January 2002

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Daniel Weintraub is a columnist for the Sacramento Bee. This  January 15, 2002 column is reprinted with permission. 

Of all the facts and figures jammed into the pages of Gov. Gray Davis' proposed budget, one chart jumps out for the way it illustrates the predicament that Davis, the Legislature and all Californians face in the months and years ahead.

On page 103 of the governor's Budget Summary is a graph that shows how much of the state's personal income tax revenue comes from people reporting various amounts of income.

The picture provides a stark reminder to insiders who have been following the budget story, and an education to those just tuning in: California's public finances are very, very dependent on the state's wealthiest residents.

The chart shows that while people reporting adjusted incomes of up to $50,000 for 1999 accounted for about 70 percent of all tax returns, they paid less than 8 percent of all income tax. Middle income folks making between $50,000 and $100,000 accounted for another 20 percent of taxpayers and paid about 18 percent of the tax.

But taxpayers reporting income of more than $100,000 paid 75 percent of the state's personal income tax – though they accounted for just 10 percent of all returns.

This is a clear graphical representation of California's highly progressive income tax system, which exempts almost all families earning less than $35,000 from taxation and slaps a 9.3 percent top rate on the filers with the highest incomes.

The raw numbers behind that graph, while not published in the budget book, are equally stunning. They show that the top 1.3 million of the state's 13 million taxpayers paid $24.6 billion in taxes. At the very top of the income scale, people reporting incomes of more than $1 million – there were 32,000 of them – paid taxes totaling $10.2 billion. Put another way, individuals and couples representing just one-quarter of 1 percent of all tax returns paid nearly one-third of the personal income tax the state collected that year.

The message here is not that we should feel sorry for the wealthiest Californians. It's that we should hope they stay wealthy, and Californians. Because if they get sick, economically speaking, or move, all the services they pay for – from public schools to health and welfare programs for the poor, and environmental protection – will suffer along with them.

The sad fact is that 1,000 laborers could lose their jobs and the state budget would hardly notice they were gone from the taxpaying rolls. But lose one dot-com millionaire and the budget takes a serious hit.

To some extent, that's already happened. As the stock market soared in the late 1990s, the taxes paid by high-income Californians fueled a big run-up in state spending. When the stock market slumped, so did those top incomes, and the taxes that came with them. That's why state officials are expecting the biggest one-year drop in tax receipts since World War II.

What does all this mean for state policy? For one thing, the governor and the Legislature need to pay more heed to this volatility. When the next boom begins, they would be wise to set aside a larger portion of the proceeds to prepare for the inevitable downturn.

One way to do this is to create a special budget reserve with new rules to make it hard to tap except when the economy slows. But banking tax money is a politically difficult chore. Too many interest groups and voters benefit when lawmakers spend it. A more realistic option might be to establish a formal, pay-as-you go infrastructure fund into which the state deposits all tax proceeds above a certain annual growth level. The money would be used to rebuild California's schools, roads, parks and water systems for the 21st century, helping the state's economy without growing the underlying budget for programs and services.

The other policy issue to note is that "soak the rich" proposals to raise taxes further on the wealthy are exceedingly risky. Many states have no income tax at all. One of them, Nevada, is right next door. It isn't difficult for a person of means to arrange to have a residence in Nevada and one in California, and escape paying taxes here altogether. If only a few thousand very wealthy people do that, the state could lose billions.

At this point, the wiser strategy might be to acknowledge California's entrepreneurs for underwriting a huge portion of the services we all receive. Adopt your local millionaires. They're paying for our kids' educations.