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State Budget Lowers Farmers’ Taxes; Woos GOP Votes
By The Cal-Tax Staff

With a backdrop of expensive tractors and food harvesters, Governor Gray Davis walked to the podium of Tulare’s International Agri-Center and signed a package of tax cuts designed to help farmers – and help break the state budget stalemate.

The governor’s August 7 press release called AB 426 (Cardoza) a “targeted agricultural package” of $480 million in tax cuts over 10 years, and he touted it as the largest tax relief legislation in more than 30 years for the state’s agricultural industry. The budget trailer bill on taxes was part of the price Republicans demanded to provide a handful of votes needed by the governor and majority Democrats to break the budget deadlock three weeks into the fiscal year.

The tax relief was a byproduct of the Republican holdout as it was not part of the budget bill that failed passage, nor was it proposed by the governor in his May revision.

The budget-year fiscal impact of the sales tax exemption for farm equipment, diesel fuel and propane is $50 million. “This law will make us a little more competitive with other states,” the governor said. “… now farmers can work the farm without being worked over on tax day.”

On July 26, the governor signed the state’s 2001-02 budget bill (SB 739, Peace) after vetoing $554 million in spending approved by the Legislature. He said the $103.3 billion budget “hopes for the best but prepares for the worst.”

It includes a $78.763 billion general fund (primarily sales and income tax revenues) that is 1.7 percent less than last year’s $80.087 billion general fund (see below for reasons for the general fund spending drop). However, the governor, signing the budget at a Sacramento elementary school, said it “still makes major new investments in public education aimed at improving the performance of California’s schools.”

The governor said the budget was “a little late,” but called it “responsible and reliable.” It was signed 26 days into the fiscal year after the Legislature violated its constitutional deadline by about seven weeks before taking final action July 22-23. The budget presumes that some $8 billion in state tax dollars used to buy electricity since last January will be fully reimbursed from the proceeds of electricity revenue bonds.

Further spending cuts may be necessary, depending on the economy. The San Francisco Chronicle reported that the budget puts the state on a path that could lead to a nearly $4 billion deficit by June 2004. Last year’s $6.9 billion reserve has been nearly exhausted to balance this year’s budget and build up a $2.6 billion reserve, but in the next budget year, starting July 1, 2002, spending will again exceed revenues and create a $1.4 billion deficit. “The $4 billion is a minimum. It could be more,” said Assembly Republican Leader Dave Cox. “Next year, the Legislature has to slash programs because it didn’t have the courage to reduce the budget this year … which doesn’t leave much hope they’re going to have the courage next year.”

However, Governor Davis said the budget reserve and a 2002 economic recovery should suffice. “I believe the economy is going to continue to operate less than I would like and any recovery is still a year off. So we have built the largest reserve since 1978. I want to make sure that next year, California stays in the black, so we can balance the books and still meet important priorities.”

This coverage of the 2001-02 state budget is by Cal-Tax staff (David R. Doerr, Lisa Martin and Ron Roach).

“… now farmers can work the farm without being worked over on tax day.”
– Governor Davis

The governor was criticized for vetoes that cut funding for local government and community colleges. The $126 million reduction for community colleges disappointed Mr. Cox, who accused the governor of cutting education while expanding social welfare programs. “For the last two years, state spending has grown a whopping 37 percent,” he said. “Gray Davis’ irresponsible budget raises taxes and threatens to harm our already-struggling economy.”

According to the Assembly Republican Caucus analysis, community colleges are getting only a 10 percent share of Proposition 98 funding, rather than the statutory requirement of 11 percent (which was waived in a budget trailer bill).

Santa Barbara City College Superintendent/President Peter MacDougall told the Santa Barbara News-Press, “The community colleges have almost been singled out. This is probably one of the worst decisions that has been made in the time I have been here in regards to the budget.”

There were no surprises in the “tax relief” section of the budget document released by the Department of Finance, which stressed that the budget “assumes continuation of over $4 billion in recently enacted ongoing tax relief, new tax relief for agriculture, and increased tax assistance for seniors.”

The budget-year impact of new tax relief – none of it benefiting California taxpayers across the board – totals only $122 million, of which the Legislative Analyst’s Office reports $115 million affects the general fund. Major business-backed tax incentives, such as increases in the manufacturers investment tax credit (MIC) and research and development tax credit, were rejected in the Legislature or dropped by the governor. In January, the governor proposed a modest tax-relief package ($108 million) that featured a boost in the MIC and a three-day sales tax holiday for back-to-school shoppers. These plans were junked when economic winds changed along with the multi-billion-dollar impact of the energy crisis on the state’s fiscal condition.

These provisions are in the AB 426 or AB 440 (Cardoza) trailer bills:

Sales Tax Exemption for Farm and Forestry Equipment. An exemption from the state’s sales tax on farm and forestry equipment will save these agribusinesses $20.1 million in 2001-02.

Sales Tax Exemption for Diesel Fuel Used in Agriculture. Providing $18.6 million in tax relief, sales of diesel fuel are exempt from tax when the fuel is used in the production, harvest, transportation and delivery of agricultural products to market.

Sales Tax Exemption for Liquefied Petroleum Gas (LPG). A sales tax exemption for LPG, or propane, used in rural residences and for agricultural purposes will save taxpayers $11 million in the budget year.

Senior Citizens’ Property Tax and Renters’ Tax Assistance. Assistance for low-income seniors and disabled persons will be permanently increased by 45 percent above 1999 levels, costing the state $75 million in 2001-02.

Sales Tax Exemption for Racehorse Breeding Stock. Exempting racehorse breeding stock from the state’s sales tax will result in a $1.3 million revenue reduction in the budget year.

Ongoing tax relief is chiefly the reduction of the state’s motor vehicle license fee (car tax) and increased income tax credits for dependents, actions that occurred over the past half-decade as the state recovered from the deep recession to enjoy huge windfalls of revenue.

The budget bill finally passed both houses of the Legislature after majority Democrats, who needed a handful of Republican votes for two-thirds majorities in each house, agreed to a number of changes. These include:

Sales Tax Trigger. The agreement in AB 426 revises the formula that triggers a 0.25 percent sales tax rate reduction (amounting to about $1 billion a year). The test will be over a one-year period, instead of two years. The 1991 law reduced the tax this year because the budget reserve exceeded 4 percent in back-to-back years. The new formula reduces the threshold to 3 percent of estimated current year revenues, with an additional requirement that actual general fund revenues for May through September match or exceed the May Revision forecast.

The trigger is not expected to be pulled based on current economic projections and the size of the reserve ($2.6 billion) in the 2001-02 budget, so the state sales tax will automatically increase to 5 percent on January 1.

Gasoline Sales Tax. The agreement includes passage of ACA 4 (Dutra), which allows voters next March to decide whether the state sales tax on gasoline should be dedicated to transportation projects. The budget deal makes more than $2 billion in gasoline sales tax revenue available for general government expenses by deferring the dedication for two years.

The tax package grew to $122 million with items important to farmers and their legislators. Keith Nilmeier, a grape and citrus grower near Sanger, told the Sacramento Bee that the tax relief “is not going to fix it, but it’s a step in the right direction in saving our agricultural economy. There are hardly any kids going into the dirt anymore, and the current economy is driving a ton of the old guys out of business.”

Democrats twisted Republican arms by loading up the budget with the above tax breaks and other goodies for their constituents, reviving tax proposals that had otherwise been held up in Democrat-controlled policy or fiscal committees. After the augmentations to secure the necessary Republican votes, the size of the general fund budget increased by $173 million over what the Democratic majority approved as the budget conference committee report. The following table illustrates the changes in the general fund spending plan:

Other budget issues:

Education. Governor Davis stressed that Proposition 98 education spending for K-12 is up 5.9 percent over the past year, to $45.4 billion, with a $324 per-pupil increase, from $6,678 in 2000-01 to $7,002 in 2001-02. (Editor’s note: This is not just state money. Anticipated county property tax increases are included in this total.)

The budget also reflects energy costs, particularly in education. It provides a one-time $250 million to help K-12 schools pay higher electricity bills. The energy cost supplement for community colleges and universities amounts to $158.7 million.

University of California and California State University student fee increases are avoided for the seventh consecutive year, costing the general fund $38.1 million.

Caltrans: Contracting Out. The governor sustained funding for design, environmental, construction management, and other project delivery services at the Department of Transportation, allowing unexpended funds to be used for contracting out architectural and engineering services. “It is my intent that Caltrans use the funding provided for the 315 positions added by the Legislature in whatever manner is necessary to ensure that design services are timely and projects are not delayed,” the governor wrote.

Childhood Lead Poison Prevention Program. This program, which has been funded by controversial fees imposed on manufacturers of products containing lead, is $5.3 million out of balance, the governor noted. However, he vetoed a $2 million legislative augmentation while directing the Department of Health Services to submit a plan to operate the program within available resources. Otherwise, the fund will be depleted during 2002-03, he said.

Hidden Taxes and Fees? According to the Senate Republican Caucus, the budget taxes employers so that welfare recipients can be trained. Employers had agreed to pay a tax until January 1, 2002 to retrain employees and defray unemployment costs. The Republicans said Democrats “plan to siphon $61.7 million from these employer collections to provide employment services to welfare recipients who are not employed by these taxpayers.” It also is the Democrats’ plan to delete the sunset on the tax.

Industry Inspection Fees. Senate Republicans also complained that the budget continues to over-charge industry inspection fees, resulting in excessive fund balances. The Cal-OSHA Targeted Inspection Fund, for example, has an “excess balance of over $12 million which would be returned to fee payers in the form of a fee cut,” the GOP Caucus said, accusing Democrats of wanting to increase the bureaucracy to spend the money.

Tax Protest Cases. The budget includes a provision requiring the Franchise Tax Board to provide annual reports through 2006 to the Legislature on its current tax assessment protest process, including time frames for each phase of the process. The report is to include explanations for delays that exceed time frames of each phase. State Board of Equalization Member Dean Andal, citing the FTB’s own data, has said that timely handling of protest cases would result in substantial revenue to the general fund because potential assessments totaling $1 billion are sitting uncollected in a bureaucratic black hole.

Pork. The budget, even after the governor’s vetoes, included millions of dollars in district projects, called pork. But the Aleutian Goose Festival didn’t make it through the process for the fourth time. Democratic Assembly Member Virginia Strom-Martin’s request for $100,000 for the Crescent City event was ridiculed by Republicans as a prime example of excessive spending in a tight fiscal year. Assembly Member Ken Maddox, a Republican, wrote a poem about how “fowl” it was for state taxpayers to underwrite the festival that started in 1999 to celebrate the rebound of the once-endangered species. Supporters said the $100,000 would be a good investment in economic development for the North Coast. The governor also vetoed a request from Mr. Maddox for $25,000 for a new Gem Theater marquee in Garden Grove. Did Minority Leader Cox get a nickel for district pork? Nope. But Anthony Pescetti, one of four Republicans to vote for the budget in the Assembly, needed a wheelbarrow to take cash to his constituents for new stadium lights, bike trails, senior centers and police department buildings.

Phantom Positions. The budget eliminates 54.6 vacant positions in the state Controller’s Office, but, according to the Republican analysis, the administration refused to eliminate any of the 9,800 other phantom positions that were documented and verified only with assistance of the state controller.

UC-Merced Campus: A Pork Barrel. Sacramento Bee columnist Dan Walters wrote that “while Davis was slashing badly needed community college money – citing the need to save money in a softening economy – he continued to pour money into a University of California campus near Merced that will, at most, serve a few thousand students and more resembles a barrel of pork than an educational institution.” The budget contains $160.4 million for site development, a library and laboratories. The campus is in a rural area of Merced County, but not far from an existing small state university campus in Turlock.

Where Did the Cuts Come From? With increased spending in a number of areas, where did the overall $1.3 billion reduction in general fund spending come from? According to the Assembly GOP analysis, the $1.3 billion cut masks the fact that spending for ongoing general fund programs has increased by almost 5 percent. The reasons for this are:

• Expenditures in 2001-02 are artificially reduced by $402 million by shifting costs of health programs to the new Tobacco Settlement Fund.
   
• Last year’s budget included $5.5 billion in one-time expenditures. There are only about $1.2 billion in one-time expenditures in this year’s spending plan.

The budget for the Resources Agency was cut from 2000-01 levels by $1.2 billion (a 50 percent cut). Other significant cuts came in the Business, Transportation and Housing Agency budget, down by $1.9 billion (a 78 percent cut), and in the General Government budget, down by $2.9 billion (a 44 percent cut). Some of the cuts were the elimination of vacant positions. The budget also eliminates a year earlier the planned program that reimburses homebuyers and developers for school facility fees paid, saving $128 million. The $250 million in general purpose relief for cities and counties was also given the axe.

Theft of Emergency Phone Number Funds. The Davis administration is under fire for its $50 million raid on funds in the “911” Emergency Telephone Number Account to balance the budget, according to the Los Angeles Times. The paper on August 4 reported that the shift of 70 percent of the program’s reserve funds to balance the budget “set off a wave of anger and alarm among 911-related groups, who have spent years gearing up for a federally mandated upgrade that would allow emergency crews to locate 911 callers on cellular phones.”

The program to allow tracking the location of mobile phone callers is expected to cost $115 million over three years. “We’re outraged,” said Rex Martin, director of San Francisco’s Emergency Communications Department. “To have this reserve fund gutted by even $50 million could effect plans for the second and third year (implementation) because there’s no guarantee that the money is going to be there.” Senator Jim Brulte said, “This is just a pure theft of the account and puts the public safety at risk.” Cal-Tax President Larry McCarthy said that taxpayers who have been paying the tax for years and expect to have the funds used for the 911 program have a legitimate grievance due to this action.

Others who voiced their displeasure, according to The Times, include San Francisco Mayor Willie Brown, the American Heart Association, the California Fire Chiefs Association, and the California Ambulance Association.

The budget requires the Department of General Services to provide a report to the Legislature by March 1 that analyzes the appropriateness of 911 surcharges to California phone subscribers. The analysis is to consider the growing number of cellular phone subscribers and the need to maintain an adequate Emergency Telephone Number Account and recommend surcharge adjustments that achieve a recommended level of reserve in the fund.