or solicit business for more than seven days during the tax year. Effective January 1, 2019, businesses that earn more than $500,000 in gross revenue from San Francisco that do not have a physical presence in San Francisco may also be required to register with San Francisco and would be subject to the gross receipts and payroll taxes.

Additional Tax on Cannabis Businesses

Beginning January 1, 2021, Proposition D would impose a new gross receipts cannabis business tax of:

• 2.5% on the first $1 million of gross revenues from the retail sale of cannabis products;
• 5% on gross revenues over $1 million from the retail sale of cannabis products;
• 1% on the first $1 million of gross revenues from cannabis business activities other than the retail sale of cannabis products; and
• 1.5% on gross revenues over $1 million from cannabis business activities other than the retail sale of cannabis products.

These additional taxes would not apply to:

• Revenues from the retail sale of medicinal cannabis;
• The first $500,000 of gross revenues;
• Revenues from certain activities indirectly related to cannabis businesses; or
• Some businesses exempt from San Francisco’s gross receipts tax, such as certain nonprofit organizations.

The Takeaway

Both of the Proposition C measures passed with a majority vote but did not meet the two-thirds vote required to avoid a potential legal challenge. Other approved tax measures that made it on to the ballot through the initiative process have been challenged in court on the grounds that they should require the higher threshold to pass. Funds from the Homelessness Gross Receipts Tax have been frozen due to a legal dispute regarding the vote requirement for the measure’s passage. The timeline for resolving the legal challenges to the measure is unknown, but the process could take several years. Proposition D was put on the ballot through a vote of the San Francisco Board of Supervisors and passed with 65.67% of voters supporting the measure. Taxpayers should consider the impact of the measures for purposes of properly estimating and paying 2019 San Francisco taxes.