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California Democrats and Republicans battle over tax breaks and job creation

by Greg Lucas, published

The rhetorical war over passage of a state budget, which the constitution says the Legislature should have approved by June 15, centers on taxes. 

Democrats want to use $4.2 billion in revenue to help close a $17.9 billion cash shortfall. They back continuing for two years some tax increases from the budget signed in February 2009 and postponing the effective date of new tax law changes favoring business that were approved at the same time. 

Republicans, including Gov. Arnold Schwarzenegger, refuse to back any spending plan containing what they define as tax increases, which includes extending the life of temporary taxes approved last year and postponing the start date for new business tax benefits. 

But, while the issue of taxes may divide the two parties, all participants in budget negotiations sound almost indistinguishable on the importance of job creation.  In January, the GOP governor said in his State of the State speech he would propose a $500 million package to “train up to 140,000 workers and help create 100,000 jobs.” 

Announcing their spending plan in May, Assembly Democrats dubbed it the “California Jobs Budget,” claiming it would “protect and create 465,000 jobs in the private sector and local communities while also protecting funding for schools, public safety, and a basic safety net,” said Assembly Speaker John Perez, a Los Angeles Democrat, in a statement. 

On June 30, Perez told the Los Angeles Times: "This budget could create a worse unemployment rate if we adopt all the cuts the governor has outlined.”  Senate Democrats introduced a 27-bill package in February they claim creates at least 140,000 jobs. 

“I have been through enough budgets to know that the only way to increase and sustain the tax base is to create high wage jobs,” Senate President Pro Tempore Darrell Steinberg, a Sacramento Democrat, said in announcing the legislation.  “Of course, the entire country is talking about job creation, but its importance can't be overstated in California. There is no more important barometer of economic struggle and family suffering than a 12.4 percent unemployment rate.” 

Schwarzenegger’s job creation plan has gained little legislative traction.  The Assembly budget plan is unlikely to win legislative approval. An opinion by Attorney General Jerry Brown, the Democratic candidate for governor, says it could be illegal to borrow $10 billion through the means proposed in the plan. 

Senate Democrats also object to the Assembly plan because it is a one-time fix that offers no help in balancing budgets in following years.  Some Senate “jobs” measures have been signed into law. But even if all 27 measures were approved -- accepting at face-value 140,000 jobs would be created – that represents .008 percent of California’s 16 million-person workforce and .06 percent of the state’s 2.3 million jobless. 

Republicans say, correctly, that the state’s fiscal woes are a function of California’s stalled economy.  If more Californians were working and the economy growing, much of the gap between state revenues and spending commitments would close.  They, however, characterize Democratic job creation efforts as pump priming similar to the soon-to-expire federal stimulus dollars in which taxpayer money is used to preserve public sector jobs. 

“Private sector spending, not government spending, will drive California’s economic recovery,” said Senate GOP Leader Dennis Hollingsworth of Murietta in a recent radio address.  “If we can give job creators assurances that they won’t be buried by new taxes, bloated government or new job-killing rules then individuals and businesses will invest in California, hire new workers, start new businesses and expand existing ones.” 

Now advocates of one of the tax breaks Democrats want to postpone for two years are getting into the job creation act.  One of the costlier tax breaks included in the February 2009 budget is a change in the formula for determining California taxable income of businesses that also operated in other states.  Currently, the formula California uses is comparable to that of 33 of the 46 states that have a corporate income tax. Taxes that multi-state businesses pay are based on a combination of the sales, property and payroll located in each individual state. 

Different states weigh the three factors differently. California has a “double-weighted” sales factor, which means sales account for 50 percent of the company’s taxable California income while property and payroll represent 25 percent.  In order to give Democrats enough votes to reach a two-thirds majority on last year’s budget, Republicans insisted that companies be given the choice of either basing their taxes on sales alone or the mix of the three current criteria. 

The change in law is to take effect in 2011 and will cost the state $900 million annually by the fiscal year beginning July 1, 2012 when it’s fully phased in.  Among the supporters of the change in law are Silicon Valley companies, biotech firms, drug makers and media conglomerates like Time Warner and Walt Disney. 

Proposition 24, bankrolled largely by the California Teachers Association, would repeal the tax break, rather than postponing its tax change’s effective date. The constitution guarantees public schools at least 40 cents of every $1 flowing into the state general fund.  “Save Our Schools: Close Corporate Tax Loopholes!,” the website of the proposition’s supporters trumpets

Opponents, comprised largely of companies who would benefit from the change in tax law, call the proposition a ‘jobs tax” on their website.  Also to be found on the opponents’ website is a study by Charles W. Swenson, a Marshall School Business professor at the University of Southern California.  Commissioned by a group called California Competes, which includes many of the beneficiaries of the change in tax law, the study concludes that basing the taxes a company pays in California solely on in-state sales would create 144,000 new jobs and increase state revenue by $411 million. 

Such a shift in tax calculation will “stimulate business and industrial growth in the state as measured by increased employment, help attract business into the state, help retain and expand business and industry and create increased job opportunities for all Californians,” Swenson concludes. 

Schwarzenegger, who proposed postponing implementation of the move to what’s called a “single sales factor” in his January budget if California didn’t receive enough federal money to close its cash shortfall, abandoned the idea in his revised budget in May.  Now, he’s a supporter of keeping the law as is. 

“As budget negotiations move forward, it is vital that the Legislature continues to recognize the importance of the economic stimulus measures adopted last year because California’s private sector is the key to our economic recovery,” Schwarzenegger said in a statement when the study was released.  “The single sales factor makes it easier to do business in California and will play an integral role in encouraging companies to locate, invest, create jobs and generate revenue right here in California.” 

What’s unclear, however, is whether Swenson’s study is based on the decision to use a single-sales factor being elective, as the law passed last February allows.  Nowhere in the study’s six-page executive summary is the word “elective” used – only the phrase “switching to a single sales factor.” 

A May assessment of the law change by the Legislative Analyst concludes that allowing a choice between single sales and double-weighted sales “arbitrarily favors firms with disproportionately high or low California sales relative to property and payroll.” 

Being able to switch formulas from year to year depending on whether they have a net profit or loss means those companies would pay less taxes than a multistate business with a more even division betweens sales, property and payroll, and businesses that operate only in California, the analyst says. 

The analyst concludes, as Swenson does, that switching to a single sales factor has economic benefits for the state but recommends making it mandatory, not elective.  But, as Senate Democrats propose, the analyst recommends pushing off implementation for two years given the state’s cash-poor fiscal condition.


Editor's note:  For more information on how the "single-sales factor" works, read the Legislative Analyst's report here.

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