Advancing a Free Society

California’s Infernal Revenue Service

Thursday, January 12, 2012

Eons ago, when I wrote speeches for a California governor, there was a pattern to how we made news in early January. Early in the week, the governor would give his State of the State address, laying out his policy aspirations. A couple of days later came his budget proposal, listing his fiscal priorities.

Dreams first, reality second.

Leave it to the quizzical, mercurial Jerry Brown to do just the opposite.

Last week, California’s past and present governor unveiled his 2012-13 state budget. Supposedly, it was accidentally posted on line four days earlier than planned, thus the “surprise” rollout.

Maybe that’s the truth. The cynic in me suggests it’s also a clever way to get a running start on a bad-news budget and elevate the governor’s argument for a voter-approved tax increase this fall – Brown wants to raise sales and income tax – to spare California’s schools from the budget axe (not unlike the old National Lampoon cover showing a gun aimed at a pooch’s head: “If You Don’t Buy This Magazine, We’ll Kill This Dog”).

Brown won’t be that dismissive or satirical when he delivers his State of the State address next Wednesday. What he will be is largely invisible to most Californians, giving the big speech at 10 a.m., which pretty much banishes his remarks to the viewing worlds of computers and smart phones.

Brown could have tried for a few minutes after 6 p.m., to crash tv's local news block. That he didn’t tells you it’s most likely a nothing burger of a speech – a rehash of what he said at his budget press conference, which was in effect a longwinded ransom note.

Far more interesting than a gubernatorial speech would be a gubernatorial debate – between Brown and Mac Taylor, the state’s Legislative Analyst. Taylor’s office has concluded that California will collect $5 billion less in revenue than Brown’s plugged into his $92.5 billion budget (here’s the LAO’s complete analysis). Keep in mind: his office is nonpartisan.

Who’s using the better set of number? We won’t know for another four months, when the state’s Department of Finance releases its “May Revise” of the state budget, reflecting actual tax revenue, not January projections.

In the meantime, here’s what we do know about the Golden State’ sickly finances:

1) California’s Over-Reliance on Millionaires. The Brown budget estimates $56 billion in personal income vs. the LAO's guess of $3 billion less. 40% of that will come from the top 1% of income earners. The good news for state budgeters: there’s a growing number of California millionaires to tax: 13,000 seven-figure earners in 2010 vs. 10,000 the year before (dollar-wise, that’s about an extra $7 billion the state gets to tax). The bad news: they’re in the left’s crosshairs. Welcome to a fairness debate that will mirror the larger debate aboutwealth and capitalism that’s occurring at the national level. In California, 2012 is shaping up at the year of the great tax debate, with various initiatives that would raise the rate on millionaires from 9.3% to 10.3% (Kim Kardashian as the face of excess in at least one of those efforts). California’s not the first state to have this discussion. Here’s a study that looks at how the “millionaire tax” policy played out in New Jersey, and how it might impact California.

2) California’s Over-Reliance on the Dow and NASDAQ. Brown’s budget assumes Californians will earn $96 billion in capital gains in the coming year – triple the return of 2009 (the trough of the recession) – with the state collecting about $8.6 billion (California’s capital gains rate being 9.3%). The problem is: it’s not a reliable revenue stream – like planning on what you’ll have for supper based on how many winning lottery tickets you have that day. The reality of budgeting via the last few years’ boom-and-bust cycle: capital-gains tax revenue, as a percentage of California’s General Fund, fell from 12% to 3% from 2007 and 2009, costing the state more than $9 billion in revenue (almost one-tenth of General Fund revenue).

3) California’s Over-Reliance on President Obama. Adding more confusion to the revenue outlook: the governor’s budget figures that the Bush tax cuts will expire in 2012, as they’re currently scheduled to do; the Legislative Analyst is betting on them being extended (here’s how it would affect various parts of the economy). Obama caved to Republicans the last time the Bush tax cuts were set to expire, extending them two years to the current December 2012 deadline. Then again, that was a President trying to find his footing after a midterm-election drubbing. By year's end, Obama will be either (a) a winner just handed a second term, or (b) a lame duck preparing to head back to Chicago. In other words, who knows what the Washington landscape will resemble by then?

4) California’s Over-Reliance on Mark Zuckerberg. It’s not just Bay Area realtors and luxury-car dealerships that eagerly await the Facebook IPO, which is being hyped as the mother of all public offerings. If the “accidental billionaires” do indeed take the social network public in 2012 – issuing, say, $10 billion in stock – Sacramento gets a nice chunk of change in the form of the state’s capital gains tax. Call it the “Google effect”. That company went public in August 2004 (19.6 million shares for $1.67 billion). Two year later, 16 very fortunate souls cashed in more than 9 million GOOG shares valued, at the time, at $3.7 billion. That meant a $380 million windfall for the state’s coffers – $380 million enough to cover the salaries of roughly 5,600 California schoolteachers (average salary: $67,871).

The surest number to count on: one -- as in one very bad way for a state to do its financial planning.