Sales Tax the Only State Tax to Decrease in 2017

Taxes“Four years ago, voters approved Proposition 30, which raised the income tax significantly on the wealthiest Californians and raised the sales tax a tiny bit on everyone,” Capital Public Radio recently recalled. “That quarter-of-a-cent increase equated to paying an additional $0.01 on a $4 coffee; $1 on a $400 television; and $100 on a $40,000 car.” But on Election Day 2016, that changed. “Voters extended Proposition 30’s income tax increases in [November’s] presidential election with Proposition 55 — but that initiative allowed the Prop. 30 sales tax hike to expire.”

The shift means California’s sales tax is the state’s only tax to be decreased this year, from 7.5 percent to 7.25 percent. As the U-T reported, “Some local jurisdictions tack on their own assessments, so residents in certain areas will still pay more than the statewide rate.” In certain parts of the state, like the San Francisco Bay Area, voters allowed substantial increases.

From spending to taxing

Prop. 30 ushered in the so-called Schools and Local Public Safety Protection Act of 2012, as California voters threw their support behind increased spending on state education and benefits. “The act increased sales tax and income tax rates to help maintain funding levels for public schools and colleges and pay for programs for seniors and low-income families,” U-T San Diego noted. “The additional revenue also provided local governments with a constitutional guarantee of funding to comply with a new state law that shifted lower-level offenders from state prisons to county jails.”

Some municipalities, particularly in parts of the state that joined a Democrat-led initiative to hike minimum wages, opted to raise more funds. “Bay Area voters this year generously approved taxing themselves in large numbers — and they’ll feel the pinch at the cash register in 2017 as local sales taxes across Silicon Valley take effect even as a state tax expires,” according to the San Jose Mercury News.

“As California cities struggle to fund basic city services like police, fire protection, libraries and parks, they’re increasingly turning to voters for help. And voters this year said ‘yes’ to tax hikes in at least eight Bay Area cities in exchange for fewer potholes, less traffic and more cops, including San Jose, Newark, Martinez and Pleasant Hill.”

Pension pinch

For years, public pension costs have steadily built pressure on Golden State cities. In some areas, the problem has become egregious: The city of El Monte, in Southern California, shelled out 28 percent of its general fund to pay retirement costs. “Among California’s 10 largest cities, only San Jose paid as much toward retirement costs relative to its general fund. Los Angeles spends 20 percent of its general fund on retirement costs,” the Los Angeles Times revealed. “El Monte’s outsize pension bill weighs heavily on the San Gabriel Valley city of 116,000, where half the residents were born outside the United States and a quarter live below the poverty line.”

Meanwhile, CalPERS, the nation’s largest public pension fund, has struggled with its own imbalanced budgets. “CalPERS has 65 cents for every dollar that it needs to provide pension benefits for almost two million people,” Fox Business recently recalled. “CalPERS pension debt is roughly $164 billion and mostly likely will grow larger in coming years.”

In an effort to come to grips with the problem, the fund reduced its forecasted return on investment from 7.5 to 7 percent. “It has been paying out $5 billion more a year in benefits than it’s receiving in contributions and investment returns, not a sustainable trend,” the Fresno Bee noted in an editorial. “With investment returns averaging 4.6 percent during the past decade, some experts urged CalPERS to reduce its forecast even more.” But that would risk pushing more California cities toward bankruptcy — or toward even higher local taxes.

This piece was originally published by CalWatchdog.com

Prop. 55: California Voters Extend Highest Income Tax Brackets to Fund Education and Healthcare

classroomCalifornia voters on November 8 passed Proposition 55, which is an initiative constitutional amendment which took effect on November 9. This ballot measure was the successful effort to extend the Prop. 30 highest marginal tax rates promoted by Gov. Brown and others in 2012 as a “temporary tax” to help stabilize the state’s General Fund. Prop. 55 was opposed by some segments of the business community, but no serious opposition effort was mounted against this ballot measure.

Pursuant to the Attorney General’s Title and Summary, Prop. 55 extends by 12 years the “temporary” personal income tax increases enacted in 2012 on earnings over $250,000 (for single filers; over $500,000 for joint filers; over $340,000 for heads of household). Prop. 55 allocates these tax revenues 89 percent to K-12 schools and 11 percent to California Community Colleges, as well as up to $2 billion per year in certain years for health care programs.

While the ballot measure also prohibits the use of education revenues for administrative costs, it provides local school governing boards with discretion to decide, in open meetings and subject to annual audit, how revenues are to be spent. These are among the required audits and disclosures under Prop. 55.

According to the revenue estimates prepared by the Legislative Analyst and the Director of Finance, the enactment of Prop. 55 “will result in increased state revenues annually from 2019 through 2030 — likely in the $5 billion to $11 billion range initially — with amounts varying based on stock market and economic trends. These increased revenues will be allocated under constitutional formulas to schools and community colleges, budget reserves and debt payments, and health programs, with remaining funds available for these or other state purposes.”

According to the official ballot arguments: “PRO: Prop. 55 helps children thrive! Prop. 55 prevents $4 billion in cuts to California’s public schools, and increases children’s access to healthcare, by maintaining current tax rates on the wealthiest Californians — with strict accountability requirements. We can’t go back to the deep cuts we faced during the last recession.”

“CON: Vote No on 55 — Temporary should mean temporary. Voters supported higher taxes in 2012 because Governor Brown said they would be temporary. State budget estimates show higher taxes are not needed to balance the budget, but the special interests want to extend them to grow government bigger.”

As explained by the independent Legislative Analyst Office, over half of California’s budget is spent on education and that portion of the budget has seen a 50 percent increase in spending since Prop. 30 was enacted just a few years ago. The personal income tax provides a large portion of the State’s General Fund, followed by the sales tax and the corporate income tax.

High-wage earners, as well as thousands of small businesses that pay under the personal income tax, will continue paying an extra 1 percent, 2 percent or 3 percent tax on their income for an additional 12 years. The ballot measure also creates a formula to provide additional funds to the Medi‐Cal program from the 2018‐19 state fiscal year through 2030‐31. Although included in Prop. 30, this ballot measure does not extend the expiring sales tax increase of a quarter percent.

While the proponents repeatedly claimed that Prop. 55 continues a tax on “millionaires,” that clearly is not the case. Many small businesses that gross or net less than 1 million dollars will be impacted, as well as individuals making $263,000 or more, hardly the definition of a millionaire. At least a quarter of personal income tax revenue in California is generated by small businesses (i.e., sole proprietorships, LLCs, Subchapter S corporations, etc.). Some have estimated that over 80 percent of small businesses pay under the PIT Law.

To make matters worse, Prop. 55 taxes capital gains as ordinary income. With the continued volatility of the global and domestic stock markets, California will likely see big increases and decreases of PIT receipts with the drops and bumps of those stock markets. Moreover, with over $3 billion in the state budget reserves, some have questioned the need to extend the tax increases under Prop. 30 until they expire in 2018.

Prop. 55 extends the following income tax brackets, the highest marginal rates in the nation:

For individual filers (double the figures for joint filers):

  • Over $263,000 – 10.3% tax rate
  • Over $316,000 – 11.3% tax rate
  • Over $526,000 – 12.3% tax rate
  • Over $1,000,000 – 13.3% tax rate (includes 1% surcharge for mental health)

As a result of the enactment of Prop. 55, thousands of individuals and small businesses will be saddled with additional taxes over the next dozen years and California will continue to have the highest base rates in the nation for those paying taxes under the state’s personal income tax law. While a highly progressive tax system is desired by some interest groups in California, the current rates are at such a level that some believe they are fundamentally unfair and result (along with the highest federal income tax bracket) in more than 50 percent of income being taxed by the state and federal governments.

Chris Micheli is an attorney and legislative advocate with the Sacramento governmental relations firm of Aprea & Micheli. 

Proposition 55 — Impressive Distortions, Unimpressive Policy

If there was a convincing case for a law, making it would not require distortions. Consequently, when arguments involve multiple misrepresentations, the likelihood of good policy, rather than a means to pick pockets, is minuscule.

Proposition 55 demonstrates this. It would extend explicitly temporary income tax hikes Proposition 30 imposed on California’s highest income earners in 2012 (to the highest rates in America), for a budgetary emergency, from 2018 to 2030.

prop-55The voter guide’s pro-55 argument offers little but distortions. It claims it “prevents billions in budget cuts,” using terms like “devastating,” by making “the wealthiest Californians continue to pay their fair share.” It asserts multiple times that it will not raise anyone’s taxes, assures voters that no one else will be affected by those taxes, and that “Under Proposition 55, all Californians’ sales taxes are reduced.”

However, no education cuts are currently planned. Proposition 30’s money pipeline continues until the 2019-2020 fiscal year. Education spending has jumped almost $25 billion (over 50 percent) since 2012, while the state budget went from a huge deficit to a sizeable surplus and a rainy day fund. No budget emergency justifies extending Proposition 30’s highly disproportionate impositions from 4 years to 16 years.

Claiming Proposition 55 would ensure that the wealthiest Californians would continue to pay their fair share is similarly distorted. Even granting that “fair share” rhetoric has real meaning, rather than offering a never-ending source of complaints so undefined opponents cannot refute them, it falls flat. If the heavily disproportionate income tax burdens before Proposition 30 were considered “fair,” the much higher burdens it temporarily imposed cannot be bootstrapped into a new, even more disproportionate standard of fairness.

Pro-55 rhetoric of providing for our children also differs from its actual effect. Much of the money will backfill underfunded pensions, increasing those teachers’ retirement security, but doing nothing for our children. With about four-fifths of education expenses teacher compensation, other funding increases will largely go to existing teachers, regardless of whether added benefits are provided to children. And cynicism is justified by teachers unions’ bare-knuckle opposition to every accountability reform that would benefit students.

The pro-55 argument asserts it does not raise anyone’s taxes. However, while it would not raise higher income earners’ tax rates from the temporarily boosted levels of Proposition 30, it boosts them from what they would have been in the absence of Proposition 55. Further, extending those tax rates a dozen years could add over $100 billion in burdens. Imposing such huge added burdens can only be dishonestly characterized as not raising anyone’s taxes.

Those not directly facing higher tax rates will also pay a price, contrary to pro-55 claims. Every restriction in supply (e.g., from producers leaving California, as documented after Proposition 30) it causes will harm everyone else through the “tax” of higher prices. This is especially problematic with many small businesses paying personal income tax rates on their business income, guaranteeing that many non-wealthy Californians will leave or face much higher taxes for years.

While Proposition 55 backers portray a huge income tax boost as nonexistent, they do the converse for sales taxes. They say, “Under Proposition 55 all Californians’ sales tax are reduced,’ and further claim it as economic stimulus. But in fact, under Proposition 30, the sales tax rate will fall back to its earlier level anyway. Whether Proposition 55 passes or fails changes nothing, but backers pretend it does.

Pro-55 interests misrepresent the education budget situation, supposedly “fair” tax shares and who gains. They assert a huge increase in tax burdens does not raise anyone’s taxes, while crediting a tax reduction that will happen anyway to Proposition 55. Cramming all that disinformation, and more, into the heavily-funded pro-55 campaign, while keeping straight faces, is an impressive feat. But going to such overwhelming lengths to deceive voters is not an impressive reason to vote for it.

Gary M. Galles is a professor of economics at Pepperdine University, a research fellow at the Independent Institute, adjunct scholar at the Ludwig von Mises Institute, and member of the FEE faculty network. His books include Apostle of Peace (2013), Faulty Premises, Faulty Policies (2014) and Lines of Liberty (2016).