​(February 22, 2012) California voters may face as many as three ballot measures this November that increase income taxes. Although a serious debate is underway over whether California’s chronic budget deficit should be solved in part through temporary tax increases—and also whether public schools and other programs should see their funding restored and increased—most independent observers believe that the presence of more than one tax increase on the ballot would lead to voter confusion and defeat of all such proposals.

Described in more detail below are measures by:

• Governor Edmund G. Brown Jr., who proposes a short-term income and sales tax increase to resolve the state’s chronic deficit; 
• philanthropist Molly Munger, who proposes a12-year income tax increase aimed at supplementing existing education funding; and 
• two radical government employee unions, which propose a permanent, confiscatory income tax increase aimed at high-income taxpayers.

Background

California policy makers have struggled with chronic fiscal troubles for the better part of the past decade. Much of the problem has been self-inflicted—spending one-time revenues on ongoing programs, papering-over deficits, and generally refusing to exercise long-term fiscal discipline. These habits were exacerbated by the effects of the recession, which persist to this day.

Two previous attempts by Governor Arnold Schwarzenegger to buy time to bring spending in line with revenues failed.

• In 2004, the Governor gained voter approval for a $15 billion general obligation “deficit” bond, but the Legislature failed to control spending. 
• In 2009, in the teeth of the recession, Governor Schwarzenegger and the Legislature agreed on a two-year, broad-based tax increase, but the depth of the recession and lack of long-term spending cuts overwhelmed that effort.

Governor Brown entered office in 2011 with a singular focus to solve the state’s budget woes. He also promised in his gubernatorial campaign to not raise taxes without the approval of California voters.

Governor Brown found mixed success in 2011. He gained approval of an on-time budget (abetted by a new constitutional provision that a budget need only a majority legislative vote for passage), which included about $10 billion in spending cuts, many of them ongoing. This has reduced the state’s structural budget deficit.

But Governor Brown’s attempt to place before the people a proposal to extend the then-existing tax increases for another four years fell short. Republicans refused to place such a measure on the ballot without accompanying economic and public pension reforms, and Democrats refused to consider such reforms in return for merely the prospect of placing the question before the voters.

The government employee unions were extremely skeptical that an extension of sales taxes, car taxes and income taxes could ever pass a vote of the people.

Governor’s Proposal

The Governor estimates the existing budget deficit, for this fiscal year and next, at about $9 billion. He proposes to achieve a balanced budget with a mix of further spending cuts, primarily in health and social services, child care and local government assistance, and with a temporary tax increase.

Should these measures be implemented, according to the Governor, the budget would be balanced, education programs would be fully funded, and prior budgetary debt would be repaid over the next five years.

Should his tax proposal fail, he would implement automatic spending cuts in K-12 and higher education, courts and public safety programs.

The chart above shows the recent trend in K-12 spending since before the beginning of the recession. Even if the tax increases are approved, per-pupil funding would fall slightly, although some of the past accounting gimmicks that undermined school budgets would be reversed.

Income Tax Hike

The Governor proposes to increase income tax rates for high earners for five years. The increases would apply as follows:

• For incomes greater than $250,000 (single) and $500,000 (joint), increase the top marginal rate from 9.3% to 10.3%. 
• For incomes greater than $300,000 (single) and $600,000 (joint), increase the top marginal rate from 9.3% to 10.8%. 
• For incomes greater than $500,000 (single) and $1 million (joint), increase the top marginal rate from 9.3% to 11.3%. The existing 1% surcharge on millionaires for mental health programs is separate from and in addition to this increase.

The rate increases would be in effect for five years, beginning in tax year 2012, through 2016. This means that should voters approve the measure in November, the income tax hikes would be retroactive to January 2012.

Sales Tax Hike

Somewhat offsetting the political allure of “taxing the rich,” the Governor’s package also includes a four-year, half-cent increase in sales taxes. Although this tax is less popular with voters, the Governor needed the revenues to make his budget numbers, and apparently believes he could not reasonably raise income tax rates any higher, certainly without incurring major opposition from business and high-wealth individuals.

The sales tax hike would take effect in January 2013 and continue through December 2016.

According to the Department of Finance, the taxes will together raise up to $7 billion a year, for a total of $31 billion. (The Legislative Analyst believes the income tax will raise substantially less money, based on his belief that capital gains and bonus income will be less robust over the medium term.)

The magnitude of Governor Brown’s tax increase is less than the temporary tax increase adopted by the Legislature and Governor Schwarzenegger in 2009, on an annual basis, but is for a longer term.

Other Income Tax Proposals

Not satisfied with the Governor’s tax proposal, and perhaps sensing an opportunity to appeal to a heavy voter turnout for a presidential election, others have put two additional income tax proposals in circulation, both with the expressed aim to benefit schools.

Munger Initiative

The “Our Children, Our Future” measure is sponsored by Molly Munger, a Southern California civil rights attorney and daughter of Charles Munger, who is vice chairman of Berkshire Hathaway.

Ms. Munger has to date provided $900,000 for ballot measure qualification, although she has not yet begun signature gathering because the measure is awaiting title and summary. She has so far resisted pressure from the Brown administration and others to drop her measure.

Ms. Munger’s initiative would raise income taxes by at least $10 billion annually for 12 years beginning in 2013. Key provisions include:

• Across-the-board increases in the income tax, hitting single filers with taxable incomes as low as $17,500, with escalating rates on higher brackets. For example, joint filers with more than $100,000 in taxable income would see a 1.6% additional marginal rate, while joint filers with more than $1 million in taxable income would see a two percentage point marginal rate increase. 
• Her preferred version of the measure would dedicate approximately $3 billion a year, through 2016–17, to the state General Fund to help balance the budget and restore the state’s fiscal balance. The remaining $7 billion would be used to augment K-12 and early childhood education. 
• Beginning 2017–18, almost all revenues would be dedicated to K-12 and Early Childhood Education programs. To the extent the new tax revenues grow faster than the growth in state per capita personal income, however, the excess would be allocated to the state General Fund. 
• Her stated intent is that all revenues collected by this measure would be in addition to the Proposition 98 guarantee, which means that the state would be obligated to finance schools out of the General Fund to meet the guarantee—in good years or bad (unless the requirements were suspended by the Legislature). However, since her measure is a statutory initiative, she may not be able to avoid the constitutional mandate that her revenues count toward the school funding obligation. This means that schools would not only receive all the money raised by the new taxes, but would also be entitled to additional General Fund spending from other state revenues. 
• Under most circumstances, the new money could not be used to provide salary or benefit increases for existing school employees. 
• The measure does not include any reforms to school personnel or financial practices, nor does it strengthen any of the existing teacher and school accountability measures.
• By 2025, schools will be receiving at least $15 billion to $20 billion in supplemental revenues from this tax, which would make its automatic expiration that year extremely problematic.

Union-Sponsored Initiative

The “Millionaire’s Tax to Restore Funding” is sponsored by the California Federation of Teachers, the California Nurses Association and several liberal activist groups. They are collecting signatures to qualify the initiative for the November ballot.

This measure would raise income taxes permanently by about $4 billion to $6 billion annually. Key provisions include:

• A surcharge of three percentage points on taxable incomes between $1 million and $2 million, and of five points on taxable incomes above $2 million (raising the top rates from 10.3% to 13.3% and 15.3%, respectively). 
• As with the current 1% surcharge for mental health programs, this surcharge would be the same for single, joint and head-of-household taxpayers, and would not be indexed for inflation. 

• Proceeds would be distributed as follows: 
• K-12 schools, 36%; 
• University of California and California State University, 8% each; 
• Community colleges, 8%; 
• County safety net programs, 25%; 
• County public safety programs, 10%; 
• County road and bridge maintenance, 4.9%; 
• State administrative overhead, 0.1%
  
• Within these categories, the Legislature could set conditions on how the funds could be spent. 
• All the new taxes would be subject to the Proposition 98 formula, which means that K-14 education would probably benefit even more as the business cycle drives up state revenues. 
• Not surprisingly, no programmatic reforms are included in this measure.

The top 1% of income earners already pay 40% of the personal income tax.

Contact: Loren Kaye, President,
California Foundation for Commerce and Education